(c) crown copyright

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PIS D O C U M E N T IS T H E P R O P E R T Y O F H E R B R I T A N N I C M A J E S T Y ' S G O V E R N M E N T

C P ( 7 6 ) 118

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C O P Y NO

2 9 N o v e m b e r 1976

CABINET

ECONOMIC STRATEGY - THE IMF

M e m o r a n d u m b y t h e S e c r e t a r y of S t a t e f o r F o r e i g n a n d
Commonwealth Affaire

1.
I t i s now w i d e l y a g r e e d t h a t t h e r e i s n o e c o n o m i c c a s e f o r f u r t h e r
deflationary cuts i n public e x p e n d i t u r e ;
a.
R e s o u r c e s . No one s e r i o u s l y s u g g e s t s that, given the
p r o s p e c t i v e l e v e l of u n e m p l o y m e n t a n d s p a r e c a p a c i t y u n d e r
existing policies, we need still m o r e deflation to make r o o m
for exports and investment.
b.
Inflation. F a r f r o m i m p r o v i n g m a t t e r s , further c u t s would,
b y t h e i r p r o b a b l e e f f e c t o n r e n t s a n d o t h e r p r i c e s a n d on r e l a t i o n s
with the T r a d e s Union C o n g r e s s (TUC) s e r i o u s l y t h r e a t e n the
Social C o n t r a c t and the p r o s p e c t s for wage stability next y e a r .
c.
Investment.
F u r t h e r c u t s , involving another i n c r e a s e in
u n e m p l o y m e n t a n d a r a t e of g r o w t h i n 1 9 7 7 - 7 8 of, s a y , l p e r c e n t ,
w o u l d s t i l l f u r t h e r d e p r e s s t h e p r o f i t e x p e c t a t i o n s of i n d u s t r y .
W h a t e v e r t h e r a t e of i n t e r e s t , i n d u s t r i a l i s t s w i l l i n v e s t o n l y i f
t h e y c a n aee t h e f u t u r e d e m a n d f o r t h e i r p r o d u c t s ; a n d a y e t
g r e a t e r d e g r e e of d e f l a t i o n w o u l d k i l l o u r i n d u s t r i a l s t r a t e g y
stone-dead.
d.
B a l a n c e of P a y m e n t s .
Tbic, the traditional argument for
public spending cuts, i s not being advanced in the p r e s e n t
c o n t r o v e r s y ; in a n y event w e a r e likely t o m o v e into a healthy
s u r p l u s in 1978 ( T r e a s u r y ) or m i d - 1 9 7 7 (National Institute).
e.
Financing the Deficit. It i s s o m e t i m e s a r g u e d that we
cannot e a s i l y finance a public s e c t o r b o r r o w i n g r e q u i r e m e n t (PSBR)
of 1 0 $ b i l l i o n .
T h e r e is much scepticism about this argument;
m o r e o v e r o t h e r e s t i m a t e s of t h e l i k e l y P S B R a r e m u c h l o w e r
(eg National Institute 8 . 2 billion).
The u n c e r t a i n t y h e r e is far
t o o g r e a t to j u s t i f y c u t s w h i c h c o u l d t o r p e d o t h e S o c i a l C o n t r a c t
a n d t h r e a t e n t h e f u t u r e of t h e G o v e r n m e n t .
1

2.
The a r g u m e n t t h e r e f o r e b o i l s down to the confidence f a c t o r .
I w o u l d m a k e t h e f o l l o w i n g pointB:

On t h i s ,

a.
W e h a v e t o c o n s i d e r t h e l i k e l y e f f e c t s o n c o n f i d e n c e of a
possible breakdown in the Social Contract c a u s e d by further c u t s .
b.
Tafoxsnv-i
opinion, both nationally and internationally, is
turning s t r o n g l y a g a i n s t t h e p o l i c y of f u r t h e r d e f l a t i o n (eg s t a t e m e n t s
b y l e a d i n g e c o n o m i s t s , t h e r e c e n t s t a t e m e n t of t h e C o n f e d e r a t i o n of
B r i t i s h I n d u s t r y (CBI), e d i t o r i a l s i n the Washington P o s t and the
H e r a l d T r i b u n e , t h e s y m p a t h e t i c r e s p o n s e of P r e s i d e n t F o r d a n d
C h a n c e l l o r S c h m i d t to the P r i m e M i n i s t e r ' s m e s s a g e , e t c , ) .
c.
P r o v i d e d we s e c u r e the I M F loan, w e s h a l l get the safety n e t
for the sterling b a l a n c e s .
The m a r k e t will t h e n s e e that we h a v e
t h e m e a n s t o r e g a i n c o n t r o l of o u r c u r r e n c y .
F o r the f i r s t t i m e
in y e a r s we shall be seen to have the money to finance our deficit
u n t i l it i s t u s n t d Into s u r p l u s a n d to r e m o v e the s t e r l i n g b a l a n c e s '
t h r e a t t o t h e s t a b i l i t y of s t e r l i n g .
Our new ability to defend the
sterling r a t e will be a crucially important factor which has hitherto
been absent.
d.
The fact that our p a r t n e r s have a g r e e d to the IMF loan and
safety net will show the m a r k e t that international opinion wants us
t o h a v e a s t a b l e c u r r e n c y o n t h e b a s i s of w h i c h w e c a n p u r s u e o u r
economic policies and a r e willing to organise important co-operation
in support,
e.
The m a r k e t will see the 1 billion PSBR cut which I a m
p r o p o s i n g f o r 1 9 7 7 - 7 8 a s t h e p r e c u r s o r of f u r t h e r c u t s g o i n g w i t h
higher economic activity.
3.
Our bargaining position with the I M F i s i n m y v i e w s t r o n g e r than
people r e a l i s e .
F o r if t h e y p u s h u s t o t h e p o i n t of a s i e g e e c o n o m y a n d t h e
f u l l p a n o p l y of i m p o r t c o n t r o l s , t h i s w o u l d g r a v e l y t h r e a t e n t h e c o h e s i o n of
the E E C , dangerously stimulate a move towards world protectionism, and
b r i n g i n t o q u e s t i o n t h e B r i t i s h c o n t r i b u t i o n t o t h e m i l i t a r y d e f e n c e of t h e W e s t .
Our v e r y w e e k e n s s b r i n g s us s t r e n g t h .
If w e k e e p o u r n e r v e , w e s h a l l find
that the I M F cannot afford not to give u s the l o a n .
4,
I m a k e one final point.
It i s s t i l l s o m e t i m e s s a i d that the B r i t i s h
people a r e not living within their m e a n s and need to be taught a s h a r p l e s s o n
a b o u t t h e r e a l i t y of o u r c o n d i t i o n .
B u t on p r e s e n t p o l i c i e s w e s h a l l b e l i v i n g
w i t h i n o u r m e a n s b y l a t e 1977 o r e a r l y 1 9 7 8 .
Meanwhile the B r i t i s h people
a r e e n d u r i n g l m i l l i o n u n e m p l o y e d , a l o s s of p o t e n t i a l p r o d u c t i o n on a n
enarmoxLB s c a l e , a n d a n a c t u a l f a l l i n t h e i r r e a l s t a n d a r d of l i v i n g .
There
i s no c a n o n of m o r a l i t y o r e c o n o m i c s of s o c i a l d e m o c r a c y w h i c h d e m a n d s f r o m
them a further and needless sacrifice.
A C
F o r e i g n a n d C o m m o n w e a l t h Office
2 9 N o v e m b e r 1976