Economic comparisons have been made in recent months with the 1970s, with fears of an energy crisis and talk of stagflation. But it’s worth focusing instead on the Thatcher revolution of the 1980s and the sea-change that then gripped the economy, with enterprise, home ownership, risk-taking and a can-do attitude to the fore.
While many of the lessons from that era were positive, not everything went well. And it is on one of those aspects that I wish to focus, as its lessons remain critically important for future policy making: why did the Lawson boom become a bust?
There is little doubt that Nigel Lawson was one of our great Chancellors, full of reforming zeal. He will be remembered for tax simplification and lower taxes, alongside strong public finances. Proactive leadership also meant shaping the intellectual terms of debate rather than following the accepted consensus.
His 1984 Mais Lecture exemplified this, challenging orthodoxy with its assertion that, ‘It is the conquest of inflation and not the pursuit of growth and employment, which is or should be the objective of macroeconomic policy. And it is the creation of conditions conducive to growth and employment and not the suppression of price rises, which is or should be the objective of microeconomic policy.’
During the Thatcher period, leadership was central, but so too were clarity of purpose, coherent principles and the careful sequencing of reform.
Unfortunately, Lawson is also in a group of four post-war Chancellors who presided over a boom and bust: Maudling, Barber, Lawson and Brown.
The economic circumstances were different for each, as were their legacies. With Anthony Barber, for instance, the misguided ‘dash for growth’ was always destined to fail. Under Lawson, despite the bust, there were lasting long-term improvements on the supply-side of the economy.
At that time, however, there was a popular misconception that Lawson’s healthy fiscal position meant economic stability. That promoted a relaxed attitude about what lay ahead. Not enough attention was paid to the deterioration in private sector liabilities, as credit growth soared and the trade deficit worsened.
This was the point I made in several articles in The Times in the mid to late 1980s – as well as in person to the Chancellor twice over lunch. It was clear, well ahead of the bust, that rapid credit growth needed to be curbed and that the trade deficit mattered more than the budget surplus in that the signals it was sending merited action. Interest rates clearly needed to rise sharply to cool an overheating economy, when the consensus view was that they should remain low.
The consensus focused solely on the budget surplus and took comfort from that. It highlighted the danger of groupthink in economic policy making, a problem seen frequently since.
Eventually, interest rates had to rise sharply, and the bust followed, with deleveraging and a house price slump.
When a country continues to run large trade deficits, which feed into a persistent current account deficit, it is a serious macroeconomic vulnerability. In the Lawson boom it was the deficit alongside surging domestic credit that was the problem. It signalled instability and overheating, with domestic demand running ahead of the economy’s capacity to supply.
Years later, Eddie George, Governor of the Bank of England, reflecting on policy after the global slowdown of 2001–02 said, ‘We took the view that unbalanced growth was better than no growth at all’ as high consumer borrowing and a buoyant housing market kept the economy afloat. The problem of an imbalanced economy has clearly been witnessed many times since Lawson.
We should not overstate the parallels with now. The circumstances are very different. Yet there are lessons to note for future policy.
Britain saves too little, as well as invests too little. Low national savings mean greater reliance on foreign capital. That can turn current account deficits into a vulnerability and raise financing risks, as we are seeing in our reliance on overseas investors to help fund our borrowing.
There are three key lessons.
First, high national savings should be a strategic priority. It is not about fine-tuning the economy on a constant basis, but ensuring that imbalances do not build that will cause future problems. Sound public finances are vital, but they are not enough. Policymakers must also watch private liabilities, household borrowing, corporate balance sheets and external deficits.
Second, stability requires not only prudent fiscal policy, but the discipline to act before warning signs become crises.
Monetary policy must be forward-looking and consistent with fiscal policy. There is, of course, a need to differentiate between a spike in inflation as now, which is caused by a supply shock, and sustained overheating. In the current circumstances, the Bank of England should pay close attention to second-round effects from this inflation spike before it decides whether to act.
Third, policymakers must always be wary of groupthink and willing to challenge the consensus. Lawson did not do so as credit conditions deteriorated. Thankfully, in many other areas, especially in his supply-side agenda, he did.
The lesson is not that the present mirrors the late 1980s. It plainly does not. Then the danger lay in private-sector excess. Today it lies in the public finances. Yet the broader truth is unchanged: imbalances matter. If left unchecked, markets eventually impose the correction. Britain is already paying a price through weak growth, sticky inflation and high borrowing costs.
Margaret Thatcher is back in the news. But it is not her admirers on the Right who have put her there. It is our new Labour Prime Minister, whose diagnosis of our country’s ills seems to be that Britain was on the right path up until 1979, when the Conservatives got into power and precipitated […]
Dear Andy Burnham, Firstly, I must congratulate you on your new role. I am sorry that I have not written to you sooner and I know that you’ve technically been in post for a while now. In my defence though, you did go away almost immediately after taking office. The reason that I am writing […]
The Stanford Encyclopedia of Philosophy is not a publication most would be familiar with. It is meant as a repository of overviews of big topics in philosophy broadly defined, inclusive of political theory. As such, entries added to it are unlikely to generate strong responses by the experts deeply familiar with each individual entry. Every […]
