Comment: Spectre of the late Eighties rattles its chains

One person who will not have been surprised by the pound's sharp fall yesterday is Eddie George, Governor of the Bank of England. In the Bank's last Inflation Report, published in November when sterling had climbed only halfway towards its recent peak, it warned that the reason for the exchange rate rise was the expectation that base rates would be going up again. If that did not happen, the currency would suffer a reversal, the Bank said.

And so it has. Although criticised by many City experts for arguing that a strong pound was not a substitute for higher interest rates, the Bank's analysis has been vindicated.

The spectre of the late 1980s is rattling its chains. Keeping interest rates low because of a strong exchange rate in 1987 was one of the main forces driving the Lawson boom. The domestic economy, led by the service industries and London, is booming again now - perhaps not on the same scale as a decade ago, but it still deserves the description.

It only demands a modest rise in interest rates to skim the froth off the expansion and keep inflation on course to meet its target this year and next. That would also help deliver a sensible correction in share prices, which must be vulnerable to a sharper fall later if they continue to set new records day in, day out.

The other side of the coin is that the strong pound was undoubtedly beginning to hurt manufacturers. But to go for the easy policy option of unchanged interest rates and a comfortably weaker pound won't necessarily benefit them long term. The likely consequence of choosing this route is over- rapid consumer spending and higher inflation. For that all you get is a short-term fix for manufacturing, now less than a quarter of the economy.

Mr George was not Governor in 1987 but played a big role in the discussions then. Chancellor Lawson opted for the low interest rate, weaker pound combination, and we can remember the results of that. Anybody with negative equity as a result of the housing boom and bust is still living with the policy mistake. And so did manufacturing in the subsequent downturn.

Mr Clarke is facing the dilemma for the first time. He's also got a general election coming up within a few months. But let's not hear any of that guff about the decision being a finely balanced one on economic grounds. Given Britain's dismal record as a high-inflation country whose currency loses its value over the long run, this time policy should err in the other direction. Until it does, there is no chance whatsoever of sterling becoming the "safe haven" currency dreamt of by some of Mr Clarke's Eurosceptic colleagues.