Economania

My Penguin Dictionary of Economics – never far from my side – defines inflation as: “Persistent increases in the general level of prices”. It further goes on to say that: “Accounts of the causes of inflation are numerous”. It cites the ‘demand-pull’ and the ‘cost-push’ theories, and adds: “... that it results from excessive increases in the money supply ...” but then notes that: “These causes often amount to the same thing”.

Essentially, inflation is an increase in the supply of money above and beyond that merited by increases in aggregate production. Rising prices are not necessarily inflation, but inflation will cause prices to rise.

The purest case of inflation was that which afflicted Spain in the 16th century. Gold and silver plundered from South America flowed into the Spanish economy, causing a massive increase in demand. Prices rose as Spain bought in what it had previously produced, causing inflation to spread across Europe and for Spain to lose much of its manufacturing. Despite the apparently exorbitant wealth of Spain, the Spanish crown managed to go bankrupt four times during the 16th century and set Spain on the path of decline thereafter. The inflation that affected Europe took almost a century to burn itself out.

To add to the inflationary pressures in the economy, both global and domestic, we now have the massive rise in energy prices, consequent upon the war in Ukraine. This is grimly reminiscent of the era, almost 50 years ago, when oil prices quadrupled following the Yom Kippur War.

The economic and political upheavals of the 1970s were indirectly responsible for delivering Margaret Thatcher to Downing Street. An aficionado of the Austrian and Chicago schools of economics, she applied Milton Friedman’s monetarism to the then pervasive problem of inflation, seen at that time as the prime cause of our economic ills.

To what extent was it a success? During the period 1979–1987, sterling M3 increased by ↑190%; government spending increased by ↑14% in real terms; defence spending rose by ↑28%; spending on police and the courts increased by ↑50%; spending on job-creation schemes – largely cosmetic and ineffective – rose by ↑90%. At this same time, consumer credit escalated, rising at 3 times the rate of increase of earnings. In 1980, consumer debt stood at 7% of income; by 1986 total consumer debt stood at £31 billion, fully ↑12% of incomes.

In the period 1979–1982, UK GDP dropped by ↓4%. Manufacturing output fell by ↓19%, while investment in manufacturing declined by ↓36%. Britain’s competitiveness, far from being enhanced, fell by ↓20%. Unemployment rocketed to 13% (> 2 million people affected), while by way of contrast in Norway, Austria, and Japan it only reached 3%. Output of textiles and clothing dropped by ↓35%, while steel production dropped by ↓50% and remained there for 3 years. Britain produced less steel in 1982 than it did in 1950. Car production likewise fell by ↓25% to its lowest level since 1957 and commercial vehicle production dropped to a level lower than that of 1950.

Despite all the nostrums of monetarism, inflation reached ↑↑28% in 1980 and, during the period 1979–1982, prices rose by ↑↑↑50%. In an interview in 2003, Milton Friedman admitted: “The use of quantity of money as a target has not been a success.”

Massive amounts of money have been pumped into the economy during the Covid pandemic and the current Chancellor is ostensibly adopting a Friedmanite stance on government finances. He has little room for manoeuvre. On top of that expenditure, he now has to contend with the war in Ukraine and rocketing energy prices. Such is the depth of the crisis that Britain has had to go cap in hand to Saudi Arabia and Iran to ask for increases in oil production. Incidentally, Britain has just paid a £400 million debt to Iran, a debt which has stood for 40 years but could suddenly be paid when it found itself caught between a rock and a hard place with oil and gas supplies.

Any increase in ↑taxes will necessarily further restrict ↓demand, this being already low due to the consequences of the Covid pandemic. Increasing ↑poverty and hardship will put ever more pressure on ↓welfare services.

As we move into 2022, we seem to be looking at a perfect storm, as economic and financial factors converge within the broader context of a very dangerous international political situation.

Sources
‘The Wealth and Poverty of Nations’ – Landes, David; publ. Abacus 1999.
‘Whatever Happened to Britain’ – Eatwell, John; publ. BBC / Duckworth and Co. Ltd. 1982.
Observer, 22/6/2003.

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