Sterling breaks through DM3 barrier

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The pound broke the DM3 barrier yesterday afternoon, in the aftermath of the Bank of England's decision this week to increase interest rates for the third time in three months.

It was the highest level sterling has attained for more than six years. While it eventually ended a whisker under DM3 yesterday, analysts were predicting the prospect of further interest rate rises would send it much higher next week.

Sterling's index against a basket of other currencies climbed by 1.1 points to 104.9.

The buoyant mood spread to the stock market, dampened only by a sharp 7.7 per cent fall in BT's share price. The FTSE 100 index gained more than 31 points to close at 4,799 yesterday, with BT taking about 15 points off the index. Shares sheltered from the strong pound, especially retailers and banks, fared particularly well.

A strong performance across the Atlantic boosted both the pound and shares. By the time trading closed in London, the Dow Jones index looked to be heading for the 8,000 level. It was 33 points up at 7,919.78.

The dollar too reached its highest level against the German mark for six years, aided by a combination of more good news on the US economy and an uninspiring German budget.

"The scale of this massive move in sterling has caught everyone by surprise given that there was no news during the day. It is driven by interest rate expectations," said Michael Lewis at Deutsche Morgan Grenfell.

Robin Marshall, chief economist at Chase, said: "The trouble with the Bank of England moving interest rates in short steps is that it leaves everyone looking forward to the next one. The tactics are wrong."

Figures due next week could fuel the currency market's love affair with sterling if, as expected, they continue to paint a picture of a very buoyant economy.

Bronwyn Curtis, chief economist at Nomura, said the parallels with the late 1980s - the last time the pound stayed above DM3 for any length of time - were striking.

"It is nonsense to say the pound can go up for ever, but it could stay high until either the trade gap starts getting wider or it looks as though interest rates are at their peak," she said.

Market Report, page 22