THE pound has regained some ground against sterling as comments by the governor of the Bank of England drove the British currency down. Nevertheless, economists warned that increases in interest rates are still possible.
As sterling reached highs against the deutschmark, Mr Eddie George said there was "exaggerated strength" in sterling's exchange rate. It fell back over two pfennigs as a result.
At the same time, Bundesbank chief, Mr Hans Tietmeyer said he believed the Dmark should be stronger.
Mr Jim Power, chief economist at Bank of Ireland, said the comments should help keep the lid on sterling over the next couple of days. However, he warned that an interest rate rise following the first meeting of the Bank of England's new policy group would push the pound down towards 90p sterling.
The pound closed yesterday at 91.40p in late trading from 90.80p a day earlier and at DM2.5825 from DM2.5646.
At the same time, wholesale interest rates edged upwards. Dealers said the Central Bank remained very nervous. For the moment, it seems happy with rates where they are, but it will be keeping a very close watch on today's credit numbers and on inflation data due out next week.
Dr Dan McLaughlin, chief economist at Riada Stockbrokers, said credit growth could be as high as 19 per cent. "Towards the end of April, there was very heavy selling of the pound and heavy borrowing which will have pushed up the number."
He added that, on a trade weighted basis, the pound has fallen by over 6.5 per cent since January. "The Central Bank will want to offset that."
In addition, Exchequer Borrowing Requirement figures released yesterday pointed to an economy still motoring ahead. Tax receipts are up 16 per cent and even when adjusted for VAT receipts which have been brought forward they are still up 13 per cent. "These sort of numbers mean it would not surprise me to see a rate rise over the next couple of weeks, but probably not in the middle of an election campaign," Dr McLaughlin said.
The last rate rise followed buoyant credit numbers. Mr Power warned that a credit growth figure of about 20 per cent would give the Bank ample excuse to increase rates again if the currency fell further.
"But that is unlikely," he said. "It is more likely that credit growth will be below 18.5 per cent.
The foreign exchange markets are likely to remain very nervous until the new French government makes its position on monetary union clear.
The markets are now looking for an indication of exactly what the Socialists want. In the run up to the election they said they wanted a broad based EMU including Spain and Italy, a looser interpretation of the criteria, a renegotiation of the Stability Pact and more political influence on the European Central Bank.
Even if they only demanded half of that over the next few weeks it would be unambiguously negative for the Dmark, Mr Power noted.
EU finance ministers will also be meeting this weekend. The markets will be watching the gathering for any indication of intention on exchange rates.
In the meantime, Dr McLaughlin said we were looking at a soft EMU and, as a result, the only way the Dmark could go was down while sterling could only appreciate.
