We need higher taxes, not higher interest rates

COMMENT: `Mr Clarke thinks he can sit back and enjoy the election campaign because the strong pound will stop inflation in its tracks'

The row between the Bank of England and the Chancellor of the Exchequer has reached alarmingly dramatic proportions. But even so, the Bank has diplomatically refrained from pointing out that it would not be calling for higher interest rates in this public fashion if Mr Clarke had tamed the economy with a tougher Budget.

The problem is that the Chancellor is trying to use one weapon - interest rates - to target two enemies. One is inflation, the other the over-strong exchange rate. One requires higher borrowing costs to keep it on target in the medium term and sustain steady growth. The other requires lower borrowing costs to protect exports and balance the recovery between domestic and external demand.

Mr Clarke's claim is that these two enemies actually neutralise each other so he doesn't need to worry. He can sit back and enjoy the election campaign because the strong pound will stop inflation in its tracks.

To be fair, a respectable number of economists agree with this, including Martin Weale of the National Institute of Economic and Social Research, a scourge of the Government on its budget performance. The Chancellor's supporters on interest rates reckon the pound will have a big enough effect on exports and imports to dampen growth to a pace consistent with meeting the inflation target.

There are plenty of economists, however, who share the Bank's view that relying on the exchange rate is no substitute for actively bringing the economy under control. In their view domestic demand growth is buoyant enough to outweigh the strong pound's effect on trade. Indeed, the rise in sterling, by cutting import prices, will itself help boost consumer purchasing power and spending. An exchange rate appreciation does not always lead to an economic downturn. It depends what else is happening in the economy.

As the Bank's Mervyn King puts it, there is no simple rule relating exchange rates to interest rates. Unlike the base rate, the pound is not an economic policy lever.

All this would be a matter entirely for academic debate if Mr Clarke had used fiscal policy to limit likely consumer spending growth. Further income tax cuts in April are the last thing the economy needs, and without them the Bank might not be pushing for its quarter-point rise in base rates. This, rather than the monthly monetary meeting, is where politics is really intruding into the management of the economy. Higher taxes, not higher interest rates, is what Britain really needs, but nobody's going to admit that in the run-up to an election.

The truth behind the Euro-pensions scare

Europe's pensions muddle has provided wonderful ammunition for the Europhobes. Essentially, the argument is that the Maastricht criteria for joining the single currency should reflect the enormous future pensions burden faced by countries such as France, Germany and Italy. If these liabilities were included in state borrowing figures, their public finances would look such a sorry mess compared with the UK that nobody could possibly hope to qualify.

The most recent eruption of the scare came when the Commons social services committee said last October that British taxpayers could end up subsidising the unfunded pension liabilities of other member states. Either the European central bank would have to relax policy by printing money, or countries that could not afford their pension liabilities would try to borrow their way out of a tight corner. This would raise the yield on euro bonds and damage investment and employment in the UK, even though its pension costs are under control.

Now along comes the Action Centre for Europe to explode this view. It points out that the Maastricht Treaty prevents the kind of political interference that would force the central bank into printing money, for pensions or anything else.

The stability pact would also guard against the risk of a surge in borrowing to pay for pensions. But the Centre's most important argument is that pension promises, the cause of the problem because they are so generous in much of the EU, are not legally binding obligations, as the British government has proved since 1981 by cutting the real value of state pensions.

The effect of monetary union, therefore, will not so much be to burden Britain with other people's obligations but rather to put even heavier pressure on Italy, Germany and France to cut benefits.

The argument about who pays often gets confused with the separate question of whether pensions should be funded or not. A switch to private funding of itself will not get European economies off the pensions hook. The basic economic problem is the high proportion of total national resources required to finance an ageing population, irrespective of whether the money is found from privately funded schemes or from government pay-as-you-go pensions.

The likely upshot is that state and private provision will be forced downwards. As in most other areas of social policy, Britain has led the way in the drive to impoverish the elderly. On top of lower state pensions, the UK private sector is also baling out of final salary schemes and switching to money purchase pensions, where benefits are generally much lower. The Continent looks destined to follow.

Old King Coal is still thinking big

How they laughed at Richard Budge when he raised pounds 815m to buy the English coalfields back in 1994. The bankers might just get their money back, they sniggered, but investors in his RJB Mining group would be skinned alive as soon as its coal contracts with the two electricity generators expired in 1998.

Well, Old King Coal has paid his debt back in double-quick time and although the shares have fallen a long way from their peak, RJB is still in business. That is more than can be said for some of the other coal entrepreneurs who persuaded investors to put their money down shafts in the ground.

