The Bank of England has left the cost of borrowing unchanged at 4%, in line with analysts' forecasts.

The news came as a disappointment to manufacturers, which have been calling for lower borrowing costs to lift them out of an eight month contraction.

But the Bank's decision was widely predicted by City analysts, who said that a firm housing market and robust consumer spending suggested that the risk of inflation remained too high for a further cut in rates.

Lowering interest rates encourages consumer spending, boosting the economy, but at the risk of higher inflation.

Inflation is currently running at 2.3% a year, just under the BoE's 2.5% target.

Analysts added that, having reduced interest rates by an unexpectedly high 0.5% last month, the BoE was unlikely to cut again this week.

Rate cut cycle nearly over

The Bank has cut rates seven times since February this year in a bid to stave off recession, reducing the cost of borrowing by two percentage points to a 40-year low of 4%.

Most economists believe that the Bank will cut rates at most one more time before the cost of borrowing starts to rise again.

"Our view is that rates have probably bottomed although there is a downside risk," said Geoffrey Dicks, economist at the Royal Bank of Scotland.

"The question mark is over the New Year: Does the UK consumer come back after the New Year feeling the down-draft of higher unemployment?"

Services bottoming out

While manufacturing output has been slowing for eight months due to the impact of the global economic slowdown, there are signs that the dominant service sector is on the road to recovery.

The Chartered Institute of Purchasing Managers said on Wednesday that the rate of decline in service sector output slowed in November.

Service sector activity, which began slowing in September, has held up against the global slowdown better than manufacturing because it has relatively little exposure to the international economy.

But the BoE's rate-setting monetary policy committee will be keeping a close eye on unemployment figures, which last month edged higher for the first time since 1994.

A sharp rise in unemployment would dent consumer spending, which has in recent months become the main driver of UK economic growth.

Business backs more cuts

Leading business lobby the Confederation of British Industry said the risk of inflation has been exaggerated by a pre-Christmas jump in consumer spending, and urged the Bank not to rule out further reductions.

"Today's decision should not be taken as a signal that we have had all the cuts the economy needs," CBI chief economist Ian McCafferty said.

"Given the lack of inflationary pressure, there is room for a further reduction at some point over the next few months."

The Bank's decision had little impact on the financial markets, with the FSTE 100 index of leading shares holding steady at 5,260 points early on Wednesday afternoon, 1% up on the day.

Sterling was little changed at $1.42.