Memories came flooding back as George Soros lambasted Vladimir Putin and Xi Jinping in Davos last week, although 30 years ago it was sterling rather than authoritarian leaders that the arch speculator had in his sights.
As 1992 wore on, pressure on the pound intensified until on 16 September it was blown out of Europe’s exchange rate mechanism (ERM). John Major’s government never recovered from what was quickly dubbed Black Wednesday, so complete was the humiliation and loss of public trust.
The question now is whether Partygate will do for Boris Johnson what Black Wednesday did for Major. Has the Conservative party’s reputation been so shredded by the scandal that, no matter what happens between now and election day, defeat is inevitable?
In some ways the outlook for Johnson is grimmer than it was for Major. Black Wednesday forced the then government to abandon a policy it had hitherto said was non-negotiable – membership of the ERM. That policy, under which the pound was only allowed to trade in a tight range against the German mark, had required interest rates to be kept higher than they otherwise would have been, prolonging the recession of the early 1990s.
Leaving the ERM was good for the economy. Interest rates came down sharply and the pound fell in value. Fears that inflation would surge proved groundless because the recession had left so much slack in the economy. Higher taxes in the budgets that followed Black Wednesday were unpopular but ensured that lower interest rates helped producers rather than encouraging consumer spending.
Once the course had been set, nothing was done to change it. By the time of the 1997 election, unemployment was down, growth was robust and the big balance of payments deficit built up in the boom of the late 1980s had been eliminated. Even so, the Tories succumbed to a Labour landslide.
Rishi Sunak’s U-turn last week over a windfall tax was not on a par with leaving the ERM in September 1992, but it was damaging enough. For months, the chancellor has been resisting the idea of taxing the profits made by North Sea oil and gas companies on the grounds that it would deter investment. Similarly, Sunak said he would wait until the autumn budget before deciding whether to offer more help to households struggling with rising energy bills.
That strategy has now been abandoned. In a deafening echo of the crisis-ridden 1970s, there have now been three mini-budgets since early February as the government has played catch-up with the cost of living crisis.
Up to a point, what Sunak did made perfect sense. Only the Treasury had the means to prevent millions of households sinking into fuel poverty and the £15bn of extra spending power might spare the economy from recession later this year.
There are, though, some significant downside risks. One is that injecting extra demand into the economy will add to inflationary pressure, prompting the Bank of England to be more aggressive when it comes to raising interest rates.
The Bank believes the current inflationary pressure is being caused by a series of supply-side shocks, including a loss of workers due to Brexit and the pandemic, bottlenecks as demand picks-up after lockdowns, the zero-Covid policy being pursued by China and – more recently – the war in Ukraine. What matters for interest-rate policy in the short term is what Threadneedle Street’s monetary policy committee (MPC) thinks will happen to inflation. And what Sunak did last week will add to the MPC’s concerns.
In theory, changing the mix of policy is a good thing. There is a strong case for saying monetary policy (what the Bank of England does) has been too loose and fiscal policy (what the Treasury does) has been too tight. But the situation is not nearly as clearcut as it was in the wake of Black Wednesday when a loose monetary/tight fiscal policy mix did the trick. With the annual inflation rate already at 9%, the Bank’s credibility is on the line. There is a danger Sunak’s loosening of fiscal policy will result in monetary policy overkill from the Bank.
Even if, by some miracle, the policy mix turns out to be perfect, there is not going to be the sort of recovery seen post-Black Wednesday. Living standards will still fall this year even after Sunak’s latest measures, but not by as much. Paul Dales of Capital Economics says before the mini-budget real household disposable incomes were on course to drop by 2% in 2022, but will still decline by 1% even after the money off energy bills.
Black Wednesday shattered the Tory party’s reputation for economic competence. Major received no credit for the subsequent recovery because it only happened because the UK government abandoned austerity policies it had insisted were non-negotiable.
Johnson is in an equally bad place. After Black Wednesday a new and largely effective framework for controlling inflation was quickly cobbled together. Today, government economic policy is rudderless, with flip-flops and short-term headline grabbing announcements taking the place of a long-term strategy.
Sunak says he is a fiscal conservative but doesn’t act like one. Courtesy of the prime minister and the chancellor, “Big Government” is now back in vogue, the result first of the pandemic and now Russia’s invasion of Ukraine.
Ministers talk the language of the right but – usually after much kicking and screaming – end up acting like an incompetent party of the left. Voters would probably not forgive Johnson for Partygate even if the economy boomed between now and the next election. They will certainly not forgive him if the economy struggles, as is much more likely to be the case.