Comment: Leading article | John Major | Anatole Kaletsky

The British economy faces its toughest year in almost three decades, the Governor of the Bank of England said yesterday. Mervyn King gave warning of “very difficult times” ahead and an even sharper recession than that of the early Nineties.

His bleak assessment set the stage for further drastic cuts in interest rates — which some experts say could fall as low as 1 per cent.

Unemployment rose by 140,000 to 1.82 million in the three months to September and is predicted to exceed two million early next year. The Bank raised the spectre of deflation, reviving fears of a downturn on the scale of the Great Depression of the Thirties.

Mr King backed plans by Gordon Brown and Alistair Darling to boost the economy with tax cuts and more public spending. The Pre-Budget Report is expected on November 24.

“In these extraordinary circumstances it would be perfectly reasonable to see some use of fiscal stimulus,” he said. He added that the measures must be “purely temporary”, and that the Government must have plans to rein- in borrowing in the medium term.

Amid the gloom, senior Conservatives launched a ferocious attack on Mr Brown, insisting that he was responsible for the domestic circumstances contributing to the downturn.

Writing in The Times Sir John Major, the former Prime Minister, says that no one should believe Mr Brown’s claim that the country’s woes are entirely due to an international crisis that started in America.

In a dire forecast, the Bank predicted that the economy would shrink next year by up to 2 per cent. A slump on this scale would outstrip even the brutal downturn of 1991, when GDP fell 1.4 per cent. It would mark the economy’s gravest year since 1980, when it shrank by more than 2 per cent.

Mr King said that deep cuts in interest rates along with tax cuts and more public spending ought to limit the damage, but the Bank’s quarterly Inflation Report also gave warning that the recession could become even more vicious if conditions deteriorate.

The report said that the slowdown could be deeper and longer lasting if banks continued to curb their lending, if consumers and businesses had to cut spending even more sharply and if unemployment climbed even more rapidly than is feared.

Mr King said: “We are moving into very difficult times and people should be concerned that we are moving into very difficult times. But that isn’t to say that we won’t get through it.”

The Bank forecasts that inflation will plunge from more than 5 per cent — its present 16-year high — to below 1 per cent by 2010. Economists said that this pointed to further deep cuts in interest rates to push inflation back up to the Bank’s 2 per cent target.

The Chancellor will increase public borrowing this year from the £43 billion predicted in his March Budget to about £65 billion, according to The Independent. Next year, as the recession bites, it is likely to top £90 billion.

Explore Economics

• Pre-Budget Report 2008

• Budget 2009

• World Economic Forum

• The Times MPC

Times Recommends

• Lies and cover-up at MG Rover exposed by report
• High oil prices push manufacturing costs up
• Primark founder steps down as chief executive