The Bank of England's Governor braced Britain for a year of economic pain today, admitting that there is a real threat of recession, with growth set to grind to a halt and inflation likely to peak at about 5 per cent during the autumn.

In a stark message, Meryvn King left little doubt that tough times lie ahead as the Bank cut its forecast for growth this year and next while predicting sharply higher inflation in the short-term, spelling further financial stress for families.

"The next year will be a difficult one, with inflation high and output broadly flat," Mr King said. "The British economy is going through a difficult and painful adjustment."

The Bank's latest quarterly Inflation Report today made clear that it sees little scope for any early interest rate cuts to help shore up the rapidly weakening economy.

Soaring food and energy prices are set to drive inflation up from last month's 16-year high of 4.4 per cent, more than double the Bank's 2 per cent target, to a peak of about 5 per cent in the next few months.

But the Bank also eased fears over the threat that it could be forced to raise rates, and hinted at the chance of eventual cuts around the end of the year, as it predicted that inflation is set to fall sharply from its autumn peak to under the 2 per cent target in two years' time, and then continue to decline.

City economists said that the Bank's latest forecasts pointed to interest rates remaining on hold for the moment, but said there was a chance that they could fall before Christmas.

The more doveish-than-expected assessment of prospects from the Bank led financial markets to move quickly to increase betting on the chance of a rate cut before the end of the year. Rising hopes over eventual rate cuts also triggered a fall in the pound.

"The tone is clearly doveish, with the economy now expected broadly to stagnate over the next year or so," Jonathan Loynes, of Capital Economics, said.

The steep drop in inflation forecast by the Bank from the end of this year is driven by the severity of the downturn that it now expects Britain to suffer.

The economy is expect to stagnate for much of the coming year, with the annual pace of GDP growth dropping to zero, and a clear danger of an even worse outcome.

Mr King conceded that the economy could slide into technical recession, with the economic output falling for two or more consecutive quarters, over the coming year. "I think with broadly flat output, it's bound to be the case that there is a possibility of a quarter or two of negative growth," he said.

The Governor was blunt about the rough ride that many households will face over the coming year as the financial squeeze from rising food and energy bills grows worse.

Families' incomes would grow only weakly and, for some, spending power would fall, leading to a further slowdown in consumer spending.

At the same time, he said that the economy would also continue to be blighted by the continuing credit crunch, the slump in the housing market, and anaemic investment activity by businesses.

Mr King said that Britain's economy had been hit by a unique combination of shocks from the leap in energy and commodity prices alongside the credit crunch, which he called "the biggest financial dislocation since the Second World War".

"The combination of these two shocks, which have originated primarily in the rest of the world economy, have meant that life is extremely difficult and will be for the UK economy over the next year," he said.

The Bank's forecasts today suggest that the economy will grow this year by only about 1.5 per cent — below the 1.75 per cent minimum presently projected by the Chancellor.

Next year, the Bank sees even weaker growth of just 0.75 per cent — compared with Alistair Darling's present forecast for a recovery to bring growth of 2.25 to 2.75 per cent.

On its main forecast, the Bank expects the worst of the economy's slowdown to run from the present quarter until the end of the second quarter of next year, with growth close to zero throughout this stretch of stagnation, and resuming only next autumn.

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