THE ECONOMY & THE CITY
The Institute and Mr. Callaghan
By NICHOLAS DAVENPORT
THE eagerly awaited Economic Review of the National Institute of Economic and Social Research finally appeared this week—having been delayed by a hefty piece of research into electronic capital goods—and to my great relief disclosed nothing which would greatly alarm the Chancellor of the Exchequer—that is, frighten him into tightening up the credit squeeze. Nearly three months ago the National Institute tended to be painfully gloomy in its forecasts. It saw industrial stagnation ahead and recession in 1966, and even so was doubtful whether Mr. Callaghan would be able to balance our inter- national account by the end of 1966. On this occasion it is more optimistic. It declares that in the second half of the year the national output has been recovering. Exports (up 51 per cent) have been rising somewhat faster than it an- ticipated. Fixed investment, which was flat in the first half of the year, is slowly recovering, thanks largely to the public sector, and should continue to rise up to the first quarter of 1966. Of course, the Institute is not wildly optimistic. It says that the rise in output during the year—that is, from the fourth quarter of 1964 to the fourth quarter of 1965—will be only around 2 per cent, but its forecast now is for a continuing slow rise at about this rate throughout 1966. In other words, it no longer looks for any real 1966 recession. Mr.
Callaghan must be thankful for small mercies.
On the balance of payments problem the Institute still has reservations. The striking im- provement seen in the second quarter of the year was, it says, largely fortuitous. There was a sharp jump in 'invisibles' due to an unexpected rise in the net income of the oil companies (were they trying to mollify an angry Inland Revenue?) and there was a net inflow of private capital on long-term capital account due mainly to dis- investment of overseas securities. Looking ahead the Institute is slightly less optimistic about the balance of visible trade. Exports in 1966, it thinks, will be less buoyant not only to the primary producing countries but also to America: and the imports bill will not be helped by any appreciable fall in import prices. So it thinks that Mr. Callaghan may just miss securing his surplus in the second half of 1966. But.it admits that forecasts of this kind have a high margin of error. Its present reservations should not be taken to imply that the outlook for the balance of payments is radically different. We have had a bad third quarter's trading, but the more recent improvement, it believes, should go on.
This assurance was given on the understanding that the remaining 10 per cent surcharge on imports would stay on. By a majority of three only this was agreed to by the House of Com- mons this week. As I firmly believe that a few selective import quotas would do the job far better than an indiscriminate import surcharge I would have voted with the Opposition, but Mr. Callaghan has always stressed that this is a matter of international politics and that our EFTA partners would not be prepared to accept import quotas. I hope that they will be persuaded before long to change their minds. It would be better for all of us if they did. But Mr. Callaghan claims that the net effect of the surcharge on imports this year is likely to be a reduction of between £150 and £200 million, which is not to be ignored.
In the Commons debate the Chancellor gave a warning that if the restoration of the balance of payments was likely to be threatened next year by a rise in money incomes he would not hesi- tate 'to take action on the demand side to off- set it.' This could mean a rise either in direct or indirect taxation or both. Mr. Jay added: 'There is no hope of getting rid of this [import] surcharge quickly unless we stick with the de- termination Mr. George Brown is showing on the prices and incomes policy.' But if Mr. Brown succeeds only in holding prices and not wages he is making the inflationary gap all the worse. So far this year wage rates have been rising at about 73 per cent per annum and weekly wage-earnings at over 83 per cent. A rise in prices to meet higher costs is, of course, essential to mop up excessive spending power if restraint in wages is impossible. Otherwise the Chancellor will have to move in with a massive 'demand deflation' by way of heavier taxation. The wages in other words are the key to our salvation.
But I must not end on a depressing note, for I really believe in the reasonable, qualified cheer- fulness of the Institute's Review. Commentators, it says, who have been asking when the effects of the deflationary measures will appear are asking the wrong question. The first effects have already appeared in the sharp fall in out- put in the second quarter of the year. The year's rise in output will be only half the rate of 1964. And I would also ask the critics to wait for the hire-purchase figures for November. I believe that they will reveal a sharp drop in the h.p. sales of motor-cars. The credit squeeze is certainly biting into the motor trade. The bank advance figures tell the same story. From now on, the Institute believes, the unemployment rate will begin to rise. What is then wanted is not more deflation—apart from the deflation of wage claims—but a boost to investment through some form of subsidy to replace the deflated investment allowances. If this invest- ment subsidy can be linked up with increased production for export the balance of payments will be restored all the more quickly. And in the New Year, if not before, we can then look for a reduction in Bank rate, even if it is only to 51 per cent. As the Institute concluded its Review: 'It is not desirable in the long term that we should be committed to maintain a level of interest rates which is at all times higher than those in the other main money markets of the world.' The author might well have written this column.
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