A Policy Framework for the New Chancellor

In the Mansion House speech, Mr. Clarke, the new Chancellor, left his options very clearly open. He reconfirmed his commitment, like his predecessors, to low inflation; but added that low inflation is not enough, asserting the importance of commerce. He asserted the need to reduce the public sector deficit, but did not commit himself to further measures beyond those already announced by Mr. Lamont. He argued for lower taxes, but said that taxes cannot always fall. He acknowledged the importance of narrow and broad money, but said that he would monitor a range of indicators in formulating policy. Even the greater emphasis relative to his predecessors on growth may have been more a matter of presentation, not a shift in policy emphasis.     

European Monetary Union or competing currencies: which way for monetary integration in Europe?

In theAntibes in September, Mr. Laws on perplexed and irritated his fellow European finance ministers by proposing a scheme for allowing currencies to compete one against the other in Europe. It perplexed them because it was presented as a basis for proceeding towards monetary union within the European Community in accordance with the resolve of European Heads of State at the Madrid Summit, whereas it appeared as a recipe for monetary confusion, not fusion. It irritated them because it appeared to them to be yet another British manoeuvre to derail agreed progress towards greater economic and monetary integration in Europe. It especially annoyed the potential allies of the UK on this issue who regard the French and Commission attempts to push rapidly towards monetary union as ill-advised, and who saw the Chancellor's ill-thought out proposal as playing into their hands. Some political commentators have suggested that Mr. Lawson was seeking to play a clever hand. He is known to favour UK entry to the Exchange Rate Mechanism of the European Monetary System, and on this is at odds with Mrs. Thatcher. Professor Alan Walters, adviser to the Prime Minister, is said to favour the idea of competing currencies in Europe. It may be that the Chancellor was not displeased to have this idea knocked down in the Antibes, leaving a strengthened EMS as the only realistic alternative to full monetary union in Europe. Whatever the truth of this, it seems inevitable that UK opposition to ambitious proposals for European Monetary Union will be met with less sympathy in future as a result of the Antibes meeting. This is a pity. For as we suggested in the June Economic Viewpoint, there is a serious case yet to be made in favour of the idea of competing currencies. This idea need not be in conflict with the objective of exchange rate stability, so that it is not incompatible with the EMS. Competition between currencies need not mean exchange rate instability. Rather it may mean competition over responsible monetary policies, encouraging their spread within Europe. An implication is that full monetary union may not be desirable. If the UK advanced this position in Europe, it may well carry the day. In this Viewpoint, we develop this argument about the direction for further monetary integration in Europe.     

UK Economic Prospects and Policy Dilemmas

Our current forecast, largely unchanged from that published in the October 1992 Economic Outlook, is for a gradual recovery in economic activity during 1993, gathering pace in the course of the year. Unemployment continues to rise through the year, and inflation remains subdued. The main risk to the forecast lies in the possibility that a continued decline in property values may check reviving confidence and lead the banks to restrict lending.
The principal policy dilemma lies in the very high level of public sector borrowing, likely to rise to around 7.5 per cent of GDP on unchanged policies. The Government will need to signal its willingness to act to cut the PSBR by higher taxes or reduced spending plans. This will allow interest rates to remain low for longer, and offers the best prospects of maintaining a competitive pound and reducing the burgeoning current account deficit. There is room for a further cut in interest rates in the Budget to boost confidence and recovery, but rates may need to rise towards the end of the year if the higher prices resulting from the sterling devaluation start to feed into wage claims.
The Government should also consider seriously the need for reform of the institutional framework for policy making, to help restore credibility weakened by the manner of sterling's departure from the ERM. These should include greater openness about official thinking on monetary policy, and greater autonomy, within a new framework of accountability, for the Bank of England.