Submitted by Erico Tavares of Sinclair & Co
A New Age Of IMF Bailouts – Great Britain In The 1970s
Hearing of IMF interventions generally conjures up images of developing nations (and the occasional Eurozone peripheral economy of late) facing some kind of financial difficulty. But it was actually Great Britain, the cradle of the industrialized world, which in 1976 became one of the first countries ever to be "bailed out" by the IMF in the modern sense of the term.
Now, previously the IMF had already provided financial assistance plenty of times, including to several advanced countries. Out of the 22 countries which were part of the OECD in the 1960s, no less than 8 negotiated new IMF programs during that decade, including France (1969), Japan (1962, 1964), Great Britain (1961-64, 1967, 1969) and even the US (1963-64). But these had been mostly to address short-term balance of payment issues.
Britain’s bailout in 1976, on the other hand, had strict conditionality elements with deep repercussions on the prevailing political ideology, sparking an intense private and public debate at the time as to whether the country should actually accept it. This episode inaugurated a much more interventionist approach by the IMF, anticipating many features of modern assistance programs.
The bailout arguably marked the culmination of a secular decline which had begun decades earlier. With the emergence of America and the Soviet Union as the global ideological and de facto superpowers at the end of World War II, the sun was setting fast upon the British Empire, which would fade away not long after. Still, in the postwar decades Great Britain offered plenty of prosperity, along with a free and vibrant society (who can ever forget the swinging sixties?), world-class music bands, abundant energy supplies and a respectable manufacturing sector.
Then came the 1970s. And things got bad pretty quickly.
Some Historical Context
The Labor Party was elected with a landslide majority in 1945 against the iconic wartime leader Sir Winston Churchill of the Conservative Party. Sweeping economic reforms were promptly introduced: the creation of a welfare state with national health, pensions and social security; industries were nationalized, seeking to broaden the state-planned manufacturing vitality during the war years; and taxes were raised to pay for the whole thing.
As Britain emerged from the wartime devastation, the economy got better and better, and accelerated in earnest after Churchill’s return to power in 1951. However, things were beginning to heat up abroad, with war raging in Korea, waves of Arab nationalism following the creation of the State of Israel and an increasingly belligerent Soviet Union. The Suez crisis of 1956 weakened Britain's global standing and the government's reputation, leading to the resignation of Anthony Eden, the Conservative Prime Minister who had succeeded Churchill.
But the economy managed to remain fairly robust with low unemployment into the 1960s, aided by tax cuts and other stimulative policies. Nevertheless, this was a time of change. Harold Wilson, the Labor party leader, ended 13 years of Conservative rule with a narrow victory in 1964 before increasing his majority in 1966. But despite the traditionally "euroskeptic" Conservatives losing their grip on power, Britain’s second attempt to join the European Economic Community (“EEC”) was once again vetoed by France’s President, Charles de Gaulle, in 1967.
At the same time, Britain’s increasing lack of competitiveness internationally was starting to become very apparent. The government eventually devalued the pound in 1967 to stem the continuous outflow of gold and dollar reserves. By the end of the decade, the swinging sixties were no longer swinging all that much. And Wilson was surprisingly voted out of power in 1970.
In came a new Conservative government led by Edward Heath. And that’s when things started to get interesting.
Unlucky Heath Ushers In the Unlucky 1970s
Heath came in through the liberal wing of the Conservatives, which means that he was a bit of a rare bird in relation to the party’s traditional free market values. A proponent of the “third way”, he was pro-union, favored devolution of power to Scotland and Wales, launched the Department of the Environment and nationalized Rolls-Royce Aircraft Engines as it was about to go bankrupt. His manifesto was to modernize Britain and reverse its economic decline through better management, efficiency and above all by joining the EEC, which it finally did in the early part of the decade.
Unfortunately, things started to go wrong right after Heath took over. Council workers went on strike in October 1970, an opening salvo in workers action that would become endemic over the rest of his mandate. His Industrial Relations Act of 1971 was bitterly opposed by the trade unions it sought to court. A global financial crisis was slowly unfolding as Bretton Woods collapsed. There was massive unrest in Northern Ireland, complete with assorted terrorist attacks. And then the first oil shock hit in 1973.
Economic policy was also becoming volatile. In a bid to contain a rising unemployment, the new government had decided to pump up demand. Large tax cuts were implemented, along with policies to boost salaries and credit growth. While the economy responded favorably initially, a period known as the “Barber boom” (named after the Chancellor Anthony Barber), inflation began accelerating to levels not seen since the war.
