Further strengthening of sterling over the past month may well prompt the Bank of England's Monetary Policy Committee (MPC) to sanction another quarter point reduction in UK interest rates to 5.0 per cent today.

A month ago, at its last meeting, the bank's MPC noted that this year's appreciation of sterling, particularly against the new euro currency, posed a threat to the achievement of the British government's medium term inflation target. It was feared that the higher level of sterling could add to downward pressure on domestic price levels and lead to a fall in the rate of underlying inflation to less than the government's 2.5 per cent target.

Since then, sterling has consolidated its new "hard currency" status, firming from 2.90 to 3.05 deutschmarks, and the euro/sterling rate has weakened from 66.0 to nearly 64.0 pence. This represents sufficient tightening of monetary conditions for the MPC to recommend a resumption of its programme of interest rate reductions.

Currency markets have been adjusting this week to the prospect of a reduction, putting sterling slightly lower against the euro and taking it back to DM3.0. Most domestic economic indicators are also signalling the need for further interest rate reductions to stimulate the economy sufficiently to prevent inflation falling below the government's target. Although jobless numbers are continuing to edge downwards, wage and retail price inflation remain on a declining trend.

The Greater London economy may be enjoying boom conditions, buoyed by the strong weighting of service industries. But the economy as a whole is stagnating and the outlook for manufacturing industry in the midlands, northern England and Scotland is bleak.

Renewed slackness in commodity prices, together with sterling's appreciation, suggest that the inflationary risks of lower interest rates could well be lower than the stagnation risks of unchanged rates.