Germany prepares to raise rates

The pound fell sharply against the mark yesterday after Bundesbank president Hans Tietmeyer gave a broad hint that German interest rates were set to rise, reducing the attraction for investors holding sterling. Tom Stevenson, Financial Editor, reports on the latest retreat by the recently high-flying pound.

Bundesbank president Hans Tietmeyer signalled an early rise in German interest rates yesterday when he said the central bank's scope to push through increases in the cost of money would narrow once the members of Europe's planned single currency were announced next spring.

The pound slumped to a three-month low against the German currency of under DM2.82 following the comments as investors gambled that the difference between British and German interest rates would narrow, making the pound relatively less attractive to hold.

The fall took the pressure off British exporters, who have struggled to compete with overseas competitors thanks to the high-flying pound. The rise in sterling has made British products increasingly expensive in overseas markets.

Sterling, which traded at DM2.30 a year ago, reached a peak value of DM3.07 in July on expectations that UK interest rates would rise to fend off inflationary pressures in the British economy. Over the past two months currency traders have reduced their forecasts for UK rates while at the same time upward pressure on German rates has increased.

Mr Tietmeyer said yesterday that although it was theoretically possible for the Bundesbank to change interest rates in the run-up to European monetary union on 1 January 1999, once EMU members are chosen in the spring of 1998, "the room to manoeuvre gets narrower".

Financial markets interpreted the remark as a sign that the Bundesbank had limited time to raise interest rates. Mr Tietmeyer's comments came after European Union finance ministers decided to create a de facto monetary union eight months before the euro's planned launch.