UK Monetary Policy from Devaluation to Thatcher, 1967–82 Palgrave Studies in the History of Finance Series Editors: Adrian R. Bell, D’Maris Coffman, and Tony K. Moore The study of the history of financial institutions, markets, instruments, and concepts is vital if we are to understand the role played by finance today. At the same time, the methodologies developed by finance academics can provide a new perspective for historical studies. Palgrave Studies in the History of Finance is a multi-disciplinary effort to emphasise the role played by finance in the past, and what lessons historical experiences have for us. It presents original research, in both authored monographs and edited collections, from historians, finance academics and economists, as well as financial practitioners. Titles include : D’Maris Coffman EXCISE TAXATION AND THE ORIGINS OF PUBLIC DEBT Duncan Needham UK MONETARY POLICY FROM DEVALUATION TO THATCHER, 1967–82 Palgrave Studies in the History of Finance series Series Standing Order ISBN: 978–1–137–34224–9 ( outside North America only ) You can receive future titles in this series as they are published by placing a standing order. Please contact your bookseller or, in case of difficulty, write to us at the address below with your name and address, the title of the series and the ISBN quoted above. Customer Services Department, Macmillan Distribution Ltd, Houndmills, Basingstoke, Hampshire RG21 6XS, England UK Monetary Policy from Devaluation to Thatcher, 1967–82 Duncan Needham Darwin College, University of Cambridge © Duncan Needham 2014 Softcover reprint of the hardcover 1st edition 2014 978-1-137-36953-6 All rights reserved. No reproduction, copy or transmission of this publication may be made without written permission. No portion of this publication may be reproduced, copied or transmitted save with written permission or in accordance with the provisions of the Copyright, Designs and Patents Act 1988, or under the terms of any licence permitting limited copying issued by the Copyright Licensing Agency, Saffron House, 6–10 Kirby Street, London EC1N 8TS. Any person who does any unauthorized act in relation to this publication may be liable to criminal prosecution and civil claims for damages. The author has asserted his right to be identified as the author of this work in accordance with the Copyright, Designs and Patents Act 1988. First published 2014 by PALGRAVE MACMILLAN Palgrave Macmillan in the UK is an imprint of Macmillan Publishers Limited, registered in England, company number 785998, of Houndmills, Basingstoke, Hampshire RG21 6XS. Palgrave Macmillan in the US is a division of St Martin’s Press LLC, 175 Fifth Avenue, New York, NY 10010. Palgrave Macmillan is the global academic imprint of the above companies and has companies and representatives throughout the world. Palgrave® and Macmillan® are registered trademarks in the United States, the United Kingdom, Europe and other countries ISBN 978-1-349-47499-8 ISBN 978-1-137-36954-3 (eBook) DOI 10.1057/9781137369543 This book is printed on paper suitable for recycling and made from fully managed and sustained forest sources. Logging, pulping and manufacturing processes are expected to conform to the environmental regulations of the country of origin. A catalogue record for this book is available from the British Library. A catalog record for this book is available from the Library of Congress. To my parents This(cid:3)page(cid:3)intentionally(cid:3)left(cid:3)blank Contents List of Illustrations viii Preface ix Note on Chronology x Definitions of UK Monetary Aggregates xi Acknowledgments xii List of Abbreviations xiii Introduction 1 1 From Devaluation to Competition and Credit Control, 1967–71 21 2 Competition and Credit Control, 1971–73 4 6 3 The PSBR Takes Over, 1974–76 78 4 Too Many Targets, 1977–79 109 5 The Lady I s for Turning, 1979–82 1 34 Conclusion 169 List of Names 175 Chronology of Events 179 Notes 185 Bibliography of Cited Secondary Sources 240 Index 247 vii List of Illustrations Figures 2.1 Net sales of public-sector debt to the non-bank public, 1972–73 63 4.1 The sterling exchange rate, 1977–79 1 17 4.2 Changes in real household income, 1967–82 1 18 Tables I.1 B ank of England ‘ladder of recognitions’ in 1967 1 3 I.2 T he clearing banks’ cartel lending rates in 1968 1 5 2.1 Lending by sector to UK residents, May 1971 to August 1973 67 2.2 Initial supplementary special deposit penalty thresholds, December 1973 75 5.1 Original MTFS targets and outturns 1 65 viii Preface This book charts the course of monetary policy in the UK from the 1960s to the early 1980s. It shows how events such as the 1967 sterling devaluation, the collapse of Bretton Woods, the stagflation of the 1970s, and the International Monetary Fund (IMF) loan of 1976 all shaped policy. It challenges the existing historiography by showing the Bank of England and the UK Treasury experimenting with money supply targets nearly a decade before the Thatcher government placed monetarism at the heart of economic policy. The catalyst was provided by the IMF after devaluation in 1967. The result, in 1971, was Competition and Credit Control − the most radical overhaul of UK monetary policy since the Second World War. This early experiment in monetary targeting was not a success. Despite having unpublished monetary targets in place, 1972–73 saw unprec- edented growth in the UK money supply. Two years later, inflation hit record levels, apparently vindicating Milton Friedman’s claim that excess monetary growth leads inexorably to higher prices after a long and variable lag. The experience reminded senior Bank and Treasury officials that it is impracticable to exercise tight control over the UK money supply. Paradoxically, it also persuaded influential politicians, academics, and commentators, less aware of the technical difficulties and realities of monetary policy implementation, that only tighter control of the money supply would cure Britain of her inflationary ills. The result was the Medium-Term Financial Strategy (MTFS), launched by the Thatcher government in March 1980. The MTFS was based on a fundamental misreading of 1970s mone- tary policy. It produced a recession of unnecessary depth and severity that required the monetary policy U-turn of the 1981 Budget, the most controversial in postwar British history. Fiscal policy was tightened − to the bewilderment of much of the economics profession; monetary policy was loosened − to the relief of British business. This rebalancing allowed personal consumption, through increased household debt, to become the engine of growth in the 1980s. This failure to heed the lessons of 1970s monetary policy, and the subsequent increase in personal debt, has had profound long-term consequences for the shape of the British economy. ix