First published in the Telegraph on 13 August 2009
Isaac Newton’s epiphany came courtesy of an apple; mine was down to an empty packet of crisps. A bright green packet of Walkers’ salt and vinegar crisps, to be precise, which slapped into my goggles as I tumbled down the Alpine ski slopes at the start of the year. Shortly after peeling it off my face, I realised that this inauspicious wrapper had the power to save the British economy.
The pistes in Chamonix, you see, were littered with similar empty packets. Leaving aside the environmental implications, something wonderful was happening: economics was working. Around the resort, crisps made in Leicestershire were on sale, competing with snacks manufactured in France. For the first time in many years, English exports were penetrating into the middle of Europe. And this was no fluke: it was all part of the masterplan put into motion by the Bank of England.
Yesterday, in its grand premises on Threadneedle Street, the Bank’s governor, Mervyn King, mapped out what Britons can expect from the economy over the next couple of years. The short answer is rather a lot more pain: according to the Bank’s Inflation Report, the dents left in the economy from both the financial crisis and the recession are of such a scale that it will take years to pull Britain back to normality. Banks will not be lending again properly for some years; households will take even longer to become confident about their financial prospects. Nor has Britain fully escaped the shadow of Japan, which suffered a “lost decade” that many still think we are doomed to repeat.
But for me, one particular line stood out: when the governor pointed out, rather gleefully, that despite sterling having strengthened over the past few months, it is still a fifth weaker against a basket of other currencies than before the crisis. His point was that although the recession is deeper than expected, and interest rates will need to stay lower for longer, and the recovery will be long and drawn-out, we still – thank God – have the pound on our side.
Forget tax cuts, bank bail-outs or rescue plans for homeowners: the depreciation of the pound is Britain’s secret weapon. A weak pound helps the British economy immeasurably – sometimes in obvious ways, sometimes in a less visible fashion.
The explicit pattern is in the way it boosts trade. A cheaper pound makes Britain’s goods, denominated as they are in sterling, cheaper to overseas buyers. Hence Walkers’ crisps suddenly becoming a viable alternative to the local varieties.
The trade figures released earlier this week were quietly encouraging: while exports are hardly booming (why would they be, given that most of the world is deep in recession?) they are at least plunging less rapidly than imports. All the signs are that London is set to enjoy one of the biggest visitor booms in years, as foreigners capitalise on Britain’s unwonted cheapness.
Of course, a weaker pound can irk us: this summer has been painfully expensive for anyone taking their holidays abroad, whether in Europe (prices up by around a quarter) or the US (up by almost a fifth). Imports, too, have become more expensive. But this is a small price to pay for the steroids injected into the economy. The Bank has a rule of thumb about this: every four per cent fall in sterling is the equivalent of a full percentage off interest rates. So, while the Bank’s official rate has come down by five per cent since the start of 2008, the fall in sterling has effectively doubled the effect.
On top of that, there’s the Bank’s quantitative easing programme, under which it is creating money and using it to buy bonds off private investors. According to economists, the pounds 175 billion pumped in is roughly equivalent to a rate cut of just over four per cent. Add it all up, and it equates to interest rate cuts of a staggering 14 per cent in less than two years.
This magical devaluation dividend is hardly anything new for the UK. The pound has come to our rescue in many of the recessions of the past century. Britain’s departure from the
gold standard in 1931, and sterling’s subsequent devaluation, meant that the UK was, comparatively, one of the world’s healthiest economies during the 1930s. The fall in sterling after Black Wednesday (less, incidentally, than over the past year) helped to ensure that the recession of the early 1990s was not as baleful as would otherwise have been the case.
After that last ordeal, the Bank has been understandably reticent about being seen to influence the path of its currency overtly. Yet is it any surprise that it lobbied so hard behind the scenes for Britain to remain out of the euro? Robbed of the ability to devalue the currency, Britain would have had little option in this current crisis other than to deflate: to raise taxes, slash spending and suffer the mother of all recessions. Look no further than across the Irish Sea, where Dublin is braced for its toughest year in living memory as it is forced – sitting within the straitjacket of the euro – to take precisely this medicine.
Meanwhile, despite the governor’s gloomy news yesterday, Britain is still set to emerge from technical recession – in other words, for its economy to start expanding again – sooner than the vast majority of its Western counterparts. It is hard, given the scale of the crisis’s impact in the UK, to see any other explanation for this than the slide in the pound.
Against this backdrop, Mr King’s actions over the past few weeks start to make perfect sense. The pound was starting to creep up to a dangerous level, endangering any nascent recovery – hence the Bank’s unexpected decision last week to extend its programme of quantitative easing by a further pounds 50 billion. The reluctance yesterday to spell out when the scheme will end is likely part of the same plan.
Sadly, the strategy is hardly foolproof. Indeed, the path ahead is littered with pitfalls. There are two ways the pound’s slide could become a disease rather than a cure. The first is if the Bank is wrong about inflation, and prices start to pick up faster than expected. Against this backdrop, the decision to pour so much cash into the economy could start to look foolhardy. The second is if the next government does not take any action to bring the public finances, which are in a horrific state, back under control through a combination of spending cuts and tax rises.
Both these scenarios would result in a sterling slide of an altogether different flavour than the relatively pleasant one of last couple of years – the kind of sterling crisis more familiar from the 1970s, in which investors flee those nations whose economic institutions have been shorn of their credibility. But for now, let’s give thanks for the first good thing to have happened to the British economy for quite some time: the fall of sterling, and the spread of Walkers’ crisps.