In the City
The Governor's monetarism
Nicholas Davenport
I see that Gordon Richardson is to go on for another five years. I was speaking to a friend who replied: 'I thought he had retired a long time ago.' He was, of course, referring to a jockey whose name sounded much the same. But very few people seem to have heard of the Gordon Richardson who is Governor of the Bank of England. As he has become a monetarist, and as he wields immense power, I propose to devote my column this week to a discussion of his monetary policy.
Last week the Governor made it known to the gilt-edged market that he did not want to reduce MLR (Bank rate), now 6i per cent, although three-months Treasury bills had been selling at 5 11/16 per cent Clearly MLR would have been 6 per cent if it had not been for the Governor's intervention. It may be recalled that having brought Bank rate down to 5 per cent in October last, the Governor suddenly put it up to 7 per cent in November, reducing it to per cent in 6 January. In view of the serious lingering depression that goes on in the business world I thought at the time that it was foolish to play around with dearer money. But playing around with the rate of interest is the new policy of monetarists whose fixation is the growth of the money supply. Their technique is to fix a money supply target for a year in advance. If the supply seems likely to exceed the target, interest rates are raised; if it seems likely to fall below, they are lowered.
There is nothing wrong in having money supply targets. They are indeed useful in focusing the attention of politicians on the state of the domestic economy. When there is inflation they make the government realise that they must not go on financing it by increasing the money supply. But the danger is that the bureaucrats in charge of the money supply may become fanatical and act in a madly mechanical way, as Professor Friedman might do, equating the price level exactly with the money supply and, when the price level is rising, refusing to lend money to companies paying excessive wages or to local authorities employing too many people. Fortunately Mr Gordon Richardson is not mad. He is a sane lawyer by trade. He did happily confess in his speech at the last Mansion House feast for the City that he was no monetarist fanatic. 'I would not myself look,' he said, 'for any short-term relationship between changes in the money supply and changes in prices, but over time . . . I would expect monetary targets to be an increasingly pervasive influence in moderating inflation'. Most people would now agree with him. In fact, as Samuel Montagu point out in their excellent Quarterly Review, all the major industrial countries have now adopted targets for the rate of growth of the money supply, although their definitions of it will vary.
The new monetarist approach to money management has naturally been pioneered by the IMF which was left without an ordered system when dollar convertibility was suspended. It was also naturally imposed on us by the IMF when we were forced to go to them for a loan of around $5,000 million. (Incidentally the Gov ernment has decided to make an early repayment of $1,000 million of this debt.) In addition to a money supply target growth of between 9 and 13 per cent the IMF imposed a DCE target (domestic credit expansion). It has been the impression among left politicians that the imposition of these monetary restraints had caused the Labour government to break its public expenditure promises. This is nonsense.
The monetary targets in themselves were no constraint at all, for the Treasury had in fact secured a reduction in public expenditure through its application of 'cash limits', (not to mention the bottlenecks) so that the PSBR (public sector borrowing require ment) which mainly determines the growth of the money supply was never as high as the IMF had assumed. Even now the PSBR for 1978-9 is likely to be nearer £6,000 or 6,500 million than the £8,500 million assumed by the IMF. So we remain comfortably within the IMF money targets.
My chief worry about having a monetarist Governor of the Bank is that he is liable to be over-persuaded by the fanatical experts at the Bank — he himself being no expert — into making too many moves with MLR and making money dearer than it should be. For example, he pushed Bank rate up to the preposterous rate of 15 per cent in October 1976 when he was confronted with the fringe bank crisis. As he has now explained that the financial system in City came near to a complete breakdown we may forgive him for losing his nerve. But we cannot forgive him for jumping the interest rate up from 5 to 7 per cent in November when there was no real fear that we were about to shoot over the IMF monetary growth target. In the old days, the Governor usually had the common sense to know that in a serious world trade recession and with mounting unemployment money had to be kept dirt cheap. There were no 'targets' to suggest otherwise.
The trouble with the new monetarists is that they are far too young to have experi enced such deep trade depressions. One of them recently remarked that 5 per cent money was too cheap. He was not born when Bank rate remained at 2.1 per cent from 1939 to 1951. He really thought 5 per cent was too low to contain domestic credit expansion and keep within the IMF money supply target.
Seeing that we are now moving into a massive surplus on the balance of payments, thanks to North Sea oil, the last thing we should want to do is to have money returns so high in the gilt-edged market as to attract foreign money into sterling. My second worry is that the Governor has not been firm enough to stand up against his monetarist experts on this issue. He should not have allowed them to keep on making so many 'tap' issues of gilt-edged stock with absurdly high coupons — which attract the foreigner — merely in order to keep down the growth of the money supply. He should
have let the market rise to establish lower rates of interest.
In his Mansion House speech the Governor wisely said that the first claim on the use of North Sea oil should be a strengthening of our external balance sheet for the purpose of repaying our huge external debt. More than $20,000 million of foreign currency debt falls due for repayment between now and the end of 1984. The last Bank Bulletin stressed the need for keeping a strong current account surplus — in spite of the fact that the official reserves have risen to an unprecedented total of over $20,000 million.
So I end with a prayer — that his conversion to monetarism will not make our Governor lose his common sense, which has been the manifest failing of the followers of Professor Friedman.
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