Steve Richards: Mr Darling's blank-cheque dilemma

How does the Government keep its distance while putting pressure on banks?
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The Independent Online

The recent past moves a little closer. Not so long ago the 1970s seemed as distant and as hard to comprehend as the Middle Ages. What were governments doing intervening on such an epic scale? The question was asked across much of the political spectrum.

The present always changes attitudes towards the past, and it was illuminating to hear Douglas Hurd and Roy Hattersley on the Today programme yesterday putting the case for two of the Prime Ministers who toiled during the 1970s. Ted Heath and Jim Callaghan were their subjects. From the perspective of today's unpredictably shapeless crisis their advocacy did not seem as anomalous as it would have done a few years ago.

Heath and Callaghan's outlook was shaped by the depression of the 1930s. Not surprisingly they were determined to avoid a similar situation as they struggled to get a grip during their troubled years in power. Shortly before the credit crunch Hattersley expressed amused bewilderment to me that as a minister in the 1970s he was responsible for the price of bread. Even that Monty Python policy becomes understandable if not justifiable in the current climate.

In the 1970s terrified governments were navigating unchartered waters, the phrase Gordon Brown has deployed to describe the current crisis. They were alarmed by the possible consequences of raging inflation and the threat of mass unemployment. Price subsidies were a silly waste of government cash, but the fact that food was becoming unaffordable makes it easier to understand why ministers acted in the unpredictable frenzy of a crisis.

In some ways the situation is incomparably different now. Inflation is not a problem. No cabinet minister is having sleepless nights worrying about bread. In other ways the parallel is precise. Ministers are not sure what is going to happen next. No one is. In the 1970s Conservative and Labour governments pulled strings partly out of a fear of the unknown. Sometimes the more they pulled the worse things became. It did not matter. They kept on pulling because as far as they were concerned to turn away would lead to an even more calamitous situation. Now strings are also being pulled without much evidence so far of spectacular results. But in one crucial area the government moves cautiously, and the reasons for the caution relate directly to the 1970s.

Above all else ministers must find a way of breaking the credit logjam, the main cause of the crisis. But on this front they quite consciously are seeking ways of avoiding any echo of the 1970s when it seemed that government was directly responsible for just about everything – from the delivery of coal to the price of butter as well as bread. More precisely they do not want to run the banks, but they want the banks to deliver what they want.

The conundrum is the main cause for the delay in a pivotal policy announcement. Ministers cannot risk billions of pounds in the form of loan guarantees or other similar measures without very stringent conditions attached. But those stringent conditions might render the scheme unworkable.

The Conservative leadership call for a loan guarantee scheme as if it is the equivalent of buying a bottle of wine. In fact the arrangements are highly complex. The Chancellor, Alistair Darling, has been looking at how such a scheme could be implemented for as long as the Conservatives have been calling for one. The key, though, is that it has to work. There is no point, and considerable dangers for the economy and the fate of this government, in making an announcement with trumpets blaring only to find a week or two later that still only a few home-buyers or businesses can get a loan.

The conundrum is that banks are wary of too many constraints, but ministers must set strict objectives if they are risking bucket loads of taxpayers' money. The dilemma was highlighted in the rescue package in the autumn, a move that failed to give the banks enough confidence to start lending again. Some bankers and economists argue that one reason for the reticence was the tough ministerial conditions that accompanied the package. Yet the government could not have handed over the cash and told the banks to get on with it unimpeded. Imagine if Mr Darling had announced, "I have handed over billions of pounds to the banks. In order to preserve their freedom I have said they can act how they want". Look at the fuss when banks refuse to pass on cuts in interest rates announced by the Bank of England.

Ministers want to keep a distance, but they need also to keep a careful watch over how taxpayers' cash is being spent. There is no obvious third way through this. In many different circumstances the clash between a desire to ensure taxpayers' money is well spent and a concern not to interfere too much has been a running and unresolved tension for this government since 1997. It is a source of continuing debate in relation to public service reforms. To what degree can cash raised by government be handed over to providers of services with no centrally imposed strings attached?

In this more urgent scenario two things are for sure. Ministers would be quite wrong to hand over blank cheques to the banks and keep their fingers crossed. At the same time credit must become more freely available. The aim is to retain an arm's length detachment from specific lending decisions. But the larger that government guarantees become – and they could be enormous – the greater will be the demand for specific commitments in return.

The challenge is in the detail. How does the Government remain at arm's length while specifying objectives that it expects the banks to meet? If the banks do not start lending soon government intervention will grow rather than diminish, and rightly so. As it discovered with Northern Rock this is not a time to be defensively self-effacing. Perhaps we are moving closer to the 1970s than even Heath and Callaghan would ever have thought possible as they spent their final days in an apparently unstoppable boom far removed from the anachronistic decade in which they struggled to rule.