The oil crisis only made things worse, with price inflation reaching double digits by the end of 1973. As the Barber boom faded, the economy plunged into a deep recession, with output declines not seen since the depression in the 1930s. Britain was now stuck in “stagflation”.
In order to prevent inflation from spiraling out of control, the government responded by capping wages. Workers organizations responded immediately. In 1973, miners went on strike and were also joined by sympathetic trade unionists. Flying pickets successfully blocked coal and coke factories, which at the time produced the majority of the nation's power. With power in short supply, economic activity had to be curtailed. At the height of the strikes, Britain was on a mandatory 3-day workweek.
On Heath’s watch, the country would go on to lose 9 million working days to strike action. His government was in constant turmoil, declaring a state of emergency in a peacetime record of five times. The last of these, in 1974, triggered an early election, bringing Harold Wilson back in power: a known face hoping to govern an increasingly ungovernable Britain.
New Government, Same Problems
Figure 1: Annual CPI Inflation in Selected Countries, 1969-1979
Britain’s inflation rate steadily outpaced that of its main trading partners for most of the decade. The peak was reached in 1975 at almost 25% annually, compared to a little over 9% for France and a remarkable 5.4% in Germany. Whatever ideas the new Labor government had, clearly they were not working.
Primary among these was the “Social Contract”, a grand plan to run Britain like Germany, with government ministers and union leaders meeting to discuss policy and the best course for the country. And like all grand plans, it did not take long to backfire. The unions decided that they were in charge of the country and that their members should always get the best deal at the expense of everybody else.
At the same time, the balance of payments situation was getting serious. In December 1974, Energy Minister Lord Balogh, an economist, warned Wilson that the country was exposed to a violent withdrawal of short-term money if people took fright on the British pound. If inflation was not contained a deep constitutional crisis could follow.
But the inflation rate remained stubbornly high, along with unemployment and budget deficits. As other advanced economies gradually recovered from the first oil shock, it did not take long for this increasingly unsolvable toxic trifecta to be noticed abroad.
Figure 2: British Pound vs US Dollar, Monthly, Jan 1971 – Dec 1979
In April 1975, the Wall Street Journal ran the headline “Goodbye, Great Britain”, advising investors to get out of the pound. The advice was well taken. The steady decline initially turned into a rout by late 1975. And it got worse from there.
The hesitation of British politicians in confronting the situation was being watched with trepidation across the Atlantic. In early 1976, Charles Robinson, the US Under-Secretary of State for Economic Affairs wrote: “The UK’s persistent double-digit inflation and low productivity have forced abandonment of serious Bank of England efforts to defend the pound. Workers demanded and have been granted inflationary wage increases”.
As the situation got more and more desperate, Wilson decided he had enough and called it quits. In April 1976 a new government was formed with James Callaghan as the Prime Minister. Time was running out for Britain. And so was the money.
The IMF Bailout
The political landscape was becoming even more complex. Labor had already lost its small majority in the House of Commons by the time Callaghan was elected, and dealing with minor parties such as the Liberal party became a necessity to push through legislation.
By September 1976 confidence in the pound had collapsed. The game was up. With no other alternatives and facing a massive external crisis, the government was forced to seek a bailout from the IMF, a highly unusual move for a developed western economy, worth £2.3bn (over £12bn in today’s money).
From the onset of the crisis, the US government had feared that Britain would turn into an ungovernable mess held hostage by leftist trade unions, endangering the NATO alliance at a sensitive period during the Cold War and the stability of the EEC. At the same time, US right wingers imbued in the monetarist tradition of Milton Friedman were becoming much more influential within the IMF. Help would be forthcoming alright, but at a steep political price.
When the IMF mission arrived in London in November 1976, deep cuts in public expenditure were announced as part of the package. This shocked the British government and the public, and a fierce debate followed, eventually involving the country’s entire political establishment, the Bank of England, the US President, the US Treasury, the Federal Reserve, the German Chancellor and the Bundesbank.
There was no consensus even within the government. Industry Secretary Tony Benn feared that the deflationary policies of the IMF would create persistently high unemployment. As an alternative, he advocated pursuing outright protectionism: high tariffs, import quotas, deeper cuts in defense spending and propping up industries.
Still, somehow the government managed to ram through the cuts in spending. A renewed sense of hope provided some respite for the pound, which went on to recover some ground lost to the dollar over the rest of the decade. The economy started to improve, as did the balance of payments, helped by burgeoning oil revenues as North Sea production increased substantially. As a result, Britain did not even have to draw out the whole IMF loan.
