This coming week forty years ago, the UK was bailed out by the International Monetary Fund (IMF). To commemorate this, on Thursday December 9th, a panel discussion was hosted by the Treasury, organised in conjunction with the Official Monetary Financial Institutions Forum (OMFIF). I took part in the panel, and this note summarises my comments on the lessons of ’76 and their implications for now. Johannes Witteveen, the Managing Director of the IMF in 1976, spoke, and the panel afterwards was chaired by David Marsh of OMFIF. It included RT Hon Lord Owen, later Foreign Secretary; Lord Donoughue; Richard Roberts, author of a book on this topic; and myself. In 1976, David Owen was a minister and rising star of the Government, while Bernard Donoughue headed the Number 10 Policy Unit. The event at the Treasury was entitled ‘When Britain Went Bust’, although the reality is that the UK did not go bust!
I began 1976 in my fourth year at Cardinal Vaughan School, London. While the 70s were a great time to grow up, they were a grim time for the economy, and I have vivid memories of that decade, from the closure of the engineering firm my father worked for, through the three-day week, the miners strike, and the ‘winter of discontent’. As for ’76, my economic memory — by then, as a fifteen year old — was of the main news showing the Chancellor of the Exchequer shouting to be heard from the floor of the Labour Party Conference in Blackpool. I will reflect below on some of the comments made by those who were present at the time, such as Johannes Witteveen, David Owen, and Bernard Donoughe. But, first, here is a summary of the comments I made at the Treasury-hosted event.
First, there are lessons from ’76 for the Treasury today. One aspect of this might be viewed as a reality check. In ’76, the Treasury dealt effectively with where the economy was, not necessarily with where it wanted it to be. It was a learning process then, as it is likely to be now. Today, following the EU referendum, the Treasury needs to learn that lesson from ’76, and deal with where we are now, with the country having voted to leave the EU, which is perhaps not where some at the Treasury may want it to be.
Another lesson for the Treasury is the quality of output. The official documents produced in ’76 had real substance. For instance, Dennis Healey’s Public Expenditure White Paper in February that year, which dealt with the main issue at the time and related it to the wider economy, was illustrative of official documents. Contrast that with the Treasury document released before this year’s referendum, and the focus on substance, back in ’76 — versus spin, now — is clear. Perhaps there is a need to return to that previous focus.
Second are the wider economic lessons. The economic outcome depends upon the interaction between the fundamentals, policy, and confidence. And ’76 highlights the importance of confidence. It was a point Lord Owen highlighted in his speech at the Treasury, stressing that ‘the restoration of confidence’ was a key part of the deal with the IMF. Indeed, the following sequence of events highlighted the role that confidence played. In November 1975, economist Wynne Godley, in testimony to a House of Commons committee, identified a missing £5 billion from public spending. It set the focus on public spending throughout much of ’76, in much the same way in which, following this year’s referendum, the focus has been almost exclusively on the Single Market.
Godley’s point was that public expenditure in 1974/75 was £5 billion higher in real terms (after allowing for inflation) than the Government had previously planned, despite spending cuts. Later, in June ’76, the UK secured a $5.3 billion loan from the G10 countries (excluding France and Italy), Switzerland, and the Bank for International Settlements. This was initiated by the lenders, and, speaking a few days later, the Governor of the Bank of England, Gordon Richardson, stated, ‘This experience illustrated sharply the importance of confidence, or its lack’. Perhaps the clearest illustration of the importance of confidence, then, was when the Chancellor returned from Heathrow on 28th September. Instead of departing for the Commonwealth Finance Ministers conference in Hong Kong, and then onto the IMF meeting in Manila, fears about the falling pound led Dennis Healey to return to Downing Street. His actions triggered the perception of a crisis. Fast forward to today, and the necessity is to maintain confidence, and to recognise that Brexit is a great economic opportunity, rather than talking ourselves into an avoidable and unnecessary self-feeding downturn.
Confidence has particular significance given the importance of international capital. In ’76, as now, the UK had a balance of payments deficit, and needed capital inflows. Being aware of how the international capital markets may see things is vital for a Government to understand, particularly at times of potential economic stress. Take one example from ’76: on 24th October, The Sunday Times led with a story written by its economics correspondent, Malcolm Crawford, that the UK had already agreed with the IMF to a large devaluation of the pound, as part of an eventual deal with the IMF. The pound, then at $:£ 1.64 was, it was said, to be allowed to fall to $:£ 1.50.
The story was false. Indeed, I found out in the reception at the Treasury event that the head of the IMF, Mr Witteveen, was in Rangoon when this story broke, and only learned of his apparent ‘deal’ with the UK via the central bank governor of Burma, who had heard it on the BBC World Service. But the lesson is that, even though the story was implausible, the markets were prepared to believe it. Likewise now — across the globe, many people seem to hear only a constant barrage of bad news about Brexit. I saw this for myself in Japan a few weeks ago. They therefore assume (wrongly) that there is little good news with Brexit. While it is important that the Government does not fall back into the spin and short-termism that has characterised recent years, at the same time it is still necessary to manage financial market — as well as business — expectations. This can be done by a clear leadership role, outlining that Brexit is good news for the economy.
What then of policy?
