The lesson of history: inflation is not today’s danger

Harold Wilson, PM in 1975: No danger of inflationary fires now

Doom-mongers have always raged long and hard against the Bank of England’s anti-recessionary policies. They have taken particular and angry aim against one of its centrepieces, Quantitative Easing, the process by which the Bank buys up private and public debt to try to increase liquidity and lower long-term borrowing costs. Printing all that money is bound to lead to inflation in the end, they bluster, since it will encourage demand beyond the market’s ability to deal with it. Taking their lead from the free market economic thinker, Milton Friedman, conservative writers from the Heritage Foundation to serious economists such as Stanford’s Michael Boskin, start from the position that rising prices are usually caused by an increase in the money supply. There’s more money in the system, their reasoning goes: so sooner or later there’s bound to be a renewed burst of inflation.

The critics have seized on any little piece of evidence they can get their hands on: the high price of gold, traditionally seen as a long-term safe haven at times of rising prices; the US dollar’s downward drift since late last year, supposedly wallowing as currency traders flee the greenback for more reliable and “harder” currencies; the UK’s stubbornly rather high inflation, even during a very long double-dip recession. Yesterday’s admission by Sir Mervyn King, the Bank of England’s Governor, that inflation was likely to remain above target for some time to come has only added grist to their mill. Mark Carney, the Bank’s Governor-in-waiting, had already been given a hard time about the question of potentially even laxer inflation targeting when he faced the Treasury Select Committee just a week ago.

But the lessons of history – or at least modern British history – are clear on this one. It’s worth looking in detail at the one really major burst of really high inflation we’ve had in this country, during the mid-1970s. Annual Retail Prices Index inflation peaked at just under 27 per cent in the August of 1975. It was a terrifying moment for the British economy, and indeed for democracy itself. Analysts from all parts of the political spectrum warned that British itself might become ungovernable if citizens’ savings, and all ideas of value, were wiped out.

The crisis subsided, as the Labour government at the time both came to an agreement with the trade unions, and eventually cut spending. But its causes are instructive if we’re weighing up the likely effects of current policy. Britain had been experiencing a mild and creeping inflation for some years, as an inflexible labour market, poor management and Britain’s failure to join the European Economic Community held down productivity and competitiveness. But the inflation figures in the late 1960s were well down in the four to five per cent range; the numbers were nothing like as bad as they became during the threatened hyperinflation of the 1970s. The real reason for runaway price rises were threefold, and they were far removed from simple increases in the money supply. First and much the most important reason was the 1973 oil shock, which saw Arab oil producers ban sales to the West, and which quadrupled the price of oil within a year. A second reason was the amount of demand in the economy, which was rather high in the mid-1970s. Government spending increased quickly before the Labour government began to cut spending in 1976. At the same time, a relatively young and optimistic populace was still enjoying a post-war affluence that many policy-makers were beginning to worry was unaffordable. Harder to pin down was the effect of decimalisation in 1971, which may have meddled with consumers’ sense of value and worth and reduced competition’s downward pressure on prices.

And now? The creeping labour rigidities of the late 1960s are a thing of the past, and the hire and fire culture of the early twentieth century is if anything tilted rather too far towards the “rights” of employers rather than workers. Energy prices are likely to fall rather than rise in the medium term, especially in the United States. The discovery or exploitation of vast oil and gas reserves is likely to see costs falling across the Atlantic for some time to come. That may pose enormous problems for any green energy policy that attempts to combat climate change, but it’s a major shot in the arm to Washington’s ability to deliver growth without inflation. As for demand, an ageing, worrying and saving populace is paying back its credit cards, rather than going on a spending spree. And Britain isn’t going to have a destabilising currency reform, such as joining the euro, any time soon. Every single element that benighted the 1970s – threatening hyperinflation and causing “stagflation”, during which inflation and unemployment both rose at once – is missing. That’s why UK inflation is flat, why it’s come down since its 2011 highs, and why it’s likely to stay within tolerable bounds for years to come.

There are plenty of other things we might say about QE. It might not work very well beyond its role in stabilising confidence during a crisis, and indeed most governments’ borrowing costs have stopped falling recently. Printing money might disenfranchise elderly savers in order to stuff cash into younger voters’ pockets – though anyone below 35 is having such a hard time anyway that this objection hardly seems particularly pungent. The policy might allow governments to carry on borrowing, safe in the knowledge that the Bank of England will always accept their IOUs – though there aren’t many signs of that trend either, given the Chancellor’s (probably doomed) attempt to achieve budgetary balance by the end of this decade.

But those are debates for another day. The one thing that we can be sure of, looking back at our post-war history, is that inflation is the least of our worries.

Dr Glen O’Hara is Reader in the History of Public Policy at Oxford Brookes University. His most recent book is Governing Post-War Britain: The Paradoxes of Progress, 1951-1973 (2012). He blogs, in a personal capacity, at http://publicpolicypast.blogspot.co.uk/

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• harrymeadows

  You couldn’t move for morons, egged on by the Daily Mail and to some extent the DT, shouting that the sky was going to fall-in.

  But then most of them thought that the BoE was, literally, “printing money.”

  Now, years later, a lot of people are still perplexed by QE, but I have to say that Mervyn King will go down in history as the right man at the right time.

• http://www.facebook.com/profile.php?id=100000785782465 John Turnbull

  This is some kind of joke yes?

  What exactly do you think will happen when the little oriental men who make all our shoes and clothes say “Can you start paying us in yuan please?”

  You can’t expect the world to keep making things for us if we pay them with confetti !

• greggf

  Well done Glen, you’ve swallowed the BoE propaganda like a veritable dumb (history!) journo!
  QE is an anti-DEFLATIONARY policy invented in Japan, and encouraged by Ben Bernanke, in the 1990s when deflation followed the collapse of their bubble economy.
  Check how the £ has fared against the € or USD since, say 2005, and on a hard currency base our economy has deflated just like Japan’s. It’s only the £’s devaluation against those currencies that masks this effect. The PM (Questions to the PM,13 Feb) faces more years of a contracting economy which will be further masked by a devaluing £.
  QE is the instrument to ensure the mask doesn’t slip!

• Pacificweather

  ” Printing money might disenfranchise elderly savers in order to stuff cash into younger voters’ pockets – though anyone below 35 is having such a hard time anyway that this objection hardly seems particularly pungent.”

  You have to admire a man who can hold two diametrically opposed ideas in his head at one time. Did you Google “1970s inflation” to come up with that sentence?

  Like many others, I made some serious capital gains in the 1970s at the expense of middle class savers. My parents, having no cash assets, lost very little. Wages rose above inflation, it was a great time to be young and working class. Today does not even begin to compare. However, many, many under 35s are doing very well today but, as in the 1970s, you have to duck and dive a little.

• Pacificweather

  It is the women who do the making, the men just collect the money.