The collapse in the pound came after a four pfennig surge overnight to take it to 2.6370 marks, its highest level since being forced out of the European exchange rate mechanism in September 1992.
But rumours of Bank of England intervention to sell pounds and remarks by Kenneth Clarke, Chancellor of the Exchequer, that British industry was being hurt by the strength of the currency helped to reverse the gains. After a switchback ride, the pound ended the day at 2.5613 marks, down 3.64 pfennigs, and $1.6360, a 4.7 cent fall.
Speaking in the House of Commons yesterday, Mr Clarke said: "At the moment our currency is strengthening very strongly and large numbers of British industries are beginning to get worried that we might get too strong - well, that's a floating exchange rate."
"I actually don't think that [European Union] member states have the complete control over these exchange rates in the way in which others imagine. The market ... determines these things." he added.
Eddie George, Governor of the Bank of England, commented that he was not surprised by the pound's correction yesterday. But speaking after a meeting of the European Monetary Institute, he said he would not speculate about exchange markets.
However, he was willing to forecast inflation, saying: "There are some modest signs of inflation. In the short-term we see it moving to around 2.5 per cent and then moving up a bit."
Market observers said yesterday's sharp lurch down by the pound was also driven by traders keen to lock in profits after what was seen as an unsustainable surge overnight. Tony Norfield, treasury economist at ABN Amro, commented: "The angle of sterling's ascent was increasing as the days went by, so it stands to reason that taking it higher began to look tricky."
Jeremy Stretch, currency strategist at NatWest Markets added: "Some players decided the sharp spike overnight was a good opportunity to lock in some profit."
The pound has appreciated by around 13 per cent since the beginning of August, its rise spurred on by the quarter point rise in UK base rates to 6 per cent in October.
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