President Bill Clinton’s political adviser James Carville once said, “I used to think that if there was reincarnation, I wanted to come back as the president or the pope or as a .400 baseball hitter. But now I would like to come back as the bond market. You can intimidate everybody.”
To put this in context somebody with a .400 batting average is a unique person, they reach home base an average of 40% of the times they go to bat. There have only ever been 13 seasons in Major League baseball history since 1900 when the top hitter was that good and the last one was by Ted Williams with a .406 in 1941. The MLB leader currently is Luis Arráez of the Minnesota Twins with an average of .338. Being more intimidating than that is a big deal.
It turns out the bond markets are pretty powerful and determine the price at which the UK can borrow along with their buddies the stock market and the foreign exchange markets. The benefit for the British people is that they prevent politicians from doing stupid stuff. When I joined the Monetary Policy Committee in June 2006, with my UK salary I got $2 to the pound. Today the pound is trading at $1.19 and fell sharply after Brexit which has not impressed the markets.
The memory of Chancellor of the Exchequer Denis Healey turning back from Heathrow airport to deal with the falling pound in the autumn 1976 is a case in point. On his way to Heathrow he turned the car round and went back to Westminster and applied to the IMF for a loan. Twenty-four hours is a long time in economics.
We have listened to six candidates fighting it out over who will take over from Boris Johnson. One of them, Rishi Sunak, is well known to the markets and a reasonably safe pair of hands. He is a known known; the problem is that Liz Truss is an unknown unknown and the worry is that she knows nothing about economics, and she has said lots of dumb stuff. She even claimed the support of Patrick Minford, who predicted that Brexit would wipe out UK manufacturing and agriculture. Expect the markets to react badly if she gets in.
An important move in 1997 was the announcement by Ed Balls and Gordon Brown granting the Bank of England independence that the markets liked, and the cost of borrowing fell as a result. Markets liked that politicians weren’t going to interfere with interest rate- setting.
Then along came Liz and her suggestion that a) the MPC should have been more aggressive on tackling inflation b) maybe the remit should be changed to target the money supply c) there should be unfunded tax cuts. Oh dear. These are clearly shooting from the hip and lack any serious analysis of their impacts.
Raising rates further would push the UK economy into a deep recession that the markets wouldn’t like and which be an electoral disaster for the Tories. You also can’t control the money supply and no other central bank does that: it is just a really dumb idea. Simple as that. The markets would react badly.
Both candidates claim to be followers of Thatcher, but we should not forget that when she became PM in May 1979 the unemployment rate was 5.3%; it was in double digits for the entire period from 1981 through 1987, peaking at 11.4%, and didn’t fall below 6% for 20 years. A recent paper has shown that a one percentage point rise in the unemployment rate raises pain and sadness between 10 and 13 times more than an equivalent rise in inflation. Unemployment hurts.
Citigroup suggested Truss is the “greatest risk to the UK” and economic stability and I agree. Her claim that tax cuts will reduce inflation has no basis in economics. Advisers are likely to have to explain to Truss that most of the economic stuff you proposed is not doable as one or more of the big three markets will collapse before your very eyes.
Watch out for another trip back from Heathrow if Liz is voted in. Economics likes the devil it knows over a clueless amateur.
Careless lips are dangerous in wartime and in economic policy-making.
Professor Blanchflower is a former member of the Bank of England’s Monetary Policy Committee