The Monetary Policy Committee of the Bank of England meets tomorrow in extraordinary circumstances. This week the stock market had its steepest fall in 20 years; Spain set up a fund to buy bank assets; British savers with cash in Icelandic banks realised to their horror that they could not withdraw their money; and the Chancellor of the Exchequer held emergency meetings to consider how to salvage the banks. The MPC may look like a bit-part player in heady discussions about preference shares. But it is imperative that it does its bit to help to revive confidence, by making a bold cut in interest rates.

Cutting interest rates might seem an odd thing to do when one of the greatest fears for banks is that savers will take their money out. That is precisely why no bank is likely to cut savings rates, whatever the MPC does. A rate cut would not hurt savers, but would bolster others who are crucial to the economy, and find themselves suffering as a consequence of the credit crunch.

A rate cut would, first, give some relief to mortgage holders. More than a third of UK mortgages are either variable-rate deals or base-rate trackers that would immediately benefit from a cut. Secondly, it would help the many British companies, particularly small ones that rely on loans and overdrafts to finance their growth. The third reason to cut rates is as much psychological as financial: to give a clear signal that the authorities are taking bold action. The base rate is currently 5 per cent. The Bank is widely expected to cut by half a percentage point this month, and possibly by a further half next month. If that is what it had in mind, it would be much better to cut by a whole point, and to do it now.

The main argument against such a move is that it might generate inflation, which is the MPC’s chief concern, especially at a time when energy and food prices have been rising. But wage demands are likely to be depressed as unemployment starts to rise, with those still in work clinging gratefully to their jobs. Industrial output is falling, growth in the service sector is at a virtual standstill and key companies such as John Lewis and Marks & Spencer have reported falling sales. The main risk currently facing the economy is recession, not inflation.

A second argument is that monetary policy becomes impotent if it is overused. John Maynard Keynes famously said that cutting rates in the 1930s was like “pushing on a piece of string”. But Britain’s base rate is far from zero and considerably above the 2 per cent federal funds rate set by the US Federal Reserve. There is muscle in it yet.

On its own, an interest rate cut will not solve the financial crisis. It will not end the paralysis in the wholesale lending markets by which banks lend to each other. That is why the Treasury is also looking to recapitalise the banks. But a rate cut could ease strains in the system significantly.

With confidence plummeting, this is the time for bold moves, not incremental changes. In the past year, the Bank of England has continued to play doggedly by the rules at a time when rule-books around the world – on competition law, on deficits, on moral hazard – are rightly being ripped up. Even since the Northern Rock debacle, the Bank has advanced liquidity in the most grudging way. In September it was still intending to close its special liquidity credit line to banks this month, thereby fanning the panic.

The country faces a potentially deep recession. This is no time for the incrementalism of quarter-point cuts. A bold move is needed to help to prevent people lurching from fear into despair. It would not resolve the root cause of the credit crisis, but it could alleviate some of the collateral damage. The world has weathered financial storms before. Policymakers have the tools: they must get on and use them.