Sterling surged on the foreign exchanges yesterday in response to Chancellor of the Exchequer, Mr Gordon Brown's budget built on the Treasury's unchanged belief that the British economy will enjoy a "soft landing" in the coming year with strong recovery coming through in the second half.
The currency reached its highest level against the euro since the latter's new year introduction and climbed against the deutschmark and the US dollar. Sterling's rise against the euro took the latter down by 0.45 points to 67.22p in late trade. This represents an effective devaluation of 5 per cent for the euro against sterling in just over two months. The currency rose 1.87 pfennigs to DM2.9082 and 0.92 US cents against the dollar to $1.6169.
Strong buying for sterling followed Mr Brown's central prediction of 1999 economic growth between 1.0 and 1.5 per cent. This forecast is unchanged from downward revisions to growth predictions made by the Treasury last November in the wake of the global financial and economic crisis.
However, the unchanged prediction is considered to be optimistic in the City where most economists still expect 1999 growth to be well under 1 per cent, even if contraction can now be avoided. Further, since even the Treasury accepts that first half growth will be under 1 per cent, its forecast for calendar 1999 growth will only be achieved through rapid economic acceleration in the second-half growth rate. Self-evidently, if the Treasury's optimistic predictions are realised, there will be little scope for cuts in the Bank of England's key interest rate from its present level of 5.5 per cent at a time when the European Central Bank may see its way to lowering the euro rate from 3 per cent.
Rather, as Bank of England governor, Mr Eddie George has already indicated, a recovery in economic activity could well lead to revival of inflationary pressures requiring a tightening of monetary policy through higher interest rates. Government gilt-edged stocks were marked lower.
Far from convergence being achieved between the UK and euro zone economies, Mr Brown's forecast of a strengthening recovery over coming months suggests the divergence will increase. After 1999 economic growth of 1.01.5 per cent, the Treasury is predicting an acceleration to 2.52.75 per cent growth in 2000 and to the rapid rate of 2.753.25 per cent in 2001. These growth rate predictions are more optimistic than than the most forecasts for euro zone economies, Germany in particular.
City economists were mixed in their appreciation of the budget seeing stronger economic growth as necessary to deliver the increase in the required tax revenues to fund Treasury projections.
