Sterling fell sharply against the euro on Thursday as a weak UK services sector survey and hawkish comments from the European Central Bank raised the prospect of euro zone interest rates rising before UK rates. ECB President Jean-Claude Trichet said eurozone rates could rise next month - stunning markets which were expecting a rise late this year - and pledged "strong vigilance" on rising inflation, a phrase that in the past has signalled a forthcoming rate rise.
Expectations for an early UK rate rise in contrast were scaled back after a below-forecast purchasing managers' survey on the key UK services sector. The euro rose around 1 percent on the day to a high of 85.80 pence, leaving it on course for a test of the February high of 85.93 pence. A break of this would leave the 2011 high of 86.53 pence in sight.
Markets are currently pricing in a 25 basis point UK rate rise from 0.5 percent in June or July, with a further two hikes likely by the end of the year. Against the dollar, sterling was down 0.4 percent at $1.6259, having hit a session low of $1.6254, pulling away from a 13-month high of $1.6344 hit the previous day. The pound had rallied since the start of the year on growing speculation the central bank may soon tighten monetary policy to tame inflation pressures.