Britain Hikes Key Interest Rates to Bolster the Pound
Britain raised interest rates Wednesday to the highest level in four years, defending the hapless pound against the surging dollar and further dashing hopes of easier credit in the United States.
The Bank of England lifted its money market lending rate by one percentage point to 14%. Commercial banks quickly fell in line, raising their lending rates in turn.
“The pressures were such that they didn’t have much choice,” said economist Peter Fellner of stockbrokers James Capel Inc.
Inflation Worries
The increase was Britain’s 10th in the past year, coming one day after the pound touched 22-month lows in New York. Rates had risen to 13% from 7.5% between June and November as the government resolved to wring inflation out of the economy.
If the rise is followed by other nations, it could lure investors away from the high-flying dollar and forestall lower U.S. interest rates, bond traders said in New York.
“Rate increases by any of our major trading partners takes a little bit of pressure off the Fed to ease policy,” said economist Jason Benderly of Goldman, Sachs & Co.
The dollar, which reached 2 1/2-year highs this week, has been underpinned by firm U.S. interest rates, which enhance the value of dollar-denominated assets. Higher foreign rates would attract more investors to their home currencies.
May Loosen Credit
Some economists said the Federal Reserve may try to rein in the dollar by loosening its yearlong grasp on credit. While a weaker dollar would help the U.S. trade deficit--making American goods cheaper abroad--easier credit also runs the risk of exacerbating inflation.
“We’re in a box in that respect, with a trade-off between fighting currency movements or maintaining the anti-inflation campaign,” said economist Stephen Roach of Morgan Stanley & Co.
“The Fed doesn’t want to make a knee-jerk move against the dollar only to find they have to reverse themselves six months down the road (due to inflation),” added Geoffrey Dennis, chief international economist at James Capel Inc.
Hopes of lower U.S. rates were dashed Tuesday when the Commerce Department said durable goods orders surged an unexpectedly large 2.9% in April, showing that the economy retains significant muscle.
But higher rates abroad could bring down the dollar without worsening inflation. Economists said West Germany and Japan could raise their own rates as early as next week.
Rates Turned Higher
“The market is acknowledging that foreign banks are going to be raising rates and the dollar’s going to be heading down,” said one Treasury bill trader in New York.
U.S. Treasury bill rates, which fall on forecasts of looser credit, reversed their decline and surged Wednesday, to 8.38% from 8.27%.
The British rate increase was attacked at home, as higher interest rates raise mortgage costs and make corporate and consumer borrowing more expensive. Interest rates were last at 14% in March, 1985.
Industrial leaders said Britain’s output could suffer, while the opposition Labor Party said the Conservative government could not handle the economy and inflation, now running at a seven-year high.
The pound shot up after the rate hike but then sagged, prompting speculation of another round of rate increases. The pound rose to $1.5740 before easing to $1.5690, up from Tuesday’s close of $1.5635.
Stock prices sank in London on fears of the business sector’s reaction to the news. High interest rates tend to divert investors to bonds rather than stocks.
