By Harry Robertson
LONDON (Reuters) - The pound rose against the dollar on Friday as the greenback slipped and as traders looked ahead to the Bank of England's interest rate decision next week.
Sterling was up 0.18% against the dollar at $1.2433. Meanwhile, the euro was little changed against the pound at 85.79 pence.
The dollar index, which tracks the currency against six peers, was down 0.19% at 105.21.
Sterling has been one of the best performing currencies this year, up 2.8% against the dollar since the start of January. But it has fallen since mid-July as the UK labour market has weakened and the dollar has rebounded on the back of a relatively strong U.S. economy.
Jane Foley, head of FX strategy at lender Rabobank, said the pound's failure to rise against a weakening euro was a sign that the "market is skeptical about the UK economy".
The euro has dropped more than 5% against the dollar since mid-July as the euro zone economy has slowed. Against the pound, it's been effectively flat over the same period.
"With inflation higher or stickier, there is still the expectation that the Bank of England will have to do more and raise interest rates," Foley said.
"But there's also the threat that the BoE will have to drive the UK economy into a recession. With those kind of questions the market is still reluctant to buy sterling over the euro."
The Bank of England will set interest rates next week and pricing in derivatives markets shows traders think it highly likely that policymakers will increase borrowing costs by 25 basis points to 5.5%.
On Thursday the European Central Bank raised interest rates to 4% but said it was likely finished tightening monetary policy. The U.S. Federal Reserve sets interest rates on Wednesday.
Inflation in Britain stood at 6.8% in July, compared with 5.3% in the euro zone. British inflation figures for August are due on Wednesday next week, a day before the BoE sets rates.
On Friday, a BoE survey showed that the UK public's predictions for inflation remained broadly stable in August at 3.6%.
(Reporting by Harry Robertson; Editing by David Holmes)