Till Time's Last Sand

by David Kynaston

  Leigh-Pemberton by this time was about to start his second five-year term. It is possible that back in 1983, at the start of his governorship, he had anticipated just a single term, but that the various slings and arrows directed at him, especially during the difficult Johnson Matthey period, made him determined to serve a second. Certainly the question of his reappointment was a live issue, involving considerable press speculation that in turn prompted the Treasury in late July 1987, with almost a year to go of his first term, to issue a press notice in which Lawson expressed his complete confidence in the governor. That very evening, in the anteroom of No. 10 following a drinks reception, an important but very private exchange took place. ‘Quite casually,’ as Leigh-Pemberton afterwards informed Blunden, the chancellor said to him: ‘Anyway, if you want to go on, I am perfectly content for you to do so.’ A full six months later, the reappointment was publicly announced, and thereafter the governor was psychologically as well as politically in a stronger place. As it happened, this development roughly coincided with a significant shift in the Bank itself. ‘Availability and Deployment of Economists’ was the issue of the key meeting in June 1987. ‘It is perhaps time for a step change in the Bank’s attitude to the recruitment of economists,’ asserted Blunden. ‘We have clung for too long to an approach to staffing which favours the amateur, generalist recruit as against the specialist. This contrasts sharply with the policy of many other central banks, where an economics background is regarded as virtually essential.’45 That indeed would be the future direction of travel – and doubly telling, given that Blunden himself would instinctively have sympathised with the Cobbold dictum about the Bank being a bank, not a study group.

  This last year or so of Leigh-Pemberton’s first term also marked the zenith of Lawson’s chancellorship. ‘Finally, and by far the most important item,’ noted Blunden in a May 1987 update for his chief, ‘the Chancellor came in this week with a new bouffant hairstyle with a series of waves rising up from his forehead to give him a sort of halo appearance!’ Soon afterwards, his successful stewardship of the economy was the prime reason for Thatcher’s third election victory; and by the following spring, at the time of his boldly tax-cutting budget, his reputation stood higher than that of almost any post-war chancellor. Seemingly, unlike his predecessors, he had cracked the problem of simultaneously achieving high growth and low inflation. The reality, though, was an unsustainable boom – a boom that by 1989 was clearly starting to be followed by a hard and very painful landing.

  What had gone wrong? Inevitably there would be many retrospective analyses, putting the blame on different factors: whether excessive financial liberalisation, or sterling’s exaggerated depreciation during 1986, or the exchange rate policy from early 1987 of shadowing the deutschmark, or an overly loose monetary policy (especially after the October 1987 stock market crash), or even that 1988 budget. Lawson himself, in his remarkably detailed 1992 account of his chancellorship, spread the blame generously, with of course the Bank getting its share. ‘The only occasion in all my years as Chancellor when the Bank can be interpreted as having wanted a tighter policy than I was pursuing,’ he wrote, was in ‘the difficult period’ after the stock market crash, when ‘Eddie George argued that sterling should be allowed to rise’. Lawson went on:

  Everything else that has emerged from some Bank quarters since my resignation [October 1989] amounts to an attempt to rewrite history with the benefit of hindsight; an understandable activity, but scarcely a commendable one. It is, I suppose, theoretically possible that the Bank from time to time believed that monetary policy should be tighter, but refrained from telling me – even at the markets meetings I regularly held with the Governor and his senior officials. But that would have amounted to a dereliction of duty so grave as to be unthinkable.

  That broad thrust may well be accurate, though there is some evidence that in early 1988 the Bank was warning that the expansion of credit, especially after the crash, had become excessive and that there existed a serious danger of overheating. Specifically, the first issue that year of the Bank’s Quarterly Bulletin noted that the growth of domestic demand immediately before the crash had been ‘significantly stronger than many had thought – indeed, unsustainably rapid’; claimed that the effects of the crash had been overstated; and argued for monetary policy to adopt a ‘non-accommodating stance’. But in any case Lawson had a further grievance – namely, the Bank’s general unwillingness, especially in the summer of 1988, to lean on the clearing banks and try to persuade them to be more circumspect in their mortgage lending. According to Lawson, the Bank gave a threefold justification for its refusal to act on his wishes: that the lending involved no risk to bank depositors; that it likewise involved no systemic threat to the banking system; and that mortgage lending (‘bricks and mortar’) was intrinsically safe. ‘While there was undoubtedly substance in all these arguments,’ observed Lawson, ‘I believe that at the more fundamental level at which central bank thinking ought to be pitched the Bank was both unimaginative and misguided’; and with some justification he pointed to how ‘the credit-based house price bubble of the late 1980s, by creating an exaggerated impression of personal wealth and prosperity, led to a great deal of other borrowing and lending of a less secure nature’. His final point was also perhaps valid. ‘The Bank’s strongest argument for inaction was probably the one that it left unsaid: that the commercial banks, driven by a desire to maintain and if possible increase their share of the mortgage market, come what may, would have taken no notice of a call for greater prudence and caution from the Governor of the Bank of England.’ Yet was that truly the case? Lawson thought not. ‘Although it was true that the Bank’s authority had diminished over the years, I very much doubt if it had vanished completely. And if the worst came to the worst, it would have been better to have tried and failed than not to have really tried at all.’46

