Economic Commentary: Consensus for a minority government

Until further notice, analysis of economic policy should start from the proposition that Britain has a minority government. Although theoretically sitting on a Commons majority of 21, John Major cannot, for the moment, take it for granted that each and every decision of the executive will be automatically rubber-stamped by the legislature, as can most British governments for most of the time. For the truth is that a small number of determined Tory backbenchers are ready to use almost any cause to defeat the Maastricht Treaty.

Lord Tebbit let the front paw of this particular cat out of the bag last Friday, when he admitted that the Prime Minister's personal future was of no importance compared with the defeat of the treaty. The rest of the cat is darker, though its outline is beginning to show. Not only is the anti-Maastricht faction indifferent to the future of the Prime Minister, it is willing to use any other convenient stick to beat Mr Major, on the off chance that this might help to kill the treaty. This, and a lingering distaste for Michael Heseltine, explains why a sizeable number of Thatcherite MPs were in the bizarre coalition that forced the climbdown on pit closures last week.

If Thatcherites can accept Arthur Scargill as a close ally in a battle to subsidise jobs in a nationalised industry, whose optimal production costs are considerably above world levels, then we must assume that all is not entirely tickety-boo in the governing party. Until Maastricht is off the political agenda one way or the other (and next week's rather obscure 'paving Bill', assuming it is approved, will be only a prelude to this winter's parliamentary trench warfare), there lies an ambush around every corner for John Major.

The standard strategy for any minority government is to ensure that on no issue are all the opposing factions lined up against the executive. This is what the present Cabinet must now do. Provided that the broad mass of Tory backbenchers can be kept tolerably contented with domestic economic policy, then the Government has a sporting chance of isolating the Maastricht wreckers into a small hard-core group. But if there is rumbling discontent on the economy as well, the chances of defeat are greatly multiplied.

Rate-cut signal

This of course is why the Prime Minister announced last week that he was now 'going for growth'. Although he did not explicitly say as much, this was clearly intended to signal that base-rate cuts would come considerably more rapidly than had previously seemed likely. Indeed, any unpalatable announcements in the Autumn Statement on 12 November (for example a 2 per cent pay limit for public sector workers) will be accompanied by at least 1 per cent, possibly 2 per cent, off interest rates. Since base- rate cuts are now the soporific that the Government intends to apply to any political storm, it would be surprising if they were above 6 per cent at Christmas.

And herein lies the Government's secret weapon. Although we must treat it as a 'minority' administration for the moment, it is a minority that can easily command a national consensus for a strategy that embraces base-rate cuts, no immediate re-entry to the ERM, help for housing, the injection of private sector capital into infrastructure projects that have previously been squeezed out by the application of absurdly rigid PSBR limits, and so on. In all these areas, there is a remarkable degree of overlap among the recovery programmes suggested by various newspapers, by the Labour Opposition, and even by the Tory right.

OK, there are some differences, but no British government will seriously alienate its troops by failing to make the Bank of England independent, or by refusing to establish a new Department of the Economy in Whitehall (two points in this newspaper's recovery plan). Provided that the Government pushes ahead with a few key ingredients that command national consensus, it will draw at least some of the fangs from the vipers that Mr Major is reported to hear hissing around him.

Of course, there are areas, other than Maastricht, where the vipers could still bite. The introduction of the council tax, for example, is much underestimated as a potential source of trouble, but that is still several months away.

In the immediate future, the key will be to avoid scoring any own-goals in the Autumn Statement.

The two most likely own-goals are potential cuts in social security programmes and the limits on public sector pay mentioned above. The argument that the Government appears to be using is that tough control over current expenditure will be needed to 'make room' for capital spending, which is said to be necessary for stimulating growth.

The economics of all this, let alone the politics, seem to me most unconvincing. If the economy has one obvious problem at the moment, it is a chronic lack of demand. That, indeed, is why urgent base- rate cuts appear to make sense to all and sundry. Unfortunately, however, few economists believe that interest rates alone will be sufficient to boost demand particularly quickly.

In this environment, it is scarcely sensible to use public spending policy to hit precisely those groups of the population - social security recipients and low-paid public sector workers - who are likely to spend every penny of extra income they can lay their hands on. In terms of its macro-economic impact, the effect of such an approach would be rather similar to increasing income tax only on low-paid workers, which seems downright perverse.

There is still time for the Cabinet to re- think these issues before 12 November. In my view, it would be far less risky to allow some increase in the public spending limit (which, after all, has risen by many billions in almost every Autumn Statement since the early 1980s) than to implement the Treasury's suggestions on public sector pay and social security.

Provided the Cabinet agrees, then they might be able to build on the national consensus and put the viper of domestic economic controversy back in its basket for the winter. The Government's prospects of doing this have been greatly helped since Black Wednesday by an event that has received almost no comment in the British press - a sea change in the market's assessment of the likely course of Bundesbank policy over the next 18 months.

Startling change

The graph shows how the markets now expect German interest rates to move during 1993, compared with what they expected just prior to Black Wednesday. For much of next year, German rates are now expected to be as low as 6.5 per cent, roughly 3 per cent lower than was expected in early September. (These, incidentally, are rates that are built into real trades in the market, and are not simply the expectations of market economists.)

This startling change - which might have been enough to keep sterling within the ERM if it had happened just a few weeks earlier - reflects the onset of recession in Germany, and the likely response of the Bundesbank to that recession. It will make the base-rate soporific a great deal easier to apply in Britain as more political rows erupt this winter.