Every three months, reporters gather in the Bank of England’s purpose-built, state-of-the-art conference theatre – just above the museum that records its 300-year history – to hear the latest prognostications on Britain’s economy.

It is a ritual that has run for 15 years, well before the Bank was given its independence in 1997. With Mervyn King at the helm as governor, whose self-declared aim is to make what the Bank does “boring”, it can be a struggle to work out what the story is.

That was not the case last week. From King’s opening remarks, warning that Britain’s outlook was for “slowing growth and rising inflation”, to his puzzlement that share prices were so strong when the risks to the global economy had plainly increased, this was an abrupt shift of tone.

“I didn’t think the Bank would be so blunt,” said Nick Stamenkovic of Ria Capital Markets. “There has been a decisive shift in their view and they are clearly worried about the outlook.”

For three months the Bank has been firefighting as the crisis in the credit markets unfolded and Northern Rock came cap in hand for cash.

The fire is still smouldering and could flare at any moment. But the nine members of the monetary policy committee (MPC) have already seen enough to put their names to a forecast that will have Britain’s growth rate, which they think is now 3.5%, virtually halved to 2% in the coming months.

The slowdown will occur, in the Bank’s view, even if interest rates fall from 5.75% to 5.25% by the middle of next year. The markets are discounting three cuts by this time next year. Some say the Bank could move quickly if the evidence that comes in over the next few weeks is very weak, particularly the reports from its own agents around the country.

While the Bank’s new forecast is sombre enough, King also warned of the risk that growth would turn out even weaker than its central forecast.

“Further tightening of credit conditions and disturbances in financial markets pose the biggest downside risk to the outlook,” he said, warning that there would be some difficult decisions in the months ahead.

Some economists have little doubt that the Bank will need to cut rates and that it will have to do so aggressively.

“We have brought forward our timing of the first rate cut to the December meeting, pencilling a second cut in February,” said Alan Castle, an economist with Lehman Brothers.

So how bad is it going to be? Britain has had a long run of economic growth, dating back to the early 1990s. Is it about to end in a train crash? THE banks are in the spotlight when it comes to the credit crisis, and are among the first to feel its wider economic effects. On Thursday, Barclays tried to clear the air by announcing £1.3 billion of write-offs related to the sub-prime debt crisis, and expressed its confidence about the outlook.

“We feel pretty good that this is one of those cycles we worry about and we have continued to grow through the cycle,” said Bob Diamond, the bank’s president.

But it was another banker, Stephen Green, chairman of HSBC, who chose to highlight some of the fears hanging over the economy. “If the contagion spread quite seriously through US consumer spending, and created a further downturn that turned into a recession, the rest of the world is not going to be immune,” he told The Sunday Times. “I was in Asia and the Middle East last week, and those economies are performing extremely well, but I find it hard to believe they will be immune from a serious downturn in the United States.

“Then you look at equity markets and, frankly, we are puzzled by the strength of them. I don’t want to sound apocalyptic about this – the real answer is we don’t know – but we are sufficiently concerned and wary of potential developments over the next few months to want to sound a warning note.”

Even the Chinese are worried their apparently unstoppa-ble boom could be halted. China’s commerce ministry in Beijing warned of the challenge from the global slowdown. “If demand in the US drops further, Chinese exporters will be devastated,” it said in a report.

The Bank of England set out a number of routes through which the credit crisis would impact on the economy. With the risk of a global slowdown it included credit rationing, increases in interest rates on loans, a decline in credit availability as a result of pressure on banks’ capital ratios, and a tougher attitude from lenders to borrowers with weak balance sheets or risky assets.

“The four major banks are an oligopoly,” said one analyst. “If they all choose to put on capital constraints, then where else can businesses go?”

If the bankers are worried, so are plenty of others. Last week brought the first official evidence that the credit crisis and the Bank’s earlier interest-rate hikes are hitting consumers. Retail sales slipped by 0.1% last month, their first drop since January.

The housing market is also slowing sharply, with chartered surveyors gloomy about prices and sales, and Nationwide, Britain’s biggest building society, warning that prices will stagnate next year and fall in some regions. Experts believe this adds up to a tough time for retailers, although the evidence of high-street distress is limited, so far.

The KPMG/SPSL retail think tank, in a report out today, warns of a rising tide of business failures in the retail sector, and says the tactics that have served companies well during the upturn may not help. “People are sated by bargains,” said Nick Bubb of Pali International, a member of the think tank. “They will not buy things in 2008 that they don’t need simply because they’re cheap.”

The British Chambers of Commerce, which represents many of Britain’s small and medium-sized firms, thinks the consumer slowdown will drag the economy down to just 1.9% growth next year – even weaker than the Bank expects.

But David Frost, its director-general, concedes that the evidence so far of that downturn is hard to come by. “I visit a lot of businesses and you could say this is the calm before the storm,” he said. “All the indicators point to a sharp slowdown ahead, but activity is holding up well so far.

“The question is whether gloomy prophecies become self-fulfilling. Businesses say the key is whether America can avoid a recession.” THIS sense of impending gloom is also evident in other measures. Last week the Institute of Directors (IoD) reported that business confidence was falling at a faster rate than in the aftermath of the September 11, 2001 attacks.

“Despite all the negative talk, we’re still only talking about an economic slowdown in 2008,” said Graeme Leach, chief economist at the IoD. “Nobody is yet using the R-word.

“However, just as the Bank catches up with the consensus, the consensus could become more pessimistic. This is a very difficult time to interpret the economic tea leaves. The evidence to date suggests we shouldn’t be too pessimistic, but my economic instinct suggests we’re entering the most difficult period for 15 years.”

Uncertainty is the key, both in the money markets and the wider economy. The most visible sign of strain is the gap between the rate set by banks trading with one another – three-month Libor (the London interbank offered rate) – and the 5.75% Bank rate.

After the credit crisis broke in August, three-month Libor spiked high, eventually hitting 6.9%. It eased back after the Bank agreed to slosh liquidity into the markets. But last week it started to climb again, hitting 6.4%, setting nerves on edge.

Traders fear that banks other than Northern Rock may be borrowing from the Bank.

The level of Libor is important, 60% of business borrowing being linked to it rather than Bank rate. Experts say, however, that while the credit crisis is having an effect on business, it is nothing like as dramatic as in the early 1990s.

“There is a tightening going on but it is far more subtle than it used to be,” said Henry Ejdel-baum, managing director of ASC Finance, which specialises in arranging facilities for owner-managed firms.

“The secondary-lending criteria are being tightened. By tweaking them, the bank reduces the loan amount without changing the headline criteria used in their marketing.”

Fear may end up being a bigger factor than the price and availability of credit. Britain has pulled through in the past, thanks to the resilience of consumers and rapid rises in government spending.

Alistair Darling, the chancellor, has turned off the public-spending taps, and consumers face big pressures from high debt levels, rising food and petrol prices and the prospect of a slowdown in the jobs market.

It is going to feel tough. The question of whether it will be even worse than that is, as the Bank said, still open.

But one worry, that the economy will be dragged down by the City’s difficulties, and the prospect of smaller bonuses and job losses in the Square Mile, has been overstated.

Goldman Sachs, in a report, noted that while financial and business services account for 30% of the economy, only a tiny proportion of that is directly related to City-type activities, wholesale financial services. “Our guess is that wholesale financial services account for little more than 3% of GDP,” it says. “We’re not that important.”

As some uncertainties are resolved in coming weeks and new ones emerge, that, at least, offers a small crumb of comfort.

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