THE Central Bank has continued to intervene in the foreign exchange markets in an effort to keep the pound trading above parity against sterling.
The pound slipped below 100p a couple of times yesterday, but Central Bank buying quickly knocked it back over the limit. It closed the day at 100.15p sterling from 100.14p at the end of last week.
At the same time, the pound surged to close another post currency crisis high at 2.4950 against the deutschmark, from DM2.4875 - on Friday. The move against the German currency resulted from a late surge of over a pfennig in sterling on the markets, which brought it to DM2.4871.
The jump in the Irish currency's value against the deutschmark means it is now substantially outside the old 2.25 per cent ERM band against the German currency. While this band is no longer in force, the market still considers it to be an important indicator. The pound was around 3.4 per cent above the deutschmark in late trading yesterday.
The bank may now be prepared to allow the pound to use much more of the leeway in the current 15 per cent ERM band, if this is necessary to stop it from falling against sterling. The top of the pound's 15 per cent band is DM2.77. But the bank is also thought to be concerned that it is already the most volatile currency among likely single currency entrants.
Sterling benefited after figures were released showing a 0.7 per cent growth in MO in October, giving a year on year rise of 7.5 per cent from 7 per cent in September. The figures bolstered expectations that another UK interest rate rise could be on the way.
Last week, sterling took on a new lease of life after the Chancellor of the Exchequer, Mr Kenneth Clarke, announced a quarter point rise in base rates.
The Central Bank authorities took the decision to stop the pound falling below sterling rather than track the deutschmark, because of the inflationary dangers of a low exchange rate against the UK currency. They are now keenly waiting for the UK Budget at the end of the month for signs of the likely next move in sterling.
So far, the Central Bank's buying is working but central banks do not always get their way, Mr Jim Power, chief economist at Bank of Ireland, warned.
"If sterling continues its upward journey we could have a major problem hanging in above parity," Dr Dan McLaughlin, chief economist at Riada Stockbrokers, said.
Mr Power added that if sterling does threaten to move as high as DM2.55 it would be very hard for the bank to hold the pound above parity. "We could be talking 98p in that situation," he said.
Analysts believe that if the bank had not been selling in recent weeks, the pound would now be just above 101p and at DM2.50.
But according to Mr Power, the fact is that in a post monetary union world currency fluctuations because of sterling will be a way of life.
"The Central Bank's options are not great," he said. "But if sterling is outside monetary union and is volatile we have got to learn to live with it.
He added that one answer is to have more flexibility in running the economy. "The new PCW should build in a large element of wage flexibility," he said. "And on the fiscal side we should make a much larger effort at balancing the Budget or even moving into surplus. That would give us a lot more scope to deal with sterling down the road."
It is also possible that sterling will hold on to its strength well into next year. "There is a lot of fundamental support for sterling," Mr Power said. "It could hold on to its gains until a general election is called."