Sterling often plays a vital role. This was as true in ’76, as now. In one respect, this highlights the importance of sterling as an economic shock absorber, although in ’76 it was largely seen as a measure of sentiment in the UK, and at that time the pound was not free floating, as it is now. If public expenditure was the root cause of the problem, then sterling weakness was one of the main outcomes. But currency markets are dynamic. Whereas that Sunday Times story of a weaker pound was the main focus in October ’76, only a year later, in October ’77, the main focus was a lead story in The Observer by Bill Keegan and Adrian Hamilton that the government was to allow the pound to strengthen! Nowadays, governments tend to steer clear of trying to manage the currency markets. In ’76, the focus was always on the rate against the dollar, but France’s decision in March that year to abandon the Snake — the currency system that then existed in Western Europe — highlighted the competitive environment.
Underlying the fall in the pound were concerns about the balance of payments. This has been a perennial issue for the UK. Now, the UK has a twin deficit, in the form of the current account and budget deficits. Just as the current account fed the sterling’s weakness in ’76, it also meant that the pound needed to fall this year, regardless of the outcome of the referendum. The need for a balanced economy is as relevant now, as it was then.
1976 saw the birth of monetarism in domestic economic policy. That July, Chancellor Dennis Healey announced a forecast for the money supply, alongside his package of fiscal tightening measures. Then, on 15th December, as part of the IMF deal, the Chancellor announced a target for domestic credit expansion, as well as a commitment to place greater emphasis on the M3 money supply measure. The IMF itself reflected the changing mood of the time — namely a greater emphasis on monetary policy. This was to take centre stage a few years later in the UK under Mrs Thatcher. In ’76 it also coincided with a feeling that using government spending via Keynesian demand management had run its course. Nowadays, it may seem we have gone full circle, and, since the referendum vote this year, there has been — across the group of 20 leading economies (G20) — a greater focus on using fiscal policy to boost domestic demand.
An important message from then, as well as for now, is the need for credible and sustainable macro-economic polices. Economic growth is key. Looking back, it is remarkable how little focus there is on growth in comments written about ’76, but at the time the Prime Minister James Callaghan was very focused on keeping unemployment down and limiting the squeeze on real incomes as much as possible.
In the mid-70s, the UK had decided to join the European Economic Community, aligning itself with what it then perceived to be the fastest-growing region of the world economy: Western Europe. Nowadays, Western Europe is expected to be the slowest-growth region of the world economy in coming decades. The Indo-Pacific region is likely to be the fastest-growing region, from India, through south-east Asia, China, and the USA. Following the referendum, we need to ensure the UK is positioned well to succeed in this changing global economy.
The deal that the UK agreed with the IMF in December ’76 was seen as a good one at the time, contrary to expectations. The Chancellor announced what he would have had to have done anyway, and, indeed, got more in return than expected. Britain did not go bust! But 1976 was different from now. Then, the economy was facing challenges for a whole host of reasons, and these led to much-needed change, a few years later. Its structure left it vulnerable to the economic shocks that hit the world economy throughout the decade. In contrast, now, the UK has a wonderful chance to ensure that we make the most of the opportunity offered to us by Brexit.
Additional comments
As one might expect, the discussion at the Treasury event was rich, and was also enhanced in the Q&A by the fact that the panellists, as well as some people in the large audience, included key players from ’76. Let me summarise my takeaways from the other comments made:
One of the many key points Lord Owen made was that monetary discipline was the main need at that time, and one that he fully supported. Now, forty years later, it seems to me that we still have the same challenge: the need for monetary discipline.
The politics of the day was very much highlighted by the speakers. It was interesting to hear Johannes Witteveen speak of his one-day visit to London, whisked straight from Concorde to Number 10, where he had a one-on-one meeting with Jim Callaghan. Neither side, it seemed, knew what the other was thinking, although as Witteveen made clear, Callaghan’s focus was on employment, while the IMF’s was on inflation and ‘where should monetary policy be aiming for?’. Also, perhaps of interest for now — given the underlying balance of payments problem — Callaghan let it be known that the UK had discussed options other than the IMF, including temporary trade agreements. For Witteveen, that would have been a ‘wrong and mistaken decision’.
Witteveen said the IMF was determined to be firm, and indeed mentioned that he had received a call from the US Chairman of the Fed, Arthur Burns, prior to the visit, encouraging him, ‘not to give in’ and to ‘keep to the rule of law’. Witteveen told us that he viewed that as a ‘nice gesture of the Americans’, although I am not sure Jim Callaghan would have seen it that way. The international angle was highlighted in a different way by Lord Donoughue. Prior to that IMF visit, the Prime Minister had spoken by phone with the German leader, Helmut Schmidt, and it was clear that Germany would not provide support. So, it was clear that the UK would need to seek IMF help. Perhaps the lesson is that, at times of challenge, you can’t rely on others, which highlights the need to sort things out yourself. Perhaps this is a pointer for our forthcoming negotiations with the EU.
Listening to Lords Donoughue and Owen, it is striking how impressive the leading group of Labour politicians at that time appeared. Yet, despite this, the economy was in a mess.
Also, it seemed clear, from early on in ’76, if not sooner, that the Government was fully aware of the economic and spending challenges, and of the consequences. It seems to have made the best of a bad job, and that is why in ’76 the country didn’t go bust. But, as we all know, three years later, the people decided it was time for a necessary change of direction.
References
Kathleen Burk & Alec Cairncross, “Goodbye Great Britain“, (Yale University Press, 1992, London)
A.C.J. Britton, “Macroeconomic Policy in Britain 1974-1987“, National Institute of Economic and Social Research, (Cambridge University Press, 1991, Cambridge)
Peter Browning, “The Treasury & Economic Policy 1964-85“, (Longman, 1986, London)
Richard Roberts, “When Britain Went Bust“, (OMFIF, 2016, London)
Various official documents