Credit crunch makes rate cut more likely-BoE's King

By Sumeet Desai and Matt Falloon

LONDON (Reuters) - Tighter lending conditions have made the Bank of England more inclined to cut interest rates as the credit crunch enters a new and difficult phase, BoE Governor Mervyn King said on Wednesday.

Sterling weakened after BoE Monetary Policy Committee members also highlighted downside risks to the pound, which has fallen about 10 percent on the year on a trade-weighted basis.

"The financial crisis has moved into a new and difficult phase. Across the world, confidence in financial markets is fragile," King said.

Fears have grown in recent weeks that the credit crisis is getting worse and could trigger a sharp downturn in economic growth across the globe.

Asked by parliament's Treasury Select Committee if tightening lending conditions on financial markets had made British policymakers more predisposed to lowering borrowing costs, King said, "Yes."

But he said he expected UK inflation, already running above the central bank's 2 percent target, to rise even further and hit around 3 percent because of soaring utility bills.

Policymakers have been keen to stress this year that higher inflation must not get entrenched in the public mindset and interest rate policy will have to reflect that risk as well as manage the slowing in the global economy.

"The MPC can have little effect on the short-term path of inflation," he said. "What is crucial is that the pick-up proves to be temporary, just as the rise in inflation last year was."