25 JUNE 1983, Page 15

In the City

Mr Lawson's agenda

Jock Bruce-Gardyne

The day I signed on at the Treasury as Economic Secretary in September 1981 the Financial Times index fell 15 points, sterling almost disappeared from view, and government funding — for which I was to become responsible — stalled. I recall this painful memory only because my old friend Nigel Lawson has had a not dissimilar experience. On 10 June he came back to the Treasury as Chancellor. Like me — albeit at a more rarefied level — he trails clouds of deprecation for supposed aridity. Like me he is slated as a `monetarist': a born-again Gladstonian who will pursue a balanced Budget while the heavens fall upon the welfare state. Yet like me he was greeted by the international markets with a heavy rebuke. How can these things be?

In Mr Lawson's case, at least, the explanation appears to have been the half- point off base rates on 14 June. So do great oaks from little acorns grow. The markets, we are told, reckoned that the evidence from the domestic money figures pointed to a hardening of interest rates rather than a softening; that the news from Wall Street, where rates were trending upwards, rein- forced the message; and therefore that the cut in base rates was designed to curb the international appetite for sterling. (One other proposition, that it was intended to dissuade the building societies from raising mortgage rates, really will not wash: there may have been scope for argument about the legitimacy of the case for higher mort- gage rates, but a cut of half a point on base rates was neither here nor there.) Well, the markets can take a hint. If the authorities want a cheaper exchange rate, that is what they'll get.

So this seems as good a moment as any to try to analyse what the new Administration may hope to do with interest rates, the ex- change rate, and monetary policy. Back in the summer of 1981, when sterling was sliding swiftly off the icy peaks of $2.40, 1 asked Nigel Lawson, then Financial Secretary, about the impact of the slide upon inflation expectations. I was sternly reminded that future inflation (not quite the same thing, but let that pass) was deter- mined by domestic monetary conditions, and not by the exchange rate. Should we therefore deduce that now he is himself in charge of the shop, policy will be guided ex- clusively by what happens to the monetary aggregates?

Life, alas, is not that simple. For one thing, pace Nigel Lawson in his former in- carnation, no British Chancellor can ignore what happens to the exchange rate. We are too exposed to international trade for that. For the past two years the official line has been that the exchange rate is to be seen as one indicator among several of the relative severity or laxity of domestic monetary con- ditions. But there are few — if any denizens of Great George Street (let alone the Bank of England) who would witness cheerfully a return to a $2.40 exchange rate, or an effective rate above the 1975 level where that index started. And equally there are few — if any — denizens of Great George Street (let alone the Bank of England) who would sit calmly if the.pound were to sink as sharply as it did in 1976. The authorities may have all the circumstantial evidence they need that the strength or

weakness of the pound is attributable to ex- pectations of a stronger or a weaker price for oil, or of a jump or tumble in US interest rates — factors unconnected with domestic monetary conditions, and beyond the reach of any British government to regulate. That will not inhibit them from reaching for the interest rate button if things in the exchange markets appear to be getting out of hand.

For another thing the experience of 1980 has left it scars upon the Whitehall folk- memory. Whether or not it was really in the power of the Treasury and the Bank of England to stem the skelter into sterling at that time — short of dumping Mrs That- cher, reinstating the Shah and imposing peace upon the Iraqis and the Iranians — must be a matter for speculation. Personal- ly I tend to doubt it. But according to the conventional wisdom of 1983 it was possi- ble: and the failure of the Treasury and Bank to act to get the exchange rate down was responsible — as Mr du Cann's com- mittee helpfully put it in the middle of the election — for up to half the subsequent recession. 1 cannot see the Treasury, under Nigel Lawson or anyone else, risking indict- ment for a second offence.

Besides there would be small disposition anywhere in Whitehall or Threadneedle Street to quarrel with the proposition that real interest rates are still too high for com- fort and ought to be reduced if they safely can be: and there has been some evidence although we shouldn't build too much upon it — that the impact on domestic prices of a slide in the exchange rate isn't what it used to be, whether because home-grown expecta- tions of inflation are diminished, or because the intensity of competitive pressures obliges importers to take the cost of cheaper sterling on their margins. And if you can view a bit of slippage in the pound with equanimity or pleasure, then reducing base rates to please the industrial establish- ment and deter the building societies from pushing up our mortgages is bound to look alluring.

So far, so good. But then there are those boring monetary aggregates. The financial year is still young, and many things can happen between now and next March. Nevertheless on present trends the 7-11 per cent range set out in the Budget Red Book is going to look a busted flush. Now there are always weird and wonderful alibis to ex- plain away the figures: people have lost the keys to their piggy-banks, or the gremlins have got into the seasonal adjustments, or the Ministry of Defence had some headroom in its cash limits which it contriv- ed to spend away before it had it clobbered back. And there may be some substance in some or all of them. But if you look at what is happening to consumer spending and the savings ratio and house prices it does become increasingly difficult to believe that there is not a bit of flab around the belt.

To which there will be plenty of un- solicited counsellors to tell our brand-new Chancellor `so what?' The recovery in the 'real economy' is still patchy, to put it mild- ly. The trend of unemployment is still inex- orably upward. And the latest forecasts for inflation are looking rather better than they were when Geoffrey Howe was composing his last Budget. This is no time to punish us with another monetary squeeze.

Well, certainly one needs to look at where the pressure is coming from. It is not im- mediately apparent that bank lending to the private sector — to which the appropriate response, if one thought it was excessive, would be higher interest rates — is the villain of the piece. On the other hand it does begin to take a pinch of optimism to believe that the apparent rate of public spending is consistent with the £8,000 million forecast for the Budget deficit, or anything particularly akin to it. I think that if I were Nigel Lawson I'd be inclined to tell the new Chief Secretary to get his scissors out quickly.

But if living in the Treasury taught me anything, it was this: that the ability of British ministers, however brilliant, to com- mand the waves is small indeed (and I speak as one who started as a sceptic). If Opec's act falls apart, the pound will suffer, and there's not that much that Nigel Lawson can do about it. And if Henry Kaufman persuades the US bond market to take to the hills, our interest rates will rise in sym- pathy. All British ministers can achieve is damage limitation, which in practice means, more than anything else, ensuring that the Government's need to borrow is firmly on a downward path.

The markets, of course, would wish it otherwise. 'If only the Government would come clean,' they cry. If it has a target for the exchange rate, or interest rates, or if it means what it says about the monetary ag- gregates, and we can know that it will act accordingly, that's all right by us. What we can't abide, they say, is the uncertainty. Leaving aside the point that certainty about the intentions of the authorities may suit the markets better than it will suit the authorities, I do not believe it is on offer. We live in interesting times.