Samuel Brittan reviews the Treasury's battles against impossible oddsby Samuel Brittan / May 20, 1996 / Leave a comment
It may seem a strange thing that a mere ratio-the rate at which the British pound exchanges against other currencies-should have become a symbol of political failure for so many British governments. But it has. Harold Wilson never recovered from the devaluation of 1967, which he had spent three years trying to avoid. The next Labour administration never recovered from Denis Healey’s turnaround at London airport on the way to the 1976 IMF meeting to attend to a sterling crisis at home. It has been said that when Margaret Thatcher is dead the three letters “ERM” (exchange rate mechanism) will be found written on her heart. John Major’s enforced departure from that mechanism on Black Wednesday, 16th September 1992, broke the back of his administration. Never again would it be glad confident morning for him.
And yet, this sad tale is not entirely unjust. The exchange rate for sterling must, in the end, reflect the spending power of the pound compared with other currencies. For two, three or even more years, inflation and the exchange rate can move in opposite directions. But over longer periods there is an inexorable link. As Philip Stephens remarks: “Since 1964, the pound has lost over 80 per cent of its purchasing power against the Deutschmark. Its purchasing power in Sainsbury’s has fallen by 90 per cent.” His own book deals authoritatively with one slice of that decline under the Thatcher and Major governments-the period since 1979.
The record is pretty dispiriting. Under the free floating regime, the pound first shot up, imposing a much bigger squeeze on industry and employment than the government ever intended. Then there was a more erratic drop associated with the resurgence of inflation in the late 1980s. John Major’s attempt to hold a pegged rate in 1990-92 via the ERM was an ignominious failure. The devaluation which followed has so far not prevented a fall in inflation to the lowest rate in three decades and a fitful economic recovery.
The sequence can be looked at in another way. Margaret Thatcher vetoed all attempts to join the ERM in the mid-1980s when the system had not yet frozen into rigidity and would have imposed a valuable check both on runaway external movements of the pound and on domestic monetary policy. She eventually gave in to pressure in her last few weeks as prime minister and joined at the wrong…