TIM CONGDON SPEAKS TO WITNEY

The evening of January 30th was freezing cold but nevertheless more than fifty people braved the elements to hear eminent monetary economist Tim Congdon, CBE, speak to a public meeting organised by the Witney branch of UKIP in Witney’s Langdale Hall.

In the face of a recent 30% devaluation in the pound which have led to renewed calls from some economic commentators for Britain to join the Euro, Professor Congdon explained why in the present financial crisis we are in fact better off outside the Eurozone. He reminded the audience that when the debate over the euro was at its most intense in the early and mid-1990s, the UK Euro-sceptics had emphasized that, because the single currency area implied a single interest rate, Eurozone member countries would have lost a key instrument for managing their economies. The likely result would be inappropriate deflation or inflation (because of interest rates either held at too high or too low a level), in association with asset price bubbles and busts.

Professor Congdon, who used to be one of the so-called ‘wise men’ who advised the Chancellor of the Exchequer on economic policy between 1992 and 1997, explained that since 1999 that is exactly what has happened: there have been many years of marked asset price inflations in houses and land, notably in Spain, Ireland and Greece (for which the official Eurozone interest rate was too low). However, since August 2007 paralysis in the international wholesale money market and the inter-bank market has halted the availability of funds to the banks in these countries, and the long asset-price boom has been followed by an extreme asset-price bust. “The Euro-sceptics” he said, “have been right”.

Moreover, since Spain, Ireland and Greece are constrained by the Maastricht Treaty, which established the single European currency, they cannot devalue their currency to escape the recessionary forces. “It is possible”, he warned, “that the deflationary forces in such countries are now so severe that even cutting interest rates to zero would not lead to an upturn. Their economies may have entered a so-called ‘debt deflation, in which falls in asset prices result in bad debts in the banking system, which erodes banks’ capital, which causes banks to pull in loans, which reduces the quantity of money, which leads to falls in asset prices, which result in bad debts in the banking system and so on in a self-reinforcing downward cycle as happened in the Great Depression in the USA between 1929 and 1933.” Because of this, he said, the worst-hit countries (particularly Ireland) will want to escape the shackles of the Maastricht Treaty and “the pressures for a break-up of the Euro-zone are stronger than at any time since 1999”.

Professor Congdon reminded the audience that, in contrast to the Eurozone countries, the UK can set interest rates in accordance with our own macro-economic circumstances and we enjoyed a long period of stability from 1993 to 2006, including the first seven years of the euro’s existence, when boom-bust cycles were under way in some Eurozone countries. In this respect, he said, the UK was fortunate to have remained outside the Eurozone and to have kept its own currency. But in this current period of financial difficulty, he argued, it was even more important that we retain national control over monetary policy. If interest rates (the ‘price’ of money) are cut to zero and still demand remains weak or falling, action to stimulate the economy must focus instead on increasing the ‘quantity’ of money (‘quantitative easing’) by the government or the central bank.

The government can borrow from the central bank (‘printing money’) or the commercial banks (creating new bank deposits), and use the proceeds of its loans to buy goods or assets from the non-bank private sector. Alternatively, the central bank can buy assets from the non-bank private sector or lend to it, again increasing the quantity of money. Such actions should ease the recession. However, in the Eurozone such quantitative easing is prohibited by the Maastricht Treaty: governments must limit budget deficits, and cannot borrow at all from central banks, or to an undue extent from commercial banks. Central bank activism at the national level – to buy in existing government debt and boost the quantity of money – is also proscribed. By contrast, the UK authorities are free to engage in any form of quantitative easing and so, in this respect also, we are fortunate to be outside the Eurozone and to have kept our own currency.

Congdon’s formal remarks stimulated a lively question and answer session on many aspects of the current financial crisis and informal discussions over refreshments continued much longer. Perhaps his most controversial comment was that many of our present problems have been caused by the inadequate training of Cambridge-educated economists (Professor Congdon, like MEP candidate Philip Vander Elst who introduced him and supported this view, was educated at the University of Oxford) !