This year, next year . . .?

Nigel Lawson

In the dying days of the old year, the euphoria that Ministers are desperately trying to induce about the nation's economic prospects in 1978 seemed to receive a formidable endorsement from the Paris-based Organisation for Economic Co-operation and Development. As it appeared from the newspaper headlines, the OECD's economists were forecasting a bumper year for Great Britain, with output up by a full 3 per cent, unemployment rising only marginally to 61 per cent, and inflation at long last down to single figures, at 9 per cent.

Moreover, this was in the context of the marked gloom expressed by these same economists about the 1978 outlook for the OECD area as a whole — roughly equivalent to the industrialised western world plus Japan. What was perhaps less readily apparent, however, was the precise dimension of the likely stagnation in the OECD area that so alarmed the forecasters: output up by only 31per cent, unemployment static at 51 per cent (equivalent to under 5 per cent on a UK basis), and inflation down to 7 per cent.

Whether these figures prove right or wrong, nothing could better illustrate the humiliating yardstick by which we are now being told we should judge the British economy: a performance rather worse than that considered a disaster for the industrialised world as a whole is presented as little short of an economic miracle for Britain.

I have, of course, left something out: the OECD's forecast that we shall have a current account balance of payments surplus in 1978 of some £2,000 million, at a time when (thanks largely to the massive US deficit) the total OECD area will be in the red. But gratifying though this is, it would be astonishing were it not so; for 'Whatever happens, we have got North Sea oil, and they have not.'

Indeed, the Treasury's own estimate of the benefit of North Sea oil to this year's balance of payments on current account is well over £3,000 million at current prices. And to put matters further into perspective, a £2,000 million payments surplus in 1978 is, in real terms, considerably less substantial than the £1,000 million surplus we enjoyed in 1971, without North Sea oil.

But in any event, are the OECD's forecasts of output, unemployment, inflation and the balance of payments likely to prove right? Statistically speaking, nothing could be less likely. The Treasury, which uses the same forecasting methods, has — to its great credit — lately published its best estimates, based on past experience, of the average margin of error in this type of crystal gazing. It turns out that the average error in forecasting output a year ahead is 2 per cent, in inflation it is over 3 per cent, and in the balance of payments it is roughtly £2,000 million at current prices. As to unemployment, officials admit to almost total bafflement. As the 1977 Budget Red Book disarmingly put it, 'it is essential to recognise that likely margins of error are high — often of the same order of magnitude as the movements in the series concerned.' And, to repeat, these are the likely errors; not what might happen in a bad year for forecasters.

But although the precise forecasts are thus scarcely worth the paper they are written on, it is clear that, in general terms, 1978 will be a very much better year for the British economy than we have known for some time. This is not saying a great deal. Indeed, the OECD bleakly concludes that, even by the end of 1978, manufacturing output, which the present manufacturing-obsessed Government has made the litmus test of its so-called industrial strategy, is likely to be below the level reached in 1973.

Over the past four years we have suffered inflation at an average annual rate of 18 per cent, a trebling of the numbers unemployed, no rise in output at all, and an actual fall in productivity — not to mention a cumulative payments deficit of some £6,000 million and a fall of almost a quarter in the sterling exchange rate. Certainly, the past four years have been difficult ones for the world as a whole; but not one of our major competitors has done anything like as badly as we have done. It is against this dismal background that a welcome but modest improvement appears a minor miracle.

Nor is the improvement we can expect this year likely to last very long. On the all-important inflation front, I would expect the annual rate of price rises to reach single figures, probably by April, and it may continue to fall until June; thereafter, all the signs are of a renewed increase in inflation, taking it back into double figures again by the end of the year. The crucial question is whether the Chancellor continues gradually to reduce the rate of monetary growth in the economy, which is essential if inflation is to be genuinely curbed, or whether he relaxes the pressure in order to accommodate the renewed increase in inflation. It is all Lombard Street to a china orange that in a preelection, tax-cutting year he will take the latter course, hoping to disguise it by moving from a fixed monetary target to socalled rolling guidelines, and by pinning still more faith on a permanent incomes policy as the sovereign cure for inflation. Meanwhile, there is already a serious potential conflict between the Chancellor's present monetary target of a 9-13 per cent rise in the money supply and the Treasury's expectation that wage earnings will rise by 15 per cent.

It is, indeed, both curious and infinitely depressing to find Mr Healey pursuing the holy grail of a permanent incomes policy with undiminished ideological fervour at a time when more and more practical men have come to recognise the futility of the whole exercise — like Sir Ronald McIntosh, the recently retired Director-General of the National Economic Development Office, who in his swan song the other day ruefully concluded that 'over the years incomes policies have not on balance brought any net benefit to the country and may indeed — through their effect on industrial relations and incentives — have done more harm than good.'

But let us look on the bright side: what of North Sea oil?• I am not of that austere school who believe that even this black manna will prove a curse in disguise. In the long run, it will at least make us marginally richer than we would otherwise be — although Mr Healey's claim in the current Socialist Commentary that 'the most important single advantage it will give is that we shall be able to run the economy at a higher level of demand for longer periods than we have known since the war' is crude inflationary nonsense.

As to its effect in 1978, the great argument will be over the quite separate and symbolically vital question of the use to which future government oil royalty and tax revenues should be put: should they be frit tered away on so-called social spending and still further politically-skewed state intervention in industry, or used constructively to cut the high levels of direct taxation (and they will still be too high, even after the coming Budget) which at present sap and sour the hard work, enterprise and attitudes of both management and labour on which the success of any free economy ultimatelY depends? But the main practical impact of North Sea oil over the coming year will be on the sterling exchange rate. At the very least, it should prevent a fall that would otherwise occur; and my guess is that, over the first half of the year at any rate, there Could be strong upward pressure on the Pound.

Despite all the fine talk of exchange rate Policies, the tune will be called by market forces, and the only question is the Government's response to them. So far, Mr Healey's only consistent reaction has been to oppose them. He railed against the sharp fall in the pound in the autumn of 1976, to no effect whatever; and resisted equally vainly the partial recovery in the autumn of 1977. His reaction to any further upward Pressure in the coming months could, however, be important.

Blind resistance to any such pressure Would simply suck in vast foreign funds and endanger still further any hope of a noninflationary monetary policy. By contrast, a Modest rise in the exchange rate would assist in the battle against inflation; but anything more than that could dangerously erode export profitability. The only — and highly beneficial — way of preventing this, as Mr Healey himself well understands, is by a Progressive relaxation of exchange control, especially over direct investment overseas (and so far as the EEC is concerned, we have a treaty obligation to do just that). But overseas investment is regarded by the Labour Party and above all by the TUC as a sin against the Holy Ghost: therein lies the Chancellor's dilemma.

All in all, then, if likely economic events are any guide, it looks odds on an autumn election, before things are too obviously seen to be going wrong. Needless to say, the course of events over the coming months is in any real sense infinitely less important than, and largely irrelevant to, the need to provide a climate that will enable us to remedy the longstanding fundamental weakness of the British economy, our abysmally slow rate of growth of productivity; an affliction which in recent years has become still worse — partly as a result of deliberate government policy in the socalled job creation field. It is on this that all hope of long-term improvements in living standards largely depends. But who, in an election year, is going to worry their pretty head about that?