Sunday 18 October 1998
On Friday, the pound dropped as low as Dm2.7364, which constitutes a 17-month low. It has lost more than 8 per cent against the deutchsmark since the start of July on expectations of lower UK rates, which determine the money-market return on pound deposits. Against the dollar it was little changed at 1.7019.
The Bank of England's monetary policy committee cut its benchmark rate by a quarter-point on 8 October, one week after the Federal Reserve cut its key overnight lending rate by a quarter-point in a bid to protect US growth from the slowing global economy.
The Fed's second quarter-point cut, at an unscheduled meeting on Thursday, took the rate to 5 per cent and prompted speculation that UK policy-makers may make the same kind of move. Bank of England regulations permit the monetary policy committee to meet between scheduled rate-sessions and change interest rate policy.
The US move "should put more pressure on the Bank of England", said Al Sebastian, a fund manager at Texas-based USAA Management. "What we've got to now see is some follow-through. I think the first place that they should cut is in the UK."
Those expectations are reflected in the implied yield on the December sterling interest rate futures contract. The yield plummeted 15 basis points to 6.66 per cent, low enough to suggest many traders and investors expect the UK's benchmark rate to fall 50 basis points before the end of the year.
"Judging by the reaction of the short sterling contracts, the risks are still more to the downside for UK rates than previously expected," said Adam Chester, a treasury economist at Halifax Plc. "That means sterling is vulnerable to further weakness against the deutschmark unless we see the Bundesbank change its stance on European rates."
Investment bank Goldman, Sachs & Co is forecasting that the Bank of England will cut borrowing costs by 50 basis points when it next meets on 4 and 5 November. Jim O'Neill, chief currency economist, said that he was expecting the pound to decline 20 pfennig over the next six months.
There is "growing and dreadful anecdotal evidence" that the UK economy is slowing and "if the UK authorities do not get on with starting to cut rates more aggressively there will be a UK recession next year", he said.
Reports in recent days have provided further evidence of a slowdown in the UK economy. September inflation hit the Government's 2.5 per cent target for a second month and wage growth slowed more than expected in July.
Yet more evidence of the slowdown in the UK economy could come this week, with reports on money supply due on Tuesday, retail sales due on Wednesday and gross domestic product on Friday. Analysts expect that the economy grew an annual 2.4 per cent in the third quarter, down from 3 per cent in the second quarter.
In New York, the dollar rose against the deutschmark and pared losses against the yen as traders regarded the dollar's recent declines as unjustified given the strength of the US economy. Copyright: IOS & Bloomberg
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