Best Financial Markets Analysis Article The Bank of England cut UK interest rates earlier today by 0.5% to 1.5%, the lowest that the base rate has been in the BoE's 315 year history. The series of rate cuts are a belated panic response to the UK economy plunging over the edge of a cliff that looks set to endure GDP contraction of 3% this year which is worse than any 12 month period since World War 2. Sterling rallied from near record lows against the Euro buoyed by a less than expected cut as many market commentators had expected rates to be cut by 1% today.

The interest rate cut of 0.5% for January is inline with my forecast for interest rates to target a fall to 1% by mid 2009 as the above graph illustrates. However given the deteriorating state of the UK economy there is a risk that rates could overshoot to the downside during mid 2009 by falling below 1%. As the credit markets have frozen the real economic rate has become far less responsive to base rate cuts, therefore the latest cut is expected to make very little difference to the severity of the recession, thus the buzz word for 2009 is "Quantative Easing" which basically means printing money, the consequences of which will be much higher inflation as we come out of economic contraction.

I have avoided referring to the Bank of England's accompanying statement due to the fact that it is basically meaningless drivel that seeks to put the blame of failure to regulate the banking sector and manage UK monetary policy competently onto the backs of "global forces". Unfortunately the government has proved just as incompetent in its handling of the crisis, which includes the £20 billion or so flushed down the toilet in the form of the 2.5% cut in VAT that has had NO EFFECT on the high street. Not to mention the £600 billion of liabilities of the banking sector which rivals the official public sector debt of £600 billion and hence contributed to sterling's recent 30% crash.

The UK economy is heading for real deflation as the UK inflation forecast for 2009 concluded, with the RPI measure is expected to go negative and target -1.2% by July 2009.

Deflation is already evident in the high street as the debt fueled long consumer boom has come to an end and claims major high street names each week, with last of Woolworth stores having closed earlier this week.

UK house prices continued to crash lower, with the latest data from the Halifax showing average house prices falling by £4,400 in December. The house price data is inline (-0.5% deviation) with the recently updated house price forecast that covers the trend into 2012 that projects for a total drop from peak to trough of 38%, with a 16% drop in house prices targeted for 2009 to be followed by a sustained depression for several years thereafter as the below graph illustrates.

UK house price forecast

My next newsletter will cover analysis of the major investment trends for financial markets for 2009. To receive this on the date of publication subscribe to my always free newsletter.

By Nadeem Walayat
http://www.marketoracle.co.uk

Nadeem Walayat has over 20 years experience of trading derivatives, portfolio management and analysing the financial markets, including one of few who both anticipated and Beat the 1987 Crash. Nadeem's forward looking analysis specialises on the housing market and interest rates. Nadeem is the Editor of The Market Oracle, a FREE Daily Financial Markets Analysis & Forecasting online publication. We present in-depth analysis from over 150 experienced analysts on a range of views of the probable direction of the financial markets. Thus enabling our readers to arrive at an informed opinion on future market direction. http://www.marketoracle.co.uk

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any trading losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors before engaging in any trading activities.

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