The Bank of England and the European Central Bank both cut their rates to rock bottom levels Thursday, and took the first steps towards quantitative easing with little room left to further lower rates.

The Bank of England’s Monetary Policy Committee voted to reduce the official Bank Rate by 50 basis points to 0.5% today, and to undertake a programme of asset purchases of £75 billion financed by the issuance of central bank reserves (quantitative easing).

At the same time, the Governing Council of the ECB decreased its various rates by 50 bps, taking the rate on the main refinancing operations of the Eurosystem to 1.50%, the marginal lending facility rate to 2.50%, and the interest rate on the deposit facility to 0.50%.

The central banks pointed to continued deterioration in economic conditions as the reasons behind their decisions. “World activity continued to weaken, reflecting both depressed confidence and the persistent problems in international credit markets,” noted the BoE, adding that output in the UK dropped sharply in the fourth quarter of 2008, justifying its rate cut.

Yet, even with the latest rate cut, the BoE suggested that there’s still a risk that inflation will lag its 2% target, so it also decided to take further monetary actions — the £75 billion of asset purchases — “with the aim of boosting the supply of money and credit and thus raising the rate of growth of nominal spending to a level consistent with meeting the inflation target in the medium term.”

The ECB also went beyond its rate cut, extending its program to provide unlimited liquidity to Eurozone economies at the prevailing policy rate until at least the end of 2009, notes TD Bank. And, the ECB also admitted that they have now begun to discuss other nonstandard measures of easing monetary policy, although it has more room to cut than many other major central banks.

TD recalls that last month the ECB appeared sharply divided over whether risks to inflation were to the upside or downside and how much further rates would need to fall. This month, the Governing Council said inflation would be well below 2% in both 2009 and 2010. “More shocking to us was exactly how much of the downside economic risks the new staff projections encapsulated, with the economy expected to contract by 2.7% this year and deliver 0% growth in 2010. This is slightly more optimistic than our own forecasts but much closer than we expected,” it says.

TD still sees potential for the ECB to cut to a 0.50% base eventually, “even though the decision may not be unanimous, particularly if we see limited adverse reaction to every other G-7 central bank that now has rates at or below this level. We also think we will eventually see the ECB move to QE similar to the UK’s actions today.”

However, it points out that, “Quantitative easing is a largely untested and uncertain economic science.”

“The important question will then revolve around whether this cash is transformed into new lending by commercial banks. If that cash is not lent out, perhaps because banks have plenty of cash but not enough capital, then there would be no impact on the economy,” TD says.