The Bank of England is certain to slash interest rates again today. It is less certain how effective the cut will be in reviving the patient. Martin Weale, a member of The Times’s interest rate panel, says that a cut of one percentage point would have more impact than “sacrificing a goat”, but it is difficult to have any real conviction it will do much good. After all, last month’s 1.5point cut has done little to improve financial conditions.

The root cause of the economic downturn is the credit crunch, which has choked off the supply of credit for mortgage borrowers and businesses. Cutting official interest rates is not going to increase the quantity of credit available. The mechanism that turns official interest rate cuts into a boost for the economy is broken.

You could say that this argues against doing anything with rates; or that, on the contrary, the situation demands a massive cut. Either way, interest rates are not going to do the trick on their own.

The good news is that the Government recognises this and is contemplating a wide range of other measures in addition to the fiscal stimulus package announced last week. The latest, floated yesterday, is the plan to help mortgage payers who lose their jobs to defer interest payments.

Much of the Government’s public pressure on the banks is posturing. In private, ministers accept that the banks are in a very difficult position, having to balance the need to lend prudently with the need to prevent lack of credit turning a downturn into a slump.

In spite of the public outcry, it is not clear there is a huge unmet demand for lending from creditworthy small businesses. The banks insist that lending to small companies is still growing and that it is not being outpaced by demand. They believe that this will be clearly demonstrated by the figures they are providing Lord Mandelson, ahead of next week’s meeting of the new small business finance forum.

There are countless distressing examples of small businesses that are struggling to stay afloat for want of a bit of cash, but in many cases, including some highlighted by the media, what they need is new equity investment or a change of business model, not a bigger overdraft. It is no good expecting banks to lend companies money they are unlikely to get back.

There is much more of a problem of unmet demand for credit among homebuyers and large companies, because nonbank sources of funding have evaporated. Although the banks have been recapitalised it is unrealistic to expect them to be able to fill that gap completely. Some are facing a sharp rise in bad debts, particularly those, such as HBOS, that have a big exposure to commercial property.

It is widely reported that commercial property values have fallen by 20 per cent over the past year, but NB Real Estate, the property agency, says that, based on recent deals, the figure is nearer 30 to 35 per cent. This makes banks concerned about new lending because they fear that they will find themselves falling below the level of capital required under the recent agreement with the Government. The banks are arguing that capital levels should be allowed to fall at this stage of the cycle. Those that have taken government funding also claim that its high cost is restraining their lending, a suggestion treated with derision by senior officials.

These issues may have more immediate bearing on the credit crunch than official interest rates. But that does not mean that the Bank of England’s decision is unimportant. Rates look to be heading towards 1 per cent. There seems little point in hanging about.

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