The Downing Street Years (121 page)

Immediately, the Opposition and the media sought to make capital out of divisions between Nigel and me. I set out the policy accurately and the thinking behind it in the House of Commons on Thursday 10 March at Prime Minister’s Questions:

This last remark however provoked a flurry of press comment to which truth was no defence. The trouble was that it appeared to contrast with Nigel’s continuing public statements that he did not want to see the exchange rate appreciate further. From now on it would be increasingly difficult to convince the markets that my Chancellor and I were at one. And, of course, the perception they had was basically an accurate one.

The question arises whether at some point now or later I should have sacked Nigel. I would have been fully justified in doing so. He had pursued a policy without my knowledge or consent and he continued to adopt a different approach from that which he knew I wanted. On the other hand, he was widely — and rightly — credited with helping us win the 1987 election. He had complete intellectual mastery of his brief. He had the strong support of Conservative back-benchers and much of the Conservative press who had convinced themselves that I was in the wrong and that only pettiness or pig-headedness could explain the different line I took. Whatever had happened, I felt that if Nigel and I — supported by the rest of the Cabinet — pulled together we could avert or at least overcome the consequences of past mistakes and get the economy back on course for the next general election.

But this was not to be. Whatever I said in the House in answer to questions about interest rates and the exchange rate was given a construction to suggest that either I was not endorsing Nigel’s views or that I was protesting too much — and so unconvincingly — my adherence to them. In these situations you just cannot win. Nigel was extremely upset over my remarks at Prime Minister’s Questions on Thursday 12 May. Though I warmly supported him and his public statements I had not repeated Nigel’s view that further exchange rate appreciation would be ‘unsustainable’.

Geoffrey Howe was now also making mischief. From this time on it became clear to me that Nigel and he — by no means on friendly terms in earlier years when there was a good deal of jealousy between them — were in cahoots, and that of the two Geoffrey was the more ill-disposed to me personally. Earlier — in March — Geoffrey had made a speech in Zurich which was widely taken as siding with Nigel against me on the question of the exchange rate. Then on Friday 13 May he quite gratuitously slipped into his speech to the Scottish Party Conference in Perth the remark, apropos of our commitment to join the ERM ‘when the time is right’, that: ‘We cannot forever go on adding that qualification to the underlying commitment.’ This led the press to widen the perceived rift between me and Nigel over the ERM once more. I was not best pleased. When Geoffrey imprudently telephoned me the morning after his speech to ask for a meeting at which he and the Chancellor should come to see me later in the day to ‘settle the semi-public dispute’, I told him that I would be seeing Nigel later in the day to discuss the markets — which Geoffrey’s own remarks had unsettled. But I was not seeing them together. I told him three times — since he did not seem to take it in and persisted in his attempt to contrive a meeting at which he and Nigel could get their way — that the best thing he could do now was to keep quiet. We were not going into the ERM at present and that was that.

I spent Sunday at Chequers working on a speech I was to deliver to the General Assembly of the Church of Scotland: there was some mirth when my speech writers and I were discovered down on our knees in an appropriate posture, though drawing on the resources of sellotape rather than the Holy Spirit. But, following the news reports during the day, I was also aware of just how damaging the constant media reports of splits and disagreements on the exchange rate were becoming.

Nigel arranged to see me on the Monday. He wanted to agree a detailed formulation for use by me in the House to describe our policy. I had been told by the Treasury in advance of the meeting that Nigel
wanted a further interest rate cut. For my part, I had become appalled at the size of our intervention in the money markets which was clearly still failing to hold sterling at the level Nigel wanted and which, in spite of assurances from Nigel, I feared might prove inflationary. But I had got part of what I wanted — which would ideally have been a pound which found its own level in the markets — in that sterling had been allowed to rise to DM3.18. So I was not unhappy to have the suggested interest rate cut I knew he wanted. I was also aware that the speculators were beginning to consider sterling a one-way bet and that allowing them to burn their fingers a little would do no end of good.

Above all, however, this reduction of the interest rate on Tuesday 17 May by half a point to 7.5 per cent was the price of tolerable relations with my Chancellor, who believed that his whole standing was at stake if the pound appreciated outside any ‘band’ to which he might have semi-publicly consigned it. If I had refused both intervention and an interest rate cut and sterling had drifted up to find its proper level there was little doubt in my mind that Nigel would have resigned — and done so at a time when both the majority of the Parliamentary Party and the press supported his line rather than mine. Yet the economic price of accepting this political constraint now seems to me to have been too high. For the whole of this period the interest rate was too low. It should have been a good deal higher, whatever the effect on the level of sterling — or the level of the Chancellor’s blood pressure.

I also agreed to use in the House a detailed endorsement of the line which Nigel and I had agreed at our Monday meeting on the place of the exchange rate as an element in economic policy. I had to go further than I would have liked, saying:

In fact from June 1988 onwards interest rates rose steadily. Nigel insisted on raising them only half a per cent at a time. I would have preferred something sharper to convince the markets how seriously we took the latest indicator that the economy was growing too fast and that monetary policy had been too lax — namely the balance of payments figures. Nigel took a more laid-back view of these than I did. He thought that the current account balance of payments deficit, which was growing ever larger, was more important as an indicator that other things were going wrong than in its own right. But the deficit worried me because it confirmed that as a nation we were living beyond our means — as well as suggesting that higher inflation was on the way.

House prices were rising sharply. MO was still growing too fast — outside its target range. The forecasts of inflation were constantly being revised upwards, though they still turned out to be too low. For example, in the September 1988 monthly Treasury Monetary Assessment inflation in March 1989 was forecast at 5.4 per cent. In October’s note the forecast was 7 per cent. (In fact it turned out to be 7.9 per cent.) So as 1988 drew to a close — and although unemployment was down and growth and incomes were well up — there was trouble ahead.

