Pound Plunges as Bank of England Slashes Rates Amid Gloomy Economic Forecast

The Bank of England surprised markets by reducing its interest rate to 4.5%, its lowest level in over 18 months, causing the pound to initially plunge by more than 1.1% against the dollar. Although the currency recovered slightly by the end of trading, falling just 0.06% to $1.244 and 0.3% to €1.199, the move underscored serious concerns about the UK economy. The Monetary Policy Committee, with a 7-2 majority, even had dissenters advocating for a further reduction to 4.25%, emphasizing the gravity of the economic conditions.

The policy decision came alongside a revision of the economic growth forecast for 2025, which was halved amid expectations of a surge in inflation. The Bank forecasted that the UK’s economic growth would slow to 0.75% this year, compared to an earlier estimate of 1.5%, and predicted that inflation would peak at 3.7% this summer before easing gradually. Analysts attributed the inflationary pressures to higher energy prices, along with increased water bills and bus fares.

While the gloomy economic predictions dominated, Bank of England Governor Andrew Bailey reiterated the commitment to further rate cuts throughout the year, a move that helped push the FTSE 100 to a record high during trading. However, some economists cautioned that the apparent market recovery might be misleading. They pointed out that a weaker sterling could have boosted the value of overseas earnings for major companies, masking the true performance of the index which included many firms with substantial international revenues, unlike smaller companies more reliant on domestic earnings.

The market sentiment was mixed as investors celebrated the potential for additional rate cuts, despite clear warnings of subdued domestic growth and escalating living costs. Public figures, including Sir Keir Starmer, noted that the interest rate reduction would provide more disposable income, but alongside this benefit, concerns were mounting about increasing unemployment in the wake of recent tax and wage hikes highlighted in the October Budget. The Bank's new forecast even raised the projected peak unemployment rate to 4.75%, amid a backdrop of a significant tax increase package announced the previous year.

Looking beyond the short term, the outlook remains cautiously optimistic for the UK economy, with forecasts for growth in 2026 and 2027 revised upward, albeit modestly. Bank Governor Bailey emphasized the importance of closely monitoring both the domestic economy and global developments, signaling a careful, gradual approach toward any further reduction in interest rates in response to evolving economic conditions.