UK current account deficit hits six-year high

Britain posted its biggest current account deficit in six years in 2005, according to official figures yesterday that prompted a fall in the pound.

The figures also showed that the share of gilts held by non-UK investors such as central banks and hedge funds rose last year to reach a new record of £113bn, up 44 per cent from £78bn in 2004.

A widening trade deficit combined with a higher bill to help fund the new members of the European Union to leave a current account shortfall of £31.9bn.

As a share of the economy, which analysts see as more meaningful, the deficit widened to 2.6 per cent of GDP from 2 per cent in 2004 and the highest since the economy was close to the peak of the last boom in 1999.

The shortfall was driven by a repeat of the third quarter's record £11bn deficit in the final three months of the year, or 3.6 per cent of GDP. This was driven by a fall in the investment income surplus to a four-year low as US banks repatriated their UK earnings.

The poor outcome, combined with separate figures showing a fall in retail sales and new mortgage approvals, triggered a sell-off in the pound. It fell 0.5 per cent against the dollar and the euro, hitting $1.7348 and ¤1.445 respectively, as traders reacted to hawkish noises from the US Federal Reserve and the European Central Bank.

On Tuesday night the Fed raised its base rate above the UK's for the first time in five years and said further rate rises "may be needed". Meanwhile, two members of the ECB separately warned of inflationary risks in the eurozone economy.

Although the UK's deficit is still half the record level of 5.1 per cent achieved in 1989 ­ the peak of the unsustainable 1980s boom ­ analysts said it could pull the rug under sterling.

Neil Mellor, a currency strategist at Bank of New York, said the 3.6 per cent deficit was "sizeable". He said the pound had been sustained by the recent surge in foreign takeovers of UK companies. "Should investment ebb where it once flowed, there is a clear risk of a marked downward readjustment in the pound's value against the dollar," he said.

"With an ostensibly upbeat Fed maintaining the interest of hawks in the UK, we believe that a yield 'perception gap' will continue to grow into which the pound could fall in the event that M&A interest in the UK begins to fade."

The Office for National Statistics said the £8.3bn widening in the deficit was driven by a £5bn increase in the goods deficit; a fall in the services surplus after the insurance payouts for Hurricane Katrina; and a larger transfer to the European Union for the costs of integrating 10 new states.

A Treasury spokesman said: "As the Chancellor set out in his Budget last week, the economy has continued to grow for the longest consecutive period since records began."