960424

French franc seen

gravitating to

ERM central rate

LONDON: The French franc's surge this year is not over yet, analysts said on Wednesday, and it is now likely to gravitate to its central rate in the European exchange rate mechanism (ERM) for the first time in four years.

The franc's rise against a flagging mark owes much to renewed optimism about European monetary union (EMU) in 1999.

If, as most capital market pricing suggests, French and German interest rates will be convergent by the date of currency union with Germany, then there is little to stop the franc from hitting the 3.3539 per mark central rate.

The spread between 10-year French and German benchmark government bonds, for example, is as low as six basis points.

"As long as this sort of EMU optimism holds up, it makes sense for the franc to rise to the central rate," said Chris Turner, currency strategist at BZW in London.

"There are still risks to the EMU scenario further out, but it's difficult to see where and when they will come from right now," Turner said.

He sees some technical resistance at about 3.3580 francs but that is unlikely to be strong enough prevent the franc pushing further to the central rate.

The franc, trading today just shy of fresh 33-month highs at 3.3759 per mark, has risen 2.2 percent since mid-February.

The rise has been fuelled by a turnaround in market sentiment on European monetary union, which is now biased toward the project starting among a core group in 1999 and driven by political considerations rather than a rigid economic rationale.

Dire German unemployment data and Bundesbank rate cuts have combined with the French government's braving of social unrest at budget cuts to accelerate the rise in the franc.

The franc last hit its central rate on May 1992, before the exit of sterling and the lira from the ERM caused a wave of uncertainty over the system's stability.

Some analysts think the Bank of France may soon try to hold the franc in tighter bands around its central rate than the old 2.25 percent bands it is perceived to target.

"The Bank of France has been remarkably stoical in the face of the recent Bundesbank easing and seems happy to see the franc return to its central rate," said Joe Prendergast, currency strategist at Merrill Lynch.

"But, when it gets to that level a de facto targetting of a super-narrow band may be seen as an attractive policy option."

Turner at BZW said the Bank of France seems comfortable with the franc's appreciation for now and as long as the dollar is rising, as well as other European currencies like the lira, the risks to competitiveness are offset.

Chartists, too, see the franc's rise continuing.

"We see the chances of the franc moving back to 3.3510 as pretty good and that's been our target for some time," said Karen Jones, technical analyst at Credit Suisse in London.-Reuter