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Sterling slides as PMI surveys signal a recession

British pound coins are seen in front of displayed stock graph in this illustration

By Samuel Indyk

LONDON (Reuters) -Sterling fell on Tuesday, underperforming all other major currencies, after data showed economic activity weakened further in January, underlining the risk that Britain could slip into a recession in 2023.

Private-sector economic activity fell at its fastest rate in two years in January, the S&P Global/CIPS flash composite Purchasing Managers' Index (PMI) survey showed, as businesses blamed higher Bank of England interest rates, strikes and weak consumer demand.

"At best, the UK economy will stagnate this year. Realistically we're likely to see a recession at some point," said Simon Harvey, head of FX analysis at Monex Europe.

"As we start to see the economic reality coming through, this will likely lead to sterling underperforming over the coming months," Harvey added.

The pound was the worst performer in the G10 and was last down 0.67% against the dollar at $1.2293. On Monday it hit its highest level in seven months at $1.24475.

The euro was up 0.67% against sterling to a one-week high of 88.40 pence after euro area business activity data signalled modest growth in January, adding to signs the downturn in the euro zone may not be as deep as feared.

The Bank of England is still expected to raise its key interest rate for a tenth consecutive time on Feb. 2.

Market pricing is indicating just under a 70% chance of a 50 basis point rate increase. A 25 basis point hike is fully priced in, according to data from Refinitiv.

Separate data showed Britain's government borrowed more last month than in any December since monthly records began 30 years ago, reflecting the huge cost of energy support and soaring debt interest costs.

"The government reported horrendous borrowing data," said Scotiabank chief FX strategist Shaun Osborne.

"Fiscal policy — and foreign investor participation in the UK Gilts market — remains a potential weakness in the GBP outlook," Osborne added.

On Monday, British Prime Minister Rishi Sunak said he had asked his independent ethics adviser to look into a tax case involving the chairman of his governing Conservative Party because there were "questions that need answering".

"The backdrop is one of political turmoil, labour shortages, industrial action, higher inflation pressures and weak consumer outlook," Monex's Harvey said.

"It's not a pretty investment picture and the political noises are definitely not helping," Harvey added.

(Reporting by Samuel Indyk. Editing by Jane Merriman and Christina Fincher)