  The chancellor’s controversial policy between spring 1987 and spring 1988 of shadowing the deutschmark was a further source of tension. ‘That experience, I have to say, was disastrous,’ publicly recalled George in the mid-1990s with perhaps surprising candour. ‘We began to shadow the DM after an exaggerated fall in the exchange rate, in 1986, from DM 3.56 to DM 2.82/£. This depreciation generated an inflationary impulse, which we then locked in to the domestic economy by refusing to allow the exchange rate to recover to above DM 3.00, even though this involved an excessive loosening of monetary policy. The result was a violent inflationary boom.’ George, with overall responsibility by 1987 for foreign exchange as well as gilts and the money market, was cross at the time on at least three levels. First, because he thought it a bad policy – at odds with market realities and a potential threat to the prioritisation of domestic inflation objectives; second, because of Lawson’s lack of consultation with the Bank about the policy as such (‘At no point,’ he told colleagues, ‘did Nigel Lawson tell us there was to be a policy of shadowing the Deutschmark’); and third, because of Lawson’s overbearing interference with the policy’s execution (‘I think that decision can be left to us, Chancellor,’ he snapped at one point). Such was the scale and frequency of intervention, irrespective of the policy’s wisdom or otherwise, that these were demanding months. With dealing in foreign exchange continuous around the clock, Michael Foot – then head of the Foreign Exchange Division – would recall sometimes having to ring up George in the middle of the night, in the context of the money negotiated with the Treasury (‘always too small’) having run out: ‘One of the things he was wonderful about was never complaining; he knew that if you rang him up it was because you had a good reason, it was never a difficulty. And he would then talk to the Treasury if need be …’

  The shadowing policy eventually ended – at the insistence of Thatcher, supported by the Bank – with the uncapping of the pound in March 1988 and the prime minister herself famously telling the Commons that ‘there is no way in which you can buck the market’. Was that old warhorse, the ERM, a possible way? Lawson st
ill hoped so, despite Thatcher’s 1985 veto on UK participation; but, well aware of the intensifying conflict between No. 10 and No. 11 on the subject, Leigh-Pemberton by May 1989 was instructing Blunden that the Bank’s ‘clearly defined stance’ on the issue needed for the time being to be one of ‘neutrality’. Addressing the Institute of Economic Affairs two months later, the governor turned somewhat wearily to the ‘particularly vexed, if also well-worn, question of the timing of our entry into the ERM’. Not only could there be ‘no assurance that we would enter at an approximately appropriate rate’, given that it had ‘to be remembered that too low a rate would have damaging implications for inflation, just as too high a rate could have severe effects on activity and investment’; but also it remained the case that ‘there is a difference in the cyclical position of the UK economy relative to the major member countries’. Altogether, in short, ‘the problem is not easily solved’.47

  That would also be true of another, less immediate monetary arrangement sometimes conflated in sceptical British eyes with the ERM: namely, European economic and monetary union (EMU). ‘The terms of reference of the Delors Committee quite deliberately make no mention of a central bank or a single currency,’ Thatcher told Leigh-Pemberton in person in July 1988 after the previous month’s Hanover summit had agreed to the establishment of a committee ‘for the Study of Economic and Monetary Union’ chaired by the European Commission’s strongly federalist president, Jacques Delors, and mainly comprising the European Community’s twelve central bank governors. ‘Consequently,’ she went on, ‘these are not topics on which the Committee should feel obliged to give a verdict … It is entirely premature to talk about a single currency or a [European] central bank …’ More followed:

  The Prime Minister felt that the Governor’s general attitude to the Committee’s work should be ‘if we were actually to have European monetary union then the following conditions would have to be satisfied and the following consequences tolerated …’

  She privately warned the Governor to be extremely careful of Delors, whom she described as a ‘Jekyll and Hyde’ character. He will appear to be very co-operative at the meetings and agree to confine the discussions to pragmatic steps – but will then make public speeches or work in the background to achieve quite a different objective. And ‘Don’t forget Delors is a socialist’.

  Leigh-Pemberton himself would recall his negotiating instructions from Thatcher being boiled down to a simple injunction: ‘Well, if we stride along with Karl Otto Pöhl [still head of the Bundesbank], that must be the right thing to do.’