But these were the 1970s. And there were plenty of more “rotten days” ahead.
The Winter of Discontent
Any stabilization benefits on the domestic economy brought about by the IMF assistance slammed against the inescapable reality that politically speaking Britain was still a mess. Inflation continued to be a problem well into the late 1970s, fueled by higher energy costs and nominal wage growth.
Once again the government tried to control wage inflation by imposing caps. And once again the unions were in no mood for stiff wage settlements.
The all-powerful Transport and General Worker’s Union decided to abandon the Social Contract and seek a better deal. They went on strike at Ford, which promptly gave them a 17% wage raise as opposed to the 5% pushed by the government. Callaghan tried to retaliate, to no avail. Seeing this, almost every other union began a program of random strikes for better pay, extending from the industrial heartlands to the public sector. And thus began the “Winter of Discontent” of 1978-79.
Many important private and public services were halted across the country. Unburied coffins in Liverpool piled up and there was no garbage collection in many cities. The strikes were having a highly disruptive effect on the lives of average British citizens. The country was now in gridlock.
There was a general feeling of helplessness. The government seemed completely unable to control either inflation or the strike action. Was there any man who could fix the situation? And what about a woman?
Maggie Steps In
Into this mess strode Margaret Thatcher.
In the mid-70s she had been regarded as another one of those Conservative rare birds, but now coming in from the deep right of the party. Thatcher had watched the unions, whom she regarded as the “enemy within”, take down Heath and Callahan and was determined to break their grip on the economy. She campaigned strongly for the promotion of private enterprise. At a time of chronically high unemployment, she went on TV calling for an end to immigration to stop foreigners from taking British jobs, a highly controversial position.
All of this resonated with a nation exhausted by strikes and power cuts. And the “Iron Lady” was elected to power in May 1979.
The rest, as they say, is history. Out went the unions, as well as, according to Thatcher's critics, large chunks of British manufacturing and the coal industry, where many profitable mines ended up being shut down. But at long last Britain was governable again, and it marched on to regain its footing domestically and abroad.
The chronic problems of the 1970s now look very remote, perhaps unimaginable even.
This striking episode in British economic life brings out several aspects that are worthwhile keeping in mind. The current economic malaise engulfing much of the Western world is certainly not as severe as in the 1970s, but there are parallels.
First of all, “it can happen here”. Not even an advanced and resourceful economy, like Britain was at the end of the 1960s, is safe from bad economic policies. The oil shocks of course had a very detrimental effect, but they merely amplified what was already happening in the country. Other advanced economies like France and especially Germany fared much better over that period.
The bailout also marked a decisive shift in how the IMF intervened in crisis situations, with increasingly stringent conditions. These were rolled out across many countries in the decades that followed: Greece (1978, 2010-), Mexico (1982, 1994), India, Russia (1996, 1998), South Korea (1997), Thailand (1997), Indonesia (1997), Brazil (1998, 2002), Argentina (2001), Seychelles (2008), Iceland (2008), Hungary (2008), Ukraine (2010, 2014-) and an assortment of peripheral Eurozone countries (2010-). Perhaps unsurprisingly, almost 40 years on the discussion on the heavy burden of economic adjustments and the possible loss of sovereignty remain just as current today.
However, the British example showed that while bailouts can be a necessary condition to resolve a serious economic crisis, they are not sufficient. The “bailoutee” needs to have the political will as a whole to carry out the reforms (assuming that they are the right ones in the first place). This was not the case in Britain, and after an initial stabilization the economic rout promptly resumed. Food for thought in the context of the current political debates over “austerity”.
This underlines a really important point. It is true that the unions in Britain wielded a disproportionate control over the economy in the 1970s and that the strikes had a major impact on the economy and public morale. But this control had been more or less given over the years by politicians seeking to pander to their electoral bases. Well organized groups can and will continue to exploit this dynamic in any modern society, to the detriment of everybody else. It is not that hard to find examples today, albeit in different shapes and forms.
And there might not be a Maggie to save the day next time.
PS: Seen in this light, Britain in the 1970s looks appalling – gridlocked, decaying and out of ideas. But not all was bad. The decade produced plenty of large-scale visionary projects: the Channel Tunnel, the Advanced Passenger Train, the Thames Barrier, a new London airport, the creation of a vibrant oil economy up north and the beginnings of a thriving computer industry. And the hopes and societal changes brought about by the swinging sixties finally materialized then. Britain was down, but it certainly was not out.