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“Should the global economy slow sharply, and inflationary pressures recede, the bias to tightening [of rates] would evidently also be reduced,” it states.

With some governments and commentators hoping that interest rate cuts can be deployed to shore-up faltering growth, the BIS cautions that reductions in official borrowing costs may not be as effective now as in some previous downturns, with households and companies in some countries heavily indebted. Rate cuts could also have negative side-effects, encouraging economic imbalances, it adds.

“It should be borne in mind that the effectiveness of a lowering of rates might be significantly reduced in the aftermath of a credit-induced spending boom,” it argues.

The BIS renews past calls by some of its top officials for governments and central banks to consider future action to prevent excessive credit booms by curbing banks’ lending to households and companies earlier in economic upswings. Policy-makers should consider such strategies to “lean against the wind” of credit cycles, it suggests.

As leading stock markets face a lacklustre end to the first half’s trading, with the London market down more than 14 per cent since January and the Dow Jones industrial average on the cusp of falling into bear market territory, the BIS also concludes that the worst of the credit crunch may still be to come.

Challenging hopes that the credit crunch is already waning in New York and London, the BIS report highlights continued tightening of lending standards by commercial banks on both sides of the Atlantic.

“Thus, a generalised squeeze in the availability of credit remains a distinct possibility, with potentially more severe implications for demand than are reflected in consensus forecasts,” it says. It adds that these dangers are being compounded by the surge in oil prices to record levels above $140 a barrel.

In a stark assessment of US prospects, the BIS goes on to suggest that American consumers could potentially make further deep cuts in their spending as they try to rebuild finances battered by the downturn and the US housing slump. That could have far-reaching knock-on consequences for demand and growth in the rest of the world, its report argues.

The BIS also questions the widespread assumption that the still-booming emerging market economies of Asia can remain immune from a downturn in advanced industrial economies in the US and Europe.

"A pronounced slowdown in the United States would hurt the emerging market economies, which although remarkably resilient so far, still depend significantly on external demand,” the report says.

Explore Economics

• Pre-Budget Report 2009

• Budget 2009

• World Economic Forum

• The Times MPC

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