Markets hit by fears that gloom on economy may be overdone

DIANE COYLE

Economics Correspondent

Concerns that the economic outlook might not be as gloomy as feared hit interest rate hopes and sent financial markets lower yesterday.

Gilts and shares in London ended lower, following Germany's lead, although the Dow Jones Average closed up 33.60 at a record 5,407.59

Remarks by Howard Davies, Deputy Governor of the Bank of England, that growth as high as 3 per cent this year was well within the realms of possibility followed figures showing the narrow money supply was slightly more buoyant than expected last month.

City analysts do not expect the Chancellor, Kenneth Clarke, to reduce base rates after his meeting with Eddie George, Governor of the Bank of England, tomorrow, after two moves in the past two months, but are still betting on one more quarter-point reduction from the current level of 6.25 per cent before midsummer.

Gilts ended more than a point lower in heavy trading, while the FT-SE 100 index closed down nearly 35 points at 3,746.6.

A weak performance by German government bonds yesterday also affected gilts. The bund market fell after figures showing an increase in German output for the second month running in December.

US treasuries echoed the weakness in European markets, overshadowed by the prospect of record sales of bonds due this week. The Treasury is scheduled to auction bonds worth $44.5bn between today and Friday.

The dollar fell below 105 due to uncertainty about Japanese buyers' interest in the auction. It was down more than a pfennig at DM1.4625.

Cash in circulation in the UK rose more than expected in January, even though a big drop in banks' balances held at the Bank of England meant the overall growth of the narrow money measure, M0, dipped.

Narrow money fell 0.2 per cent during the month due to this pounds 128m decline in bankers' balances, following a 0.9 per cent jump in December. M0's annual growth fell to 5.3 per cent from 5.7 per cent.

Notes and coins in circulation rose 0.3 per cent last month, taking year-on-year growth to 5.7 per cent - similar to its rate of growth in the previous six months. The Bank warned adjustment for seasonal variation was difficult over Christmas and the new year.

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