However, the nearer Mr Budge gets to renegotiating his coal contracts, the more nervous investors get. After all, 80 per cent of the 37 million tonnes he produces is riding on the outcome.

Mr Budge yesterday unveiled part of the solution. If some of his market disappears, then he will just go out and create a new one by building a pounds 300m power station based on clean coal technology. The 400 megawatt plant next to Kellingley Colliery in West Yorkshire would consume 1 million tonnes of coal a year and would, says RJB, produce electricity at 3p a kilowatt hour.

Mr Budge has been persuasive enough to get Texaco on board as a partner. The Americans have had a slightly smaller power station based on the same technology up and running in Tampa, Florida since last December. As his coalfields bid demonstrated, Mr Budge likes to think big. Kellingley, he says is only the beginning, there is a pounds 500bn market out there for power stations of this type, particularly as the Pacific Rim countries expand their coal-burning capacity. Mr Budge has proved the doubters wrong once but can he pull the same trick off a second time?

Suggested Topics
Start your day with The Independent, sign up for daily news emails
ebooks
ebooksA celebration of British elections
  • Get to the point
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Ashdown Group: Editor-in-chief - Financial Services - City, London

£60000 - £70000 per annum + benefits : Ashdown Group: A highly successful, glo...

Ashdown Group: Junior Application Support Analyst - Fluent German Speaker

£25000 - £30000 per annum + benefits: Ashdown Group: A global leader operating...

Guru Careers: Management Accountant

£27 - 35k + Bonus + Benefits: Guru Careers: A Management Accountant is needed ...

Guru Careers: Project Manager / Business Analyst

£40-50k + Benefits.: Guru Careers: A Project Manager / Business Analyst is nee...

Day In a Page

General Election 2015: Ed Miliband's unlikely journey from hapless geek to heart-throb

Miliband's unlikely journey from hapless geek to heart-throb

He was meant to be Labour's biggest handicap - but has become almost an asset
General Election 2015: A guide to the smaller parties, from the the National Health Action Party to the Church of the Militant Elvis Party

On the margins

From Militant Elvis to Women's Equality: a guide to the underdogs standing in the election
Amr Darrag: Ex-Muslim Brotherhood minister in exile still believes Egypt's military regime can be replaced with 'moderate' Islamic rule

'This is the battle of young Egypt for the future of our country'

Ex-Muslim Brotherhood minister Amr Darrag still believes the opposition can rid Egypt of its military regime and replace it with 'moderate' Islamic rule, he tells Robert Fisk
Why patients must rely less on doctors: Improving our own health is the 'blockbuster drug of the century'

Why patients must rely less on doctors

Improving our own health is the 'blockbuster drug of the century'
Sarah Lucas is the perfect artist to represent Britain at the Venice Biennale

Flesh in Venice

Sarah Lucas has filled the British pavilion at the Venice Biennale with slinky cats and casts of her female friends' private parts. It makes you proud to be a woman, says Karen Wright
11 best anti-ageing day creams

11 best anti-ageing day creams

Slow down the ageing process with one of these high-performance, hardworking anti-agers
Juventus 2 Real Madrid 1: Five things we learnt, including Iker Casillas is past it and Carlos Tevez remains effective

Juventus vs Real Madrid

Five things we learnt from the Italian's Champions League first leg win over the Spanish giants
Ashes 2015: Test series looks a lost cause for England... whoever takes over as ECB director of cricket

Ashes series looks a lost cause for England...

Whoever takes over as ECB director of cricket, says Stephen Brenkley
Fishing for votes with Nigel Farage: The Ukip leader shows how he can work an audience as he casts his line to the disaffected of Grimsby

Fishing is on Nigel Farage's mind

Ukip leader casts a line to the disaffected
Who is bombing whom in the Middle East? It's amazing they don't all hit each other

Who is bombing whom in the Middle East?

Robert Fisk untangles the countries and factions
China's influence on fashion: At the top of the game both creatively and commercially

China's influence on fashion

At the top of the game both creatively and commercially
Lord O’Donnell: Former cabinet secretary on the election and life away from the levers of power

The man known as GOD has a reputation for getting the job done

Lord O'Donnell's three principles of rule
Rainbow shades: It's all bright on the night

Rainbow shades

It's all bright on the night
'It was first time I had ever tasted chocolate. I kept a piece, and when Amsterdam was liberated, I gave it to the first Allied soldier I saw'

Bread from heaven

Dutch survivors thank RAF for World War II drop that saved millions
Britain will be 'run for the wealthy and powerful' if Tories retain power - Labour

How 'the Axe' helped Labour

UK will be 'run for the wealthy and powerful' if Tories retain power