Reading to the end of my Samuel Brittan “Steering the Economy” paperback, I came across a wonderful chart he’d painstakingly made. A Philips curve, he was printing it at an historically crucial moment, 1970:
With absolutely no apologies for the pun, Samuel Brittan was utterly ahead of the curve in 1971. After a fascinating 400 pages on the struggles of the government from 1950-1967 to avoid devaluations, and the collision between their statist methods and the market realities, he noticed two things about this chart. One, it generally slopes the right way – higher inflation (temporarily) lowers unemployment, until the workers get over the money illusion. But, secondly, this chart was gradually shifting outwards, as workers either began to shift their expectations upwards, or structural problems entered the economy leading to a higher “natural” rate of unemployment.
He, of course, quotes Professor Friedman at that point. In a few years, he would quote Lucas, no doubt, and start talking about rational expectations. For now, he says:
“The logical conclusion, which Professor Friedman does not hesitate to draw, is that if unemployment is pegged at anything less than a rate consistent with price stability, the result will be a gradually accelerating rate of growth of money incomes … [which could become explosive]”
Let’s see what happens. I have found the wage/UE data for 1971-96, and put SB’s graph atop it.
I have pasted Samuel Brittan’s curve to scale onto this one. We literally entered a whole new space, almost immediately. For the next few years, both climbed. The “stagflation” memories that so bedevil Treasury officials and Telegraph writers start here. We left behind 3% unemployment forever.
Sir Samuel had realised this, arguing on page 473
“because of the inertia of wages and prices, sudden and severe attempts to halt the expansion of monetary demand* will lead to stagnation of output and unemployment, while the beneficial effects on prices will come through slowly and very much later”
The painful relationship SB realised in 1971 was lived through in 1980-84, as inflation was only killed at an unbelievably high cost in terms of unemployment.
The fear that we enter a similar dynamic clearly troubles every single Bank of England employee ever to lecture solemnly about our need to keep control over expectations, and “retain credibility”. If you want a graph of what losing credibility looks like, there it is.
But how are things nowadays? Here is my attempt to recreate a similar curve for 2000-14:
If you want to scream “1970s all over again!” like I assume the right-ier columnists do, then you need the graph to be heading generally north-easterly. But it hasn’t – it has been going west, south west. We are heading gingerly back towards where things were before the crisis, except at far far lower levels of wage growth.
Much has changed since Sir Samuel wrote his book.* The power of the workers has been crushed, whereas when he was writing it was approaching its peak. The natural rate of unemployment is much higher, and there is far far more credibility in the Central Bank to achieve its nominal targets.
All of this says to me that we need to bring a very different mindset to today’s problems. For the first time since the War, we need to be shifting the lines on that chart upwards.
*He was astonishingly prescient and wise in his advice. In the same chapter, he is wary about fixed exchange rate regimes; in favour of longer term Budget plans; rude to incomes policies; in favour of introducing a VAT; utterly against import controls; in favour of what we would now call Tax Credits (negative income tax); in favour of the competitive rigours that would follow EEC membership.