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BANK OF ENGLAND TO LEAD GLOBAL INTEREST RATE RISES IN 2004

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London - The U.S. Federal Reserve and the European Central Bank will hold off raising interest rates until the second half of next year, lagging behind steady rate rises from the Bank of England, according to a Reuters poll.

The poll of 44 bond strategists forecasts that the Fed will hold its benchmark rate at 1.0 percent until at least the end of June, waiting for confirmation of a healthier jobs market before raising it to 1.75 percent by the end of 2004.

The ECB is expected to lift rates modestly to 2.25 percent by the end of next year from the current 2.0 percent, while the Bank of England, which has already lifted its repo rate to 3.75 percent, will push rates up to 4.5 percent by end-2004.

The poll reflects the Fed's renewed promise this month to keep official rates low for a "considerable period". Forecasts for the U.S. fed funds rate at the end of next year range from 0.75 percent to 2.75 percent, still low by the standards of the past three decades.

Holger Schmieding at Bank of America in London said, "The Fed desires no further fall in inflation. It will thus be cautious and patient before it starts to raise rates. By the second half of next year, we will have seen a year of significant employment gains, we'll have seen the bottom in inflation and those should be reasons for the Fed to reduce the degree of the stimulus."

Some strategists also expect the ECB to cut again after the dollar's plunge in value against the euro, which is holding down import prices and holding back economic growth. However, other just expect the ECB to sit tight through 2004.

"Protracted ECB tightening remains the most likely scenario going forward as the bank needs to balance the deflationary impact of a stronger euro with the boost to purchasing power resulting from falling import prices," said Guillaume Menuet at Moody's Investors Service in London.

The biggest interest rise is forecast for the UK, whose economy has remained relatively buoyant throughout the global downturn of the past three years due to homeowners borrowing on the back of a booming housing market. The Bank of England is forecast to raise rates again to 4.0 percent by end-March, 4.25 percent by end-June and 4.5 percent by the end of 2004.

"The UK consumer is unlikely to be deterred by one rate rise, especially against a background of improving global and domestic growth. The bank is thus likely to have to steadily increase rates to temper this excessive enthusiasm" said David Page at Investec in London.

At the other end of the scale, most strategists expect the Bank of Japan to keep rates effectively at zero percent through next year while the economy recovers from years of stagnation and falling prices.

"The BoJ will probably not change its zero percent rate policy in 2004, waiting for inflation to rise well above zero first," said Schmieding at Bank of America. "We expect that to happen at the end of 2004."

The mid-range forecasts from the poll anticipate less aggressive tightening than that currently priced in by interest rate futures markets. The biggest gap is on euro zone rates, where futures are pricing in official rates close to 2.75 percent by the end of next year.

Short sterling futures are closer to the strategists' forecasts but eurodollar futures imply an initial rise in U.S. official rates to 1.25 percent by June 2004 and around 2.0 percent by the year-end.

Interest rate hikes and increased borrowing in Britain should drive gilt yields higher in early 2004, gently stretching the yield gap between British and German government bonds. However, in the longer term, British interest rates are unlikely to rise as fast as the market expects and Bunds should feel the impact of the euro zone's long awaited economic recovery, thus stopping the gilt/Bund gap from becoming too large.

The mid-point of 33 forecasts in the December 11-17 quarterly survey showed the spread between the benchmark 10-year gilt yields over Bunds edging up to 59 basis points by end-March from around 50 points on Wednesday. In the September survey, strategists had expected the yield gap to shrink to 40 basis points in March.

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