---- by VICTORIA MAIN ----
LONDON (AFX) - Sterling looks set to remain weak in the short term on the view that the government will crank up the pace of euro entry following its likely re-election today, according to economists. The prospect of the UK's participation in the economic and monetary union has sent the previously robust currency plummeting to record lows against the dollar.
"The UK general election is universally expected to result in a win for Labour, and sterling has already started to come under pressure," Royal Bank of Scotland economists said in a research note. "This is not because the markets have any quarrel with the government's policies, but simply because a large Labour majority opens the way for an EMU referendum sometime in the next two years," they said.
They concluded that, whatever the probable outcome of a referendum, the mere prospect of entry "will maintain downward pressure on the pound in the aftermath of the election".
Investec chief economist Philip Shaw said foreign exchange markets have woken up to the fact that euro entry "will be a live issue in the post-election environment".
He added, "Our view is that in the short term pressure will intensify on the pound as we see mounting speculation about the government's plans to launch conversion campaigns persuade the public of the merits of entering the single currency."
Societe Generale economic research director Brian Hilliard agreed sterling will weaken further in the short term.
"There's going to be a lot of speculation until the election result is out and there's a clarification of the government's referendum intentions," he said.
"Sterling is certainly hurting at the moment but the important thing to remember is that it's weaker against the dollar. We're not going into monetary union against the dollar; it's against the euro so it has to weaken substantially against the euro before all this has much importance," he said.
JP Morgan economist Danny Gabay was of the same view that "it could fall further against the dollar but the key is against the euro, and I think that until Blair announces or doesn't announce a referendum we won't see much movement".
Gabay saw a realistic entry level as "anywhere between 0.55 stg and 0.70 stg, so that puts you at around 3.0 dm if you go for the middle." He said the UK would have to accept reality despite domestic pressure for a more advantageous entry rate.
"The British manufacturer will want it weaker, but Germany and France won't. But we've put ourselves in the position of coming late to the party so we're not in a very strong bargaining position," he said. Societe Generale's Hilliard said a comfortable entry rate would be around 0.66 stg but a "more realistic one is wherever they are when the negotiations take place".
He noted that existing EMU members would be reluctant to bequeath the UK an exchange rate advantage.
Investec's Shaw was picking 0.65 stg as the rate that UK manufacturers and the rest of the European Union could most realistically accept.
Royal Bank of Scotland economists said that while prime minister Tony Blair has ruled out an artificial devaluation, few people believe sterling is likely to enter at 0.652 stg or above. They said 0.6985 stg is a more appropriate rate.
As for the likelihood that the government will proceed with a referendum, JP Morgan's Gabay said it is a matter of now or never. "I'm increasingly of the view that if Blair doesn't go for it in September he won't go for it in the next parliamentary term," Gabay said.
"If he can't muster the courage to go for it having decimated the Opposition to win a historic second consecutive term for a Labour government, I don't think he's going to do it," he said. Investec's Shaw noted the public's current opposition to euro entry and predicted that "the government will have an uphill task in persuading the electorate otherwise".
Royal Bank of Scotland economists observed that, for all Blair's apparent commitment to joining the euro, he has to overcome the scepticism of the public and of chancellor of the exchequer Gordon Brown.
"Blair will also face the potential banana skin of the issuance of euro notes and coins at the beginning of next year. If this is a debacle as some suggest, the chance of a yes vote in the referendum disappears with it," the economists said.
At 2.45 pm, sterling traded at 1.3841 usd and 1.6326 eur.