Glimpse of victory in the war on boom and bust

Enterprise Issues

NO MORE boom and bust for the British economy, the Government has pledged. In the past Britain has experienced one of the higher average inflation rates in the OECD and lower than average growth. This has gone with more volatile GDP growth rates, ranging from minus 2 per cent to plus 5 per cent, and more variable inflation, ranging from 2 to 21 per cent over the past two full business cycles.

So it is hard to disagree with Gordon Brown's emphasis on the need for economic stability as a backdrop to improving productivity and growth. For the volatility of boom and bust has damaged businesses' ability to plan and reduced their inclination to invest. Why spend money on expensive new machinery that would help your workforce operate more efficiently if a sharp business downturn could be just over the horizon?

Some confidence in having a market for whatever good or service you are producing is essential. So stability is a motherhood and apple pie issue - everybody pays lip service to it. But the willingness of governments to do whatever is necessary to achieve it has been absent since the 1950s. Until now, perhaps. Mr Brown's first act as Chancellor was to hand the day-to-day power to set interest rates to the technocrats on the Bank of England's Monetary Policy Committee.

So far, in a benign international inflationary environment, the system is working well in the sense that inflation has stayed low and stable. There is also increasing hope amongst economists that the worst of the current slowdown in growth is behind us. Not only did increases in interest rates to last June prevent the expansion inherited by the Government in 1997 from becoming a full-fledged boom, the reductions in rates since October seem to have stopped the slowdown becoming a recession.

This has happened against a turbulent backdrop in the world economy. Meltdown in Asia, Russian default, the near-collapse of Long Term Capital Management, Brazilian devaluation - all have scarcely ruffled any of the western economies, including the UK. The private sector forecasts for the economy monitored by the Treasury are seeing plenty of revisions, with gloom giving way to guarded optimism.

Two new examples come from CSFB and Barclays Capital. Both suggest the economy has passed its low point . A "technical recession" - by which is meant two successive quarters of falling GDP - has been averted. Both reports praise the MPC for responding swiftly and aggressively. There is no point at which the Bank's monetary experts can relax. Once they are sure the danger of recession has passed, they will have consider when they might need to raise the cost of borrowing.

But the CSFB report points out the remarkable stability of the economy in recent years. Inflation on the target measure has been within 1 per cent of its 2.5 per cent target for more than five years, thanks to the Clarke and Brown reforms of monetary policy. Yet this has not been achieved at the expense of greater volatility in output and jobs, as many observers feared. GDP and consumer spending are more stable. The volatility of short-term interest rates is close to a 30-year low.

"Rather than there being any inconsistency between the rates required to stabilise inflation and those required to stabilise growth, the same relatively stable rates have done both," says Robert Barrie, the CSFB economist.

But the Bank's achievement has not been uncontroversial. Businesses and unions in the manufacturing sector have kept up a constant strident song of complaint about the exchange rate.

This has been the economy's buffer between stability at home and instability overseas. Exporters don't like it. They would rather have seen a stable, and preferably much lower, exchange rate, and do not regard a more volatile pound as an acceptable price to pay for eliminating boom and bust in the domestic economy.

Businesses differ in what sorts of stability they would like to see economic policymakers achieve. But their preferences might not be perpetually irreconcilable. It would have been amazing if the sort of global upheavals we have seen in the past couple of years - from Asian crisis to the creation of the single currency - had not caused ups and downs in the currency. For another, the greater volatility of the pound might be a feature of the transition from one UK policy regime to another, diminishing as the credibility of the new regime is cemented. That would result in a strong but steady pound.

Another scenario is that the Government takes Britain into the euro during the next parliament, which would eliminate all instability in some important bilateral exchange rates but could leave sterling more volatile against the dollar and yen. The broader moral is that an end to boom-and-bust, if it really has occurred, will demand adjustments from businesses. Many secretly like nothing better than a boom, while complaining bitterly about the inevitable aftermath.

Low and steady inflation will take some new ways of thinking too, for there is no hiding behind general inflationary price rises any more. It has become very hard to increase prices at all. Some manufacturers are having to get used to continuous price cuts and quality improvements. Negotiations with employees have also changed character.

Some business people and union leaders will agree privately that it makes no sense to keep demanding lower interest rates. Others think the Bank has sacrificed industry unnecessarily on the altar of stability.

The critics should note that the new regime is showing every sign of achieving what it was supposed to: low inflation with stable growth and interest rates.