Thousands of homeowners face the prospect of paying no interest on their mortgages after the Bank of England cut the cost of borrowing for the fifth month in a row.

Interest rates were cut by 0.5 percentage points to 1 per cent today in a bid to boost the economy, which has sunk into recession amid a collapse in consumer confidence and a freeze on new lending.

About 1,500 customers who took out a tracker mortgages pegged at 1.01 points below the base rate with Cheltenham & Gloucester (C&G), owned by Lloyds Banking Group, will be paying no interest at all on their home loans from next month.

It is the first time that a mortgage lender has been forced to reduce the interest on their home loans to zero.

Lloyds Banking Group, now 43 per cent owned by the taxpayer and the owner of C&G, said that there was a zero floor to the deal and, because its computer systems could not cope with zero, it would be temporarily charging 0.001 per cent, or 8p a month for a borrower with a £100,000 mortgage. However, that money will be refunded.

The cut of another half point by the Monetary Policy Committee (MPC) came after a spate of alarming news that has fuelled fears over the scale of the economic slump in Britain.

Official figures published last month showed not only that the country was in recession, but that the economy plummeted in the final quarter of last year, with GDP falling by 1.5 per cent.

The economy had already shrunk by more than 2 per cent in the past two quarters and anxieties have mounted since the International Monetary Fund (IMF) predicted that Britain’s GDP would fall by 2.8 per cent this year, marking the worst UK performance for 60 years.

Stephen Gifford, chief economist at Grant Thornton, the accountancy firm, said: "The MPC is working in unprecedented times and the only guarantee is that the recession will last longer than the Government is willing to admit.

"We are now on a path to a zero rate policy, which will have a detrimental effect on both savers and pensioners. Whilst this cut may be good news for some business owners and mortgage holders, banks are still showing little confidence in the lending market."

Ian McCafferty, chief economic adviser to the CBI business group, said: “This drop in rates should support business confidence and, when added to recent cuts of the past couple of months and the fall in the pound, provides a very significant stimulus to the ailing economy.

“But at these very low levels of interest rates, and with the credit mechanism still impaired, it is vital that the Bank swiftly supplements today’s move with direct intervention in the corporate lending markets.”