LONDON - Sterling rose to a three-week high in early trading on Friday and was on track for its best week since August versus the dollar, boosted by rising expectations that the Bank of England will raise rates this year.
Many investors are betting the BoE will become the first major central bank to lift interest rates since the start of the coronavirus pandemic.
The market is pricing in a 72.4% chance of a rate hike at the BoE's December 2021 meeting, up from a 45.6% chance a week ago, according to CME data.
The pound has also been helped by dollar weakness over the past three sessions.
At 0812 GMT, sterling was up 0.5% against the dollar at $1.3735, having earlier in the session risen to as high as $1.3739 - its strongest since Sept. 23. It was on track for its biggest weekly rise since the last week of August.
Versus the euro, it was up around 0.3% at 84.61 pence per euro.
The pound jumped against the dollar on Monday after BoE Governor Andrew Bailey stressed the need to prevent inflation from becoming permanently embedded and fellow policymaker Michael Saunders said households must brace for "significantly earlier" interest rate rises.
But on Thursday, two other policymakers - Catherine Mann and Silvana Tenreyro - made more dovish remarks, pushing back against the idea of raising rates.
ING FX strategists said that the dovish comments did not significantly impact the market's expectations for a rate rise.
"Looking beyond today's price action, we still think sterling may have to give up some of its recent gains as our economist expects the BoE to underdeliver on monetary tightening," ING said in a client note.
ING also said that the pound was "complacent" to new Brexit-related frictions between the UK and the European Union.
UK Prime Minister Boris Johnson signed up to the "Northern Ireland protocol" as part of his Brexit agreement in 2020, but has since argued it was agreed in haste and was no longer working for the people of Northern Ireland.
On Wednesday, the EU offered Britain a package of measures to ease the transit of goods to the province, but Britain's Brexit Minister David Frost said that the proposals were not enough.
"This EU proposal appears to have removed the near-term prospect of an escalation that could have fuelled imminent selling of the pound in the markets," wrote MUFG head of research Derek Halpenny in a client note.
"We doubt the pound will get much lift from this latest Brexit issue until there is a sense of progress in the negotiations over the coming weeks."
(Reporting by Elizabeth Howcroft; Editing by Susan Fenton) ((Elizabeth.Howcroft@thomsonreuters.com; +44 02075427104;))