Such a chirpy Chancellor

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For a man who Gallup reckons has just introduced the most unpopular Budget since the war, the Chancellor seems to be in remarkably chirpy form. Last week, in giving evidence to the Treasury Select Committee, Norman Lamont brushed aside the usual assault from arch- monetarist Nicholas Budgen, describing him as 'just a piece of toffee when it comes to inflation'.

The point he was making was that many of the domestic monetarists had willed the end but not the means of getting inflation down after 1990. So keen have they been to criticise the European exchange rate mechanism that they still refuse point- blank to recognise the benefit of getting inflation down. The message was that only he, the Chancellor, has had the courage to follow the policies needed to break the back of inflation, and now he intends to take some of the credit.

The fact that the polls are giving him nothing but grief is no longer a point that should be taken seriously. We know that opinion poll unpopularity has become the most devalued of all political currencies in recent years. The British electorate no longer pays the slightest attention to what it says to the pollsters, so we should pay an equal disregard to what they report back to us. Much more important for the Chancellor has been the fact that the political row surrounding his Budget has been remarkably muted.

Compared with the furore that followed the last Budget to increase taxation significantly in 1981, there has been barely a whimper of protest. Why is this? Quite clearly, the decision to delay the imposition of higher taxes until next year has had a dampening effect on public reaction. Furthermore, the Labour Party's attempt to raise the political temperature on the subject of Conservative 'lies' about their 'plans' for higher taxes before the 1992 General Election has not really drawn blood.

I suspect the electorate knew all along that, whoever was elected, there would be higher taxes in the years ahead. That was what most independent commentators told them at the time.

But when confronted on the one hand with a Tory Party promising to do anything it could to avoid higher taxes, and on the other with a Labour Party actively wishing to impose a massive tax increase on middle income families in the depth of a recession, it drew the not-so-difficult conclusion that Labour would raise taxes by more than the Tories, and voted accordingly. Hence the tax increase that has now been announced has not come as a surprise to any suitably cynical observer.

But perhaps a more central point is that memories of the 1981 Budget have conditioned the response inside the Tory Party to the 1993 package. In 1981, Mrs Thatcher was still a novice Prime Minister, greatly weakened by a savage recession, and barely able to command a majority within her own Cabinet. The decision to raise taxes by 2 per cent of national income in 1981/82 (equivalent to almost pounds 13bn in today's money) was taken consciously to 'sharpen the contradictions' within her own government.

It certainly had that effect. By the end of that summer, her most dangerous opponents among the wets had either been politically neutered or run out of the Cabinet altogether. The era of unbridled Thatcherism had begun, and the wets knew it - which was the main reason why the row over the 1981 Budget was so extraordinarily bitter.

What is really relevant for today is that, according to the British Anthology of Political Half Truths and Other Sundry Fables, by which Westminster entirely governs itself, the 1981 Budget was deemed to have worked. A recovery in output started almost simultaneously, so the Budget was naturally given the credit.

Hence, when there was a prospect this year that taxes might need to rise in order to control the PSBR, the stirrings in the shires said that the Chancellor should go ahead. Indeed, since the Budget, the only real criticism Mr Lamont has taken from his own side on his central economic strategy has been that the tax increases should have been larger, and more immediate. (The row over compensation for VAT on fuel is, in the political scheme of things, a little local difficulty that will soon blow over, though it is of course of great consequence to the poor families most affected.)

All these are good reasons why the Chancellor has actually strengthened his political position by introducing a tough Budget. But the best reason is that his luck has turned, for the moment at least, on economic activity. It is now clear (and if you do not believe it, please study the graph) that the trend for retail spending stopped falling before the end of 1990. By the end of 1991, the consumer was clearly ready for higher spending, but decisions seem to have been delayed until after the election. From last April onwards, consumer spending has been rising steadily at an annual rate of around 2 per cent. If this continues, people will sooner or later start to remark that the Chancellor said all along that this would happen.

However, there are two reasons to be cautious. The first concerns the consumer fundamentals that lie behind recent retail strength. Unusually for this stage of a recession, real disposable income has managed to grow strongly in the last 12 months, probably by around 3 per cent. This means that consumer spending has been able to grow by over 2 per cent while the savings ratio has actually risen. There has therefore been no direct conflict between the personal sector's desire to pay down debt (implying a high savings ratio) and a desire to raise spending. Because of strong growth in real incomes, both have been possible.

This happy state of affairs is most unlikely to continue. There has now been a sharp decline in pay settlements across the whole economy, while underlying inflation has stopped dropping, and taxes are set to rise. The growth in real disposable income will inevitably slow down markedly in the next 12 months, and could even stagnate when the tax rises are implemented next year. At that point, the consumer recovery will become dependent on the much more treacherous underpinning of a declining savings ratio - something that has not yet started to happen, and may need the encouragement of yet lower base rates.

The second reason for caution could be much more immediate. For the moment, the Government is able to bask in the reflected glory of recovering consumer demand without worrying too much about where the goods on the supermarket shelves are coming from. Unfortunately, when the publication of full sets of trade figures is resumed in the next few months, we may suddenly wake up to the enormity of the structural problem that has not been solved, nor even barely tackled, in Britain's traded goods sector - both in manufacturing and services.

The Chancellor told the select committee last week that 'current account imbalances in a world of mobile capital are financeable, and certainly what we are projecting will be easily financeable'. He had better be right.

(Graph omitted)