Edmond Alphandery, the French finance minister, last night declared that defending the franc's position in the ERM was an 'absolute imperative'. Helmut Schlesinger, the Bundesbank president, warned the markets that 'the co-operation between the Bundesbank and the Bank of France is as close as it ever was'.
The franc fell to Fr3.4110 to the mark by 4pm, after which ERM members no longer have to keep their currencies within the system's bands. This was its lowest close since mid- March and less than two centimes from its floor of Fr3.4305. It then dropped towards Fr3.42 in after-hours trading. The franc has fallen almost four centimes since last Wednesday.
The franc had used up 80 per cent of its permitted divergence below its central rate in the ERM by the close. It is assumed - but not obligatory - that central banks will take steps to defend the currency when this 'divergence indicator' exceeds 75 per cent.
Speculators and institutional investors moved out of francs, but the selling pressure was less than the pound suffered in the immediate run-up to Black Wednesday. Dealers hesitated to take big speculative positions ahead of Thursday's Bundesbank council meeting, when some analysts expect the German central bank to throw the currency a lifeline by cutting its interest rates again.
The Bundesbank's public support- buying of francs for marks followed more covert intervention late last week. The Bank of France also bought francs, but less publicly. The currency's slide was triggered last week when Insee, the French national statistics agency, warned that the economy was set to shrink by 1.2 per cent this year. The government had been forecasting that national output would fall by only 0.8 per cent.
Mr Alphandery said the markets were looking more to the past than the future. 'I am convinced that the markets will consider that the outlook for the French economy is favourable,' he said. 'I believe that this pressure has no reason to continue.' He said recovery would be led by firms rebuilding their stocks, a pick- up in exports and a stabilisation in consumer spending.
Mr Alphandery sowed the seeds of market nervousness last month by suggesting that France and Germany might be meeting to consider joint interest rate cuts. But Theo Waigel, his German opposite number, tried to reassure the markets that this had not caused an enduring rift between France and Germany by publicly supporting the franc's parity.
Economists believe that French interest rates will have to fall further if the recession is not to worsen unacceptably. The Bundesbank is thought unlikely to cut its rates again until the autumn, amid signs that the German economy may be about to turn round. But the franc's plight may persuade it to move earlier.
The Bank of France left its own interest rates unchanged yesterday, but drained a large amount of funds from the money market to put upward pressure on market rates. Market rates had eased a little on the belief that, one way or another, official rates were eventually coming down.
Alison Cottrell, economist at Midland Global Markets, said today's announcement of German 'repo' details would be closely examined by the markets for clues to the Bundesbank's willingness to help the franc. Fixing a rate for the repo - last at 7.3 per cent - would be risky, as the Bundesbank would have to appear serious about defending the franc without pointing too strongly to another cut in its official rates.
The US dollar was the main beneficiary of the ERM strife. Funds moved out of marks as well as francs, on the belief that the Bundesbank might come to the rescue of the French by cutting rates. The dollar rose three-quarters of a pfennig to DM1.7295, having peaked at over DM1.7350 during the day - its highest for about two years. The pound rose against the mark but fell against the dollar, ending 0.2 points higher at 80.8 per cent of its 1985 value against a basket of currencies.Reuse content