THE ECONOMY
The merits of a stitch in time
JOCK BRUCE-GARDYNE
l_dife', in the words of the old barrack roomroom ballad sung to the tune of Haydn's `Austrian Hymn', `Life presents a dismal picture: all around is sin and gloom'. Such is the considered opinion about the current condition of the world economy of Those Who Ought to Know: the OECD, the World Bank, the Bank for International Settlements — even that Gradgrind of the international money set, the IMF. The United States, grappling desperately with its mammoth trade deficit, is winding down to slump. And since those two layabouts, Japan and Germany, are sitting on their hunkers and wilfully refusing to `reflate', nothing but recession lies around the cor- ner. Is there any sign of a good deed in this naughty world? Why yes, there is. Step forward John Bull. Britain, and Britain alone, is doing all it should: doing well, in fact, by doing good.
Yet what do we have here? On the one hand the City of London takes a bath on the strength of one month's `fluke' (the Whitehall epithet) trade returns — so out of date as to be virtually irrelevant anyway — and the stale old news that we are borrowing like crazy from our bank mana- gers. On the other hand the outgoing US Federal Bank Chairman Paul Volcker, no cock-eyed optimist by training or predilec- tion, produces a farewell message to Con- gress which sounds almost euphoric. His fellow-countrymen, he acknowledged, 'are . . . in danger . . . of creating once again a serious inflationary problem'. There was also the shadow of protectionism: 'the clearest, most pressing danger', he called it, and in the light of the Trade Bill approved by a hefty majority in Congress last week, he can say that again in spades. But when it came to the US trade balance and the US rate of economic growth — the matters which principally exercise the pun- dits — he was distinctly up-beat. There were, he reckoned, 'pretty clear' signs that the trade balance was responding to treat- ment. He also divined increasing activity in the US manufacturing sector, a genuine shrinkage of the federal budget deficit, and real progress toward international co- operation in the search for exchange rate stability and solutions to the third world debt problem.
Well, US Fed Chairmen come and go, and even if Paul Volcker bestrode the world like a colossus — as he did — what is his word against such a cloud of witnesses? But the latest figures out of Washington seem to bear him out. In the second quarter of 1987, we are told, the US economy grew by 2.6 per cent, following a revised estimate of 4.4 per cent growth in the first quarter. This may be beggarly by comparison with what seems to be happen- ing just now at home. But it hardly suggests an economy slithering into slump. Nor is the 16 per cent jump in US exports so far this year — half as fast again as the rate which the latest study by Amex reckons to be needed to cure the trade deficit — to be sneered at.
So let us keep our fingers crossed about the American economy, and consider the evidence of affairs at home. Majority opinion, it is fair to say, reckons that the City's reaction to the June money figures and those of May for trade has been vastly overdone. Sterling took the trade returns pretty much in its stride, and since sterling is the indicator which the Treasury watches nowadays, a hike to interest rates does not look imminent. The City's bout of jitters is essentially attributable to two considera- tions: that all that money we are borrowing is being spent on imported goods; and that domestic industry is bumping against the limits of capacity, and buying overseas what it cannot supply to eager customers.
The Treasury is robust on both counts. No one disputes that the belated May trade figures were grisly. But there is no shortage of excuses. On the import side of the balance sheet much of the buoyancy was attributable to the demand for capital goods which is only to be expected when UK domestic output is growing strongly. Furthermore this was the month before the polls, when you never knew what might happen, and wise corporate purchasing directors stocked up 'just in case'. The fall in exports was more depressing: but may well have reflected nothing more substan- tial than misplaced 'seasonal adjustments'.
As to the strains and stretches on manu- facturing capacity, the Prime Minister assures us that we are in no danger of overheating, although she admits to `watching that very carefully'. But for the most part invidious comparisons with 1973, when the 'Barber boom' was heading swiftly for the rocks of the secondary banking crisis, are discounted. At that time inflation was already heading into double figures; nearly two-thirds of firms were bumping against capacity restraints; and Government borrowing represented the equivalent of six per cent of national income. Today, by contrast, inflation is around 41/2 per cent, and showing no sign of rising; Government borrowing looks like substantially undershooting the Chan- cellor's target for the second year running; and evidence of capacity constraints is patchy at worst. This week's eagerly awa- ited CBI quarterly survey was all that the markets could have asked for: buoyant but not bursting.
Now a series of trade returns anything like as bad as those for May would soon put pressure on the pound, and thus presumably induce a rise in interest rates. So it is understandable that this, too, is under the Prime Minister's eagle eye. But if the CBI's returns from member firms regarding export order books are to be believed — and they have proved a fair guide in the past — the slippage in the May export levels ought to be reversed, and it still seems premature to assume that the year's overall deficit will be anything other than manageable.
Yet the City remains morose. Fun- damentally it continues to believe that monetary policy is altogether too loose for comfort. One does not have to go all the way with Shearson, Lehman's Tim Con- gdon and his extrapolation of this year's rise in house prices into double-digit infla- tion by the end of 1988 to feel that the current exponential rise, particularly in the South-East, is a proper cause for concern. Nor do you need a very long memory to treat a revival of enthusiasm for property investment as a warning signal.
This is the trouble with steering the economy by a loose exchange rate leading- rein. So long as sterling keeps more or less in station with the deutschemark the au- thorities will continue to judge that there is nothing much to worry about — and indeed that an interest rate corrective to the borrowing spree might pull the pound out of alignment. Yet if because the June trade returns appeared to confirm the message of those in May, or because the growing unease in the City about domestic monetary conditions began to spread to the foreign exchange markets, a slide in sterl- ing could prove difficult to halt. A couple of stitches now might avert ,the need for more before autumn. But it doesn't look as though the Treasury is of a mind to get out its thread and needles.
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