Economic Viewpoint The Shape of the UK Recovery

Monthly economic data combined with the more optimistic tone of CBI and other surveys suggest that the recession may be drawing to a close. By the early summer it was becoming apparent that output was no longer falling; now it appears that the economy is in transition front the 'bumping along the bottom' phase, which lasted through the summer months, to the beginnings of a modest recovery in output and demand. The focus of interest is therefore switching away front the timing of recovery towards its shape and strength.
We have previously argued that the recovery would be led by consumer spending, that industry would not resume investment spending un ti1 demand elsewhere was picking up, and that although exports have held up remarkably well, taking some of the strain of the downturn in domestic demand, there was little prospect of a surge in world trade to provide the pre-conditions for an export-led recovery. What was and is needed is a recovery in consumer confidence, with a willingness to borrow at lower interest rates showing up in a reduction in the personal savings ratio.
But the recovery starts with the personal sector still having a large debt overhang from the 1988-9 boom, which will inevitably inhibit new borrowing. Meall while the credit crunch is restricting the ability of banks to lend. Together these imply only a limited response to the interest rate cuts of the last year and would, in the absence of the EMS link with high German interest rates, argue for further interest rate reductions. But high post-unification German rates put a floor under UK rates and will slow the recovery. The economy will do little more in 1992 than make up for the output losses of 1991 and our forecast (as in June) suggests that it will not be until 1993 that previous output peaks are passed and unemployment is stabilized.     

Monetary Targets and the World Economy: A Progress Report

The recent changes in the value of the dollar and the talk of an interest rate ‘war’ demonstrate again that the world finds it difficult to cope with rapid exchange rate movements. In some ways the experience - and the reactions to it - are similar to the events of 1978. As now, the world was in a recession (though on a milder scale) and there were fears that exchange rate problems would obstruct economic recovery. The main difference is that in 1978 it was the strength of the Deutschmark which caused concern whereas this time the problems are associated with the rise in the value of the dollar. In a Briefing Paper in Economic Outlook, February 1978, ‘Monetary Targets and the World Economy’ we suggested that the problem arose from inconsistencies between national monetary policies and exchange rate objectives. In general, countries dislike exchange rate changes - in either direction - and there were problems because countries would not accept the exchange rate consequences of their own or other countries' monetary policies. We estimated the required monetary policies for stable exchange rates and suggested specific national monetary targets for 1978 which would at least move the world economy towards consistent monetary policies. In this Economic Viewpoint we return to those ideas. We consider what happened in 1978 and we also revise the underlying monetary rules. More recent experience suggests that although there has been some progress towards the convergence of monetary policies there will continue to be trend changes in exchange rates. It is also clear that there will be short-term fluctuations around these trends. We believe that greater convergence of monetary policies would be desirable but failing that it is important that countries should avoid abrupt changes in monetary policy. It is also important that countries should become accustomed to exchange rate changes. They should direct monetary policy towards their objectives for inflation and should not be diverted from it by temporary or permanent changes in their exchange rates.     

Rational Actor Theory in Politics: A Critical Review of John Quiggin*

John Quiggin's paper attacks public-choice theory. among other things, for its us? of the assumption of ‘rational egoism’. The object of our response is twofold. First. to distinguish egoism from rationality, and to indicate that rationality postulates, when faithfully applied, provide reasons for believing that political behaviour and market behaviour will be systematically different, and specifically that the former will be less egoistic than the latter. Second, to indicate that comparative static propasitions in public-choice theory (and in economics more generally) can be sustained on rather weaker behavioural assumptions than homo economicus embodies, and that consequently some of the public-choice orthodoxy would survive any attack on the egoism assumption.     

Economic Viewpoint Bringing Counter-Inflation Policy Back on Course

There is no doubt that the monetary limit for the first year of the Government's Medium-Term Financial Strategy will be grossly exceeded, The reported figure for sterling M3 is likely to show a growth of 16 per cent to 18 per cent for the financial year compared with the upper limit of 11 per cent. This is a setback for the government's counter-inflationary policy but not a disaster. The likely overshoot can be largely (but not completely) explained by the removal of the Bank of England's Supplementary Special Deposits Scheme (the corset). Its significance is best understood if we re-examine monetary history since June 1978. (when the corset was imposed). A reasonable interpretation is that the money supply has effectively been growing at an annual rate of 15 to 16 per cent for the past three years (Details are shown in Table 4 on p. 12.) In retrospect it can be said that last year's monetary policy (but not that of the previous two years) was defensible in the light of the shock to prices caused by the oil price rise and the increase in VAT. We did in fact argue in Economic Outlook of June/July 1979 (“Price Shocks and the Economy”) that if the UK'S past record of monetary control had been better we would advocate a relaxation of monetary policy to accommodate these shocks. In the event monetary policy was relaxed (albeit unintentionally) and the squeeze on the real money supply was less severe than appeared at the time. However, there must be a steady reduction in monetary growth from now onwards if the government is to maintain its current progress in reducing inflation. We believe that such a policy is feasible and will be successful However the government must stick to the fiscal policy set out in the Medium Term Financial Strategy (MTFS). Our preliminary estimates suggest that, if Current public expenditure plans are fulfilled, there may be little or no scope for a reduction in personal taxation in 1981-82. Further ahead, the danger point, on past experience, will be 1983 when the economy should be on a strong path of recovery and inflation should be well below current rates. That is the point at which upward pressures on the money supply are likely to reappear and will have to be resisted     

The Costs and Benefits of Cutting Inflation

In recent speeches Treasury Ministers have coined a new slogan. They argue that inflation is not an alternative to high unemployment but a fundamental cause of it. They use this slogan to attack those who suggest that thefight against inflation should be slackened - at least briefly - in order to reduce unemployment. In this Economic e iewpoint we examine the arguments about the relation between inflation and unemployment. We suggest that although inflation may be a cause of unemployment in the long term there is an inescapable short-term choice to be made between reducing unemployment and reducing inflation. We explain why this choice arises and also discuss the longer-term effects of counter-inflationary policies. Finally we examine the record of this Government's policies so far.     

The Withdrawal of Current Cost Accounting in the United Kingdom: A Study of the Accounting Standards Committee

Evidence from the archives of the U.K. Accounting Standards Committee (ASC) is used to trace the events leading to the withdrawal of the current cost accounting standard, SSAP 16, from 1980 to 1988. Three central issues are addressed. First, the ASC's role as a regulatory body is considered in the light of the failure to obtain compliance with SSAP 16 and to find an acceptable replacement. Second, the decline in support for SSAP 16 is explained in terms of changes in the economic environment. Third, the roles of different interest groups in the process are analysed.