Lawson Report

Lawson Report. Officially titled "The Relationship Between the Exchange Rate and Monetary Policy," this influential 1984 report was authored by Chancellor of the Exchequer Nigel Lawson. It provided a critical analysis of the United Kingdom's economic strategy in the early 1980s, focusing on the tensions between targeting the money supply and managing the sterling exchange rate. The document's conclusions significantly shaped the Thatcher government's approach to inflation and laid the groundwork for a major shift in British monetary policy.

Background and Context

The report was commissioned against the backdrop of the monetarist experiment pursued by the Conservative government following the 1979 election victory. The administration, led by Prime Minister Margaret Thatcher and initially by Chancellor Geoffrey Howe, had adopted a policy of targeting broad money, known as Sterling M3, to control inflation. This approach was influenced by the theories of economists like Milton Friedman and faced practical challenges, including political pressure and high unemployment. Concurrently, the strength of sterling, partly driven by North Sea oil revenues, created a policy dilemma by exacerbating the decline of British manufacturing industries. The Bank of England, under Governor Gordon Richardson, and later Robin Leigh-Pemberton, was deeply involved in these monetary operations, while external bodies like the International Monetary Fund monitored the situation.

Key Findings and Conclusions

The central finding was that the existing framework of monetary targeting had become ineffective and counterproductive. It argued that the chosen measure, Sterling M3, was a poor indicator due to financial innovations and shifts in the banking sector. The report concluded that the government was, in practice, already placing greater implicit weight on the exchange rate as a guide for policy, particularly through informal shadowing of the Deutsche Mark. It highlighted the contradiction between a rigid domestic money supply rule and the realities of a strong currency in the European monetary system. The analysis drew on contemporary economic debates involving figures like Alan Walters, an advisor to Margaret Thatcher, and the experiences of other nations like West Germany and the United States.

Recommendations and Proposed Reforms

The primary recommendation was for a decisive move away from monetary targets toward a more explicit focus on the exchange rate. It proposed that sterling should be formally aligned with a basket of stable currencies, with the Deutsche Mark being the most prominent candidate. This was seen as a step toward eventual participation in the European Exchange Rate Mechanism, a precursor to the European Monetary System. The report advocated for using interest rates as the main tool to maintain this exchange rate parity, rather than to control domestic money growth. It also suggested greater coordination between Her Majesty's Treasury and the Bank of England in foreign exchange interventions, moving policy closer to the models used by the Bundesbank in Germany.

Impact and Aftermath

The report's ideas were implemented by Nigel Lawson himself following the 1987 election. He began a policy of informally shadowing the Deutsche Mark, a strategy that lasted until 1988. This period culminated in the United Kingdom's eventual entry into the European Exchange Rate Mechanism in 1990 under Chancellor John Major. The policy shift is widely seen as a contributing factor to the Lawson Boom of the late 1980s and the subsequent recession. The debates ignited by the report continued through the Black Wednesday crisis of 1992 and influenced later frameworks for monetary policy, including the granting of operational independence to the Bank of England by Gordon Brown in 1997 and the adoption of inflation targeting.

Criticisms and Controversies

The report and the policies it inspired faced significant criticism. Many monetarists, including Alan Walters, denounced the move as a surrender to a fixed exchange rate regime, which they argued would import the inflation policies of other countries, particularly West Germany. The period of shadowing the Deutsche Mark was criticized for creating an unsustainable boom and necessitating high interest rates that damaged British industry. The subsequent ERM crisis and Black Wednesday were viewed by critics, such as Margaret Thatcher in her memoirs, as a vindication of their warnings. The report's legacy remains a contentious chapter in the history of British economic policy, debated by politicians like Norman Tebbit and economists at institutions like the Institute of Economic Affairs.

Category:1984 in economics Category:Economic history of the United Kingdom Category:Government reports of the United Kingdom