Fresh woes for Central Bank over sterling

THE Central Bank is facing fresh worries over the currency, after the pound fell below 98p against sterling yesterday. At the same time the currency remained at the top of the ERM band and at its highest level since before the currency crisis.

The low level against sterling could result in upward pressure interest rates over the coming months, if it fuels worries about inflation.

The pound closed at 97.90p against sterling from 98.20 a day earlier and at 2.6170 marks from 2.6176.

Despite the fact that many dealers were disappointed that there was no British rate increase yesterday - as many had expected - sterling still managed to gain against the deutschmark.

Mr John Beggs, chief economist at AIB, said sterling picked up alter initial losses as the market decided that a rate rise was still on the cards, even before the general election.

In contrast, the view on Germany remains negative. In its annual report the Bundesbank said it expected inflation to remain below 2 per cent for over two years - that, could imply further rate cuts.

"In this environment the pound will rise higher against the deutschmark while falling against sterling," Mr Beggs said. He added that a sterling break above 2.70 marks could happen at any time, which would imply 97p against sterling for the pound.

One major problem is that it now looks as if a retreat by sterling could leave the pound trading below parity. "Sterling will eventually come back to 2.60 marks, in which case the pound could come back to 2.56 marks, but I can't see the pound going back up against sterling," said Dr Dan McLaughlin, chief economist at Riada Stockbrokers.

Dr McLaughlin also warned that retail rate rises could be on the cards, if one month money goes up to 6 per cent, from 53/4 per cent. The Central Bank has made it clear over the last couple of days that it would like to see rates move higher, he said.

Mr Mick Osborne, treasurer at First National Building Society, said he does not see any immediate danger of interest rate increases. However, he added, the Central Bank will be worried that the exchange rate has fallen below 98p. If sterling continues to gain there is always the option of higher rates or further intervention.

Mr Michael Torpey, Irish Permanent's treasurer agreed that there is no rate rise on the horizon, but he said the market is extremely uncertain at the moment.

Much depends on the direction of sterling over the coming weeks. In the very short term, hopes of an interest rate hike dwindled after figures were released showed inflation had dipped to 2.5 per cent in December from 2.7 per cent the previous month.

Minutes after the data was released, the Bank of England signalled that rates were to be left unchanged at 6 per cent after the regular meeting between the Chancellor of the Exchequer, Mr Kenneth Clarke and the governor of the Bank cot England, Mr Eddie George.