The Bank of England slashed its key interest rate by one-and-a-half percentage points—the biggest cut since it became independent in 1997—to 3 percent Thursday as recession fears heightened and despite inflation hovering above 5 percent.
Prices for food and commodities have been falling and "inflation should consequently soon drop back sharply, as the contribution from retail energy and food prices declines, notwithstanding the fall in sterling," the Bank of England said in a statement.
Analysts had predicted the bank would cut rates by between half a percentage point and one point.
The pound fell against the dollar immediately after the news, while stocks pared some of their losses. But the pound shot back as the deep cut showed determination to help the economy fight a recession.
"The UK has been living beyond its means for too long and prolonged period of pain is inevitable," ING Bank economist James Knightley said in a market note. "We continue to look for additional aggressive rate cuts from the Bank of England and suspect we could be down to 2.5 percent in December and 2 percent in January." (Watch the accompanying video for rate cut discussion.)
Surging unemployment following layoffs caused by cost cuts will dampen inflation, Knightley said.
On Wednesday, British recruiters reported a record fall in job appointments and the first drop in wages for five years in October.
Demand for staff shrank sharply and both permanent and temporary staff appointments were at their weakest level since the start of the survey in October 1997.
The salaries index slipped into contraction, dropping to 45.7 from 50 for permanent employees, permanent placements plunged to 33.2 from September's 41.2, and temporary placements slid to 38.6 from September's 45.3.