Markets have begun to rethink the chances of sterling joining the euro following cautionary remarks from the Treasury and the Bank of England. A move to join the single currency had been widely expected following Labour's election victory.
Sterling bounced over 1 per cent from earlier five-week lows against the euro and from recent 15-year lows versus the dollar.
The turnaround followed comments from Bank of England governor Mr Eddie George which focused on the practical difficulties of changing over to the euro.
Speaking to the BBC, Mr George said sterling's current value would be an obstacle to euro entry and warned of inflationary pressure if sterling fell further.
The British Treasury's chief economic adviser, Mr Ed Balls, also entered the fray, insisting that the government was not trying to push sterling lower and ruling out any attempt to manipulate the exchange rate.
Analysts said sterling may have won some breathing space for the time being, but that the debate on Britain's euro membership could continue to weigh on sterling.
Sterling has lost as much as 3 per cent against both the dollar and the euro in little over a week amid mounting talk that a re-elected Labour government would push for early euro entry.
But as Davy chief economist Mr Jim O'Leary pointed out, it took 11 years for the British to join the EMS. "You can use that as a benchmark for the euro, it is not going anywhere any time soon."
One problem is that the economies of Britain and Europe are once again going in different directions. Inflation data released earlier this week simply underlined the likelihood of interest rate hikes by September, with more hikes likely by the end of the year, according to Ulster Bank economist Mr Aziz McMahon.
"When inflation was below target, it looked as if interest rates would be able to converge without causing a huge problem. That is no longer the case. It is simply not possible that the economies will converge over the next two years."
According to Mr McMahon, the continuing low unemployment levels in the UK also undermine the economic case for joining the euro.
--(Additional reporting Reuters)
