"Interest rates have probably peaked," said Adrian Schmidt, senior economist at Chase Manhattan Bank, who expects the pound to trade above DM2.85 this week. "The difficulty is deciding when rates are likely to come down."
On Friday, the pound was little changed at DM2.8926, down from about DM2.9100 a week earlier. Against the dollar it fell to $1.6320, from $1.6370 the previous Friday.
The majority of City economists say borrowing costs have now peaked, after the Bank of England left the benchmark rate at 7.50 per cent on Thursday. With rates unchanged, the return on pound-denominated deposits also stays the same.
Some think the slump in manufacturing, which is spreading to the rest of the economy, may be strong enough to convince the central bankers to cut rates by the end of the year.
"The UK economy is slowing," said Denis Gould, a fixed-income fund manager at Axa Sun Life Investment Management. "Rates may come down in the fourth quarter but more probably in the first quarter next year".
Mr Gould said he sold sterling about six months ago when he expected rates would not go much higher. He expects the pound to fall to DM2.75 and $1.60 by the end of the year.
The yield on the December short sterling futures contract, a measure of interest-rate expectations, has fallen 11 basis points to 7.53 per cent since Thursday. That suggests growing expectations that borrowing costs may fall by the year-end.
Still, the quarterly inflation report and a report on average earnings, both due on Wednesday, may revive concern that rates will rise again.
Also slated for release that day are the minutes from the Bank of England's July policy meeting, at which rates also were left steady.
Economists expect average wage growth to have slowed to an annual rate of 5.2 per cent in May from 5.4 per cent in April.
"The bank is likely to remain concerned about the inflationary pressures from a tightening labour market," said Philip Shaw, chief economist at Investec.
Meanwhile, the central bank's inflation report will note that there are broad signs of a slowdown in the economy but will probably also state that the risks to the bank's inflation target remain on the upside," said Mr Shaw.
The dollar rose to its highest level in almost two months as Japan's prime minister disclosed no new plans to revive the country's faltering economy and as Asian currencies fell on speculation that China may devalue the yuan.
"People were holding off selling the yen on the possibility of surprises by Mr Obuchi, and of course we got none of that,'" said John Rothfield, international economist at NationsBanc in Chicago.
"There was a risk of him pulling a rabbit out of his hat but there's no suggestion they'll turn their economy around very quickly."
The dollar rose as high as Y146.25, its highest since reaching an eight- year high of Y146.78 on 16 June, the day before the US and Japan sold dollars to buoy the yen.
The dollar rose to DM1.7808 from DM1.7740 as US stocks gained.Reuse content