London, July 4: Sterling took a breather on Friday after its relentless rise since Wednesday's British budget took it to its highest against the German mark in almost six years.

European markets were calm and thin because of the US July 4 Independence Day holiday. But analysts said sterling would probably gain further and was heading for three marks, conjuring up memories of Britain's unsuccessful attempt to shadow that level in the late 1980s under then conservative chancellor of the Exchequer Nigel Lawson. "The market has built an aggressive UK interest rate forecast post-budget and the other side of the equation in Germany is still truly awful," said Michael Burke, economist at Citibank. "In that situation, you can't rule out sterling at three marks."On Thursday the pound cleared 2.95 marks, its fixed target rate during Britain's membership of the European exchange rate mechanism (ERM) between 1990 and 1992.

Sterling was forced out of the ERM in September 1992 and effectively devalued by more than 20 percent over the following three years.

Investors and speculators searching for attractive interestrate returns in a generally low yield global environment are flocking to the pound.

Fuelled by robust economic growth, Britain has the highest base lending rates of the major world economies. Only Ireland at 6.75 per cent and Greece with a discount rate at 14.50 percent are higher in the European Union.

At 09:30 GMT, the pound was trading at 2.9500/10 marks compared with 2.9580/90 in late European trade on Thursday and off Thursday's peak at 2.9620 - its highest since August 1991. Against the dollar, sterling was at $1.6846/56 compared with $1.6900/10 late Thursday and shy of a five month high at $1.6920 set on Thursday.

The broadest measure of sterling strength - its index against a trade-weighted basket of global currencies - set a new six-year high at 103.6 in early trade. Traders said there was still no sign of Bank of England intervention on the currency markets to cap sterling.

The British interest rate market is now discounting at least a half-point rise in interest rates by September. Some traders say that half-point could come as soon as the newly independent Bank of England's council meeting next week.

"Sterling looks technically stretched today but there is nothing to stop it going back up and testing 3.0 (marks)," said Ian Morris, international economist at HSBC Markets. "The UK is the only country that requires sustained rate rises."

Wednesday's 1997/98 budget from chancellor of the Exchequer Gordon Brown triggered sterling's latest surge as the fiscal tightening was seen as insufficient to rein in strong consumer demand. This leaves interest rates to take up the slack, economists said. Interest rates are expected to remain low in continental Europe as a result of sluggish economic activity, high unemployment and tight fiscal policies aimed at meeting guidelines for European Monetary Union. Even in the United States, the market is scaling back expectations of higher interest rates. The June US employment report on Thursday again showed no sign of inflationary pressures in the economy despite brisk economic growth. US average hourly earnings rose 0.3 per cent in June and 3.5 per cent over the past year. With sterling considered by many economists to be at level swell above fair values, technical analysts and chart watchers are holding sway. These analysts too see further sterling gains. "There is not much in the way until 3.00 (marks)," said Karen Jones, technical analyst at CSFB. "There is absolutely no sign of failure."

Copyright © 1997 Indian Express Newspapers (Bombay) Ltd.