Sterling strengthened broadly on Friday as rallying equities showed investors sidling back into the relatively risky carry trade.

The pound -- with the highest interest rates in the Group of Seven industrialised nations -- benefits from the carry trade where investors borrow low yielding currencies like the yen to fund purchases of higher return assets.

A 4 percent rally in Japanese equities overnight .N225, the biggest one-day gain in nearly six years, showed confidence returning.

"Risk appetite is up with the rally in equities overnight and stocks are, as usual, acting as a barometer of risk appetite," said Adam Cole, global head of FX currency strategy at RBC Capital Markets.

At 8:58 a.m., the pound was up 1.2 percent versus the dollar at $1.9809, its highest in nearly two weeks. The euro was down 0.5 percent at 74.37 pence. Against the yen the pound was up 0.7 percent at 213.33 yen.

Confidence that a U.S. tax rebate plan and a bond insurer rescue plan will have a positive impact on the U.S. economy and financial markets helped buoy stock markets in Asia and Europe.

Median pay settlements spiked to a 15 year high of 3.7 percent in the last quarter, figures from pay specialist Industrial Relations Services showed on Friday.

This follows GDP data earlier in the week that showed the economy grew slightly faster than expected and Bank of England minutes that showed only one member of the MPC voted for a rate cut in January, marginally dimming expectations on the extent of rate cuts.

However the prognosis for the economy is still shaky and the futures market is pricing in three interest rate cuts by the end of the year.

Sourced by Reuters