and After: Spending Squeeze in Political, Monetary, and Fiscal Crisis
Our analysis of financial outcome data in Chapter Two showed up two further fiscal squeezes associated with the Labour Government of the 1970s—FY
1976/77, which involved a hybrid squeeze (hard on spending, soft on revenue) that accompanied two major international bailout loans, and the following year, when the hard spending squeeze continued but revenue fell as well as expenditure and indeed fell by slightly more than spending.
This period has attracted far more discussion than the squeeze episode described in section 7.2, owing to the political drama associated with a major currency crisis and the high degree of conflict engendered within a left-of-centre party in government as it moved in stages over the course of a year (in February, July, and December) from an initial tax-and-spend stance to the adoption of significant spending cuts for 1977/78 and 1978/79 (see Burk and Cairncross 1992; Latham and Prowie 2012). Most of the political players and the then Permanent Secretary of the Treasury (Douglas Wass) also published accounts of this episode (Barnett (1982); Callaghan (1987); Dell (1991); Donoughue (1987); Healey (1990); Wass (2008)). Building on our analysis in Chapter Two, three features of this episode can be noted at the outset.
First, there were substantial falls in recorded spending relative to GDP in 1976/77 and 1977/78 (1.5 and 3 percentage points respectively). And while there was certainly some 'cosmetic' element in those recorded changes (on which we comment later) those spending falls also undoubtedly reflected major political cost to the incumbents, as we shall show later.
Second, this squeeze episode occurred during a fiscal crisis—that is, a struggle to finance a substantial budget deficit in the face of a steep decline in the currency on the international markets—and was accompanied by a major international bailout with strings attached that came to be a byword for fiscal squeeze. It is true that the degree of 'exogeneity' involved in this episode is disputed: most accounts of the period suggest that at least