ECONOMICS AND THE CITY
The precarious sterling balance
Nicholas Davenport
If Mr Healey ever thought that Labour could win an October election by reflating the economy and making us all feel happy he has been quickly dispossessed of such a foolish idea. His own Cambridge economic tutors are against it. Even Mr Peter Jay, who wishes him so well, writes solemnly in the Times that reflation must wait upon firm evidence that inflation is subsiding, which it isn't. Professor Victor Morgan, at a conference on inflation and company finance organised by the Financial Times, warned him ,that if he reflated the economy too sharply this year inflation would rocket. And Mr Alan Clements, deputy treasurer of the ICI, speaking at the same conference, said there was little choice between hyper-inflation followed by collapse and slump and a major recession induced by a deflationary government which could not control this "dangerous weapon".
At this same conference Mr Harold Lever, Chancellor of the Duchy of Lancaster, disagreed with Mr Clements and argued that there was a choice open to the Government to avoid either of these two calamities. The Government's objective, he said, was to steer a middle course between a serious recession and hyper-inflation. "We are set against deflation," he added, "since in prOsent circumstances it will not cure inflation but add Slump to it — the 'slumpflation' we all talk about." Mr Lever is immensely popular and whenever business confidence has collapsed and the Stock Exchange is slumping he is always asked by the Prime Minister to make a speech to restore goodwill. So he reiterated that the Government does not want a confrontation with business and is committed to maintaining a mixed economy. Those, of course, are Mr Lever's views but unfortunately Mr Lever is not in power. The militant left wing now dictating Labour policies are set against a mixed economy (as Clause 4 of their Labour constitution requires them to be) and in favour of a socialist i economy. Mr Wilson as usual s pretending there is no split in his hopelessly divided party. . I doubt whether Mr Lever is right in saying that the Government can steer a middle course. As no incomes policy is possible we are faced this autumn — to quote Mr Peter Jay's admirable words — with the most violent pay explosion
which this country has ever known . . . The social contract will take its place in history beside Neville Chamberlain's 'bit of paper' (at least he had one)." This explosion will upset the precarious balance of sterling, for, until the oil starts flowing out of the North Sea in substantial volume, which will not be for two years, sterling is a vulnerable currency.
We have somewhat faked-up reserves of £2,390 million ($6,920 million) of which over £1,000 million is accounted for by borrowing in dollars for the public sector. The effective depreciation of sterling in terms of the major currencies is now 17 per cent (against 181/2 per cent in the fourth quarter of 1973). Our sterling liabilities have risen to over £4,000 million and the Government has had to extend the guarantee to the official holders against any further depreciation (over 181/2 per cent) for the period up to the end of 1974. About 30 per cent of the total sterling liabilities is held by Australia, Hong Kong, Eire and New Zealand and about 33 per cent by the Middle East. I am not sug gesting that these, countries will want to withdraw their balances in a hurry but the point I am making is that none of the holders of these huge balances will want to see the British balance of payments go to pot.
In the first quarter of 1'. e year we had a visible trade deficit on our balance of payments of no less than £1,290 million of which £720 million was attributable to trade in oil and £570 million to trade in other goods. After crediting the 'invisibles' the current trade deficit, seasonally adjusted, was £980 million. The Government hopes to bring the 1974 payments deficit down from its threatened £4,000 million to £3,000 million or below by eliminating the non-oil trade deficit. Certainly, this particular deficit was reduced by £150 million in the first quarter and again in April but the May trade figures were appalling. Exports were particularly disappointing. If the June figures do not show great improvement we shall be in trouble.
The only reason why we are not in trouble already is because we have been financing the massive deficit very cleverly, thanks in part no doubt to the financial skill of Mr Lever. We have been maintaining our reserves by using the shortterm surpluses of the oil companies and inducing the Arab oil producers to make short-term deposits in the UK. We have also been borrowing abroad to finance our public boards and local authorities, so that the dollars raised are immediately credited to our reserves. This is a pleasant accounting trick, for sometime they will have to be repaid. It is astonishing that in 1973 the amount borrowed in foreign currencies to finance loans to the public sector was the equivalent of over £1,000 million and in the first quarter of 1974 £276 million. The total reserves of the UK are, you
might say, faked up to this extent.
The Government had lately announced a plan to spend an additional £600 million on investment in coal which will also no doubt be borrowed abroad. The idea is to maintain coal production at around 120 to 130 million tons by opening up a new coal field in Yorkshire. But if the energy programme allows for the full development of the prolific North Sea oil fields and maintains the modest growth in nuclear energy and gas supplies, we shall not need this extra investment in coal. We shall merely be adding to a foreign currency liability and putting ourselves more in the hands of the militant miners who are now demanding £5,000 a year for a four day week and making plans to hold up the nation to ransom again if their demands are not met.
Mr Healey's brave words, his promise that the Government, if necessary, would act to avert the danger of a serious recession in Britain, have therefore fallen flat. The FT index fell from 258 to 246 but is trying to pick up on Mr Lever's reassuring words. (He is always good for a point or two on the right side, especially when he gives a broad hint, as he did, that the Government is about to relax the dividend restraint.) Mr Healey's other hope that the economy will avoid a recession is likely to prove false. The first move he may make towards reflation would probably be followed by a new sterling crisis.
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