  September saw the start of the Committee’s deliberations, against from Leigh-Pemberton’s perspective an ominous political backcloth as Thatcher in her famous Bruges speech warned against ‘a European superstate’. By early November the governor was giving a heads-up to Middleton at the Treasury that ‘now that the drafting stage was getting near it was becoming increasingly evident that there might be pressure from the “idealists” in the Committee to suggest a greater degree of early change than might be acceptable to the “pragmatists”’. A month later an early draft of the report was in circulation. ‘We should make it clear what we were aiming for,’ Lawson having read it told Leigh-Pemberton, adding not only that ‘the report might seem so extreme as to play into our hands, in that it gave us a better opportunity to work towards a minority report or to express reservations’, but also that ‘the combination of bad drafting and the influence of Delors might give us an opportunity to dissociate ourselves altogether from the whole exercise’. The governor for the moment kept his counsel, but soon afterwards told Middleton that it would be wrong for ministers to assume the inevitability of a dissenting report from himself. That was ahead of a key meeting on 14 December, where in essence both Thatcher and Lawson told Leigh-Pemberton to stiffen his sinews, stay close to Pöhl – whom (in the prime minister’s subsequent words) ‘we considered strongly hostile to any serious loss of monetary autonomy for the Bundesbank’ – and ensure that the eventual final report ‘would make it clear that EMU was in no way necessary to the completion of the Single Market [due by the end of 1992] and would enlarge upon the full implications of EMU for the transfer of power and authority from national institutions to a central bureaucracy’.

  Both central bankers, in her and Lawson’s eyes, let them down. Leigh-Pemberton recorded on 16 February a very difficult meeting the day before at No. 10 with Lawson and the new foreign secretary (John Major) as well as Thatcher. She, having read the latest displeasing draft, took the line that she had agreed to the formation of the Delors Committee ‘only on the understanding that it would not deal with a European Central Bank or a single currency’. To which the governor ruefully added in his note: ‘In some way this has not emerged in the published version and she is now seeking for this omission to be rectified by the Committee – or at least one member of it!’ He also noted that in the meeting all three ministers ‘believed that the draft was so pitched as to be irredeemable by drafting amendments’. Feeling somewhat put upon, having duly stayed close to Pöhl, the governor now wrote to the prime minister, stating that ‘while I shall do my best to comply with the requirements suggested to me and to avoid embarrassment to the UK government, I must be left a proper measure of my personal integrity on a body consisting of my colleagues on which I am acting in my personal capacity’. When in due course, in April 1989, the report was formally unveiled, it not only in Thatcher’s words ‘confirmed our worst fears’, but featured no dissenting report from the governor. Official Bank policy on EMU remained that it was ‘a matter for the politicians’ – as Leigh-Pemberton next month put it to Blunden – but Thatcher never forgave him, freezing him out during the rest of her premiership.48 Nor was the governor forgiven by her successor: when Major blocked his chairmanship of the G10 governors, a position that Richardson had enjoyed, that was little short of devastating.

  In the bigger picture, though, it was a minor consideration compared to the great prize for the Bank that somewhat unexpectedly began to hover in the mid-distance during Leigh-Pemberton’s second term. The prize was independence, albeit from the start there would be debate about what precisely that four-syllable word meant; and unexpectedly because of the generally bruising time that the Bank had had during Thatcher’s decade. ‘The traditional role of the Bank as a voice to advise and warn government has been reduced,’ commented the Financial Times in January 1988 on the occasion of Leigh-Pemberton’s reappointment, ‘and its utterings now come more from the wings than from centre stage. The Bank’s function has become limited to the more technical one of administering policy in the markets. Its ability to influence strategy has been further reduced by the personality of the Governor …’ So why independence? A significant early voice was that of the trenchant, sound-money City economist Tim Congdon. ‘Britain should follow West Germany’s example by giving the Bank of England as much independence from government as is currently enjoyed by the Bundesbank,’ he declared in the Spectator in June 1987, against a background of what he called Britain’s biggest-ever credit boom, with its accompanying threat of serious inflation. It was an argument, Congdon wrote, underpinned by his ‘deep scepticism’, after the previous forty years, ‘about the ability and willingness of British governments to conduct financial policy in a consistent, stable and non-inflationary way’. There followed an attractively rigorous, puritanical vision:

  In a well-ordered country, decisions on monetary policy should not be subject to the vagaries of the electoral cycle and fluctuations in credit growth should not reflect politically motivated calculations about house price increases and the voting propensities of home-owners.

  The Bank of England should be privatised, its autonomy from government should be protected by statute, and both the tactics and strategy of monetary policy should be determined by the Governor of the Bank of England in consultation with its Court of Directors. The Chancellor of the Exchequer would be left with the humdrum but necessary task of keeping the Governm
ent’s finances in good shape.

  Congdon concluded with the long view. ‘Before 1946 Britain had its own independent central bank,’ he reminded readers; and during those fabled times, ‘Britain’s currency was the hub of a major international trading area’ and ‘Britain’s inflation record had long been better than that of any other European nation.’

  The ghost of Montagu Norman perhaps twitched – and would have twitched again if it had been privy to the remarkable memorandum that Lawson in November 1988 sent to Thatcher, proposing ‘to give statutory independence to the Bank of England, charging it with the statutory duty to preserve the value of the currency, along the lines already in place and of proven effectiveness for the US Federal Reserve, the National Bank of Switzerland, and the Bundesbank’. He went on:

  Such a move would enhance the market credibility of our anti-inflationary stance, both nationally and internationally. It would make it absolutely clear that the fight against inflation remains our top priority; it would do something to help de-politicise interest rate changes – though that can never be completely achieved; above all there would be the longer-term advantage that we would be seen to be locking a permanent anti-inflationary force into the system, as a counter-weight to the strong inflationary pressures which are always lurking.