It is on the face of it extraordinary that at such a time — November 1988 — Nigel should have sent me a paper proposing an independent Bank of England. My reaction was dismissive. Here we were wrestling with the consequences of his diversion from our tried and tested strategy which had worked so well in the first Parliament; and now we were expected to turn our policy upside down again. I did not believe, as Nigel argued, that it would boost the credibility of the fight against inflation. In fact, as I minuted, ‘it would be seen as an abdication by the Chancellor when he is at his most vulnerable.’ I added that ‘it would be an admission of a failure of resolve on our part.’ I also doubted whether we had people of the right calibre to run such an institution. As I told Nigel when he came in to discuss his paper, I had thought in the late 1970s about having an independent central bank but had come down against it. I considered it more appropriate for federal states. But in any case there could be no question of setting up such a bank now. Inflation would have had to be well down — to say 2 per cent — for two or three years before it could be contemplated.

In fact, I do not believe that changing well-tried institutional arrangements generally provides solutions to underlying political problems — and the control of inflation is ultimately a political problem. It can be kept down if you have the will to do so, as the Germans do because of their bitter experience of hyperinflation. We too could have kept it down if we had pursued a sufficiently tight monetary policy — without an independent central bank. What perhaps I should have taken more notice of, however, was that this proposal of Nigel’s showed his attitude to the economic difficulties now clearly visible on the horizon. He wanted to pass the responsibility for them to something — or someone — else.

The year 1989 — Nigel’s last as Chancellor — was a time of increasing political difficulty for me. It was the tenth anniversary of my becoming Prime Minister — an anniversary which I insisted should be kept as low-key as possible but which was inevitably the occasion for unflattering reviews in the press designed to leave the reader with the strong feeling that ten years of me was quite enough. It was also a time of very high interest rates — 13 per cent in January, 14 per cent from May and 15 per cent from October — and with inflation still rising and the forecast figures apparently inexorably rising too. The trade figures continued to be bad, especially July’s, which undermined confidence and weakened the pound. Alan Walters’s view was that there was now too tight a monetary squeeze which would push the economy into a serious recession. In particular, he strongly advised against raising interest rates to 15 per cent, as Nigel wanted in response to a rise in interest rates in Germany. Alan was right. But I went along with Nigel’s judgement and up went interest rates again. It is perhaps sufficient comment on the later allegation that I was undermining the Chancellor’s position by not dismissing Alan Walters, that I backed Nigel against Alan’s advice and against my own instincts just days before Nigel walked out.

Apart from the conduct of monetary policy, there were two economic issues of substance which concerned us during this period. On the first — the ERM — Nigel and I were sharply at odds. On the second — European Economic and Monetary Union (EMU) — we were in complete agreement.

As a result of the Hanover European Council in June 1988 a
Committee of European Community central bank heads — serving in a personal capacity — had been set up under the chairmanship of Jacques Delors to report on EMU.
^*
Nigel and I hoped that together Robin Leigh-Pemberton, Governor of the Bank of England, and Karl Otto Pöhl, President of the Bundesbank, would prevent the emergence of a report which would give momentum to EMU. Herr Pöhl we considered strongly hostile to any serious loss of monetary autonomy for the Bundesbank and Robin Leigh-Pemberton was in no doubt about the strength of our views — and indeed those (at this stage) of the great majority of the Parliamentary Conservative Party and of the House of Commons. Our line was that the report should be limited to a descriptive not a prescriptive document. But we hoped that paragraphs would be inserted which would make it clear that EMU was in no way necessary to the completion of the Single Market and which would enlarge upon the full implications of EMU for the transfer of power and authority from national institutions to a central bureaucracy.

Nigel and I had met the Governor on the evening of Wednesday 14 December 1988 and urged him to make all these points in the discussions on the text which ensued. We saw the Governor again on the afternoon of Wednesday 15 February. What we had seen of the draft report seemed thoroughly unsatisfactory, along lines known to be favoured by M. Delors who was clearly making the running. Nigel and I wanted the Governor to circulate his own document; but when this appeared it was something of a mouse. Most damaging of all was that Herr Pöhl’s known opposition to the Delors approach simply was not expressed.

Whatever the Governor may have done proved ineffective. When the Delors Report finally appeared in April 1989 it confirmed our worst fears. From the beginning there had been discussion of a ‘three-stage’ approach, which might at least have allowed us to slow the pace and refuse to ‘advance’ further than the first or second stage. But the report now insisted that by embarking on the first stage the Community committed itself irrevocably to the eventual achievement of full economic and monetary union. There was a requirement for a new treaty and for work on it to start immediately. There was also plenty of material in the treaty about regional and social policy — costly, Delorsian socialism on a continental scale. None of these was acceptable to me.

Whatever problems the Delors Report raised, it won few friends at home. However, Nigel and then Geoffrey used it to reopen the argument about the ERM. Nigel argued at our meeting on the afternoon of Wednesday 3 May that we should now enter the ERM. I replied that the overriding priority must be to get down the rate of inflation and it would be quite wrong to adopt the objective of exchange rate stability. This is what we had done when we had been trying to shadow the deutschmark, and it had compromised our battle against inflation. I did not believe that the Delors Report on EMU altered the balance of argument on the ERM. On the contrary, we should certainly not be drawn further into a European system that would almost certainly change following the Delors Report. I did not accept the premise that it was necessary to join the ERM in order to prevent developments in the Community which we did not like. I thought that the idea of setting a target date for joining some time in the future would be particularly damaging. Nigel disagreed. But I said that I did not want the issue of UK membership of the ERM to be raised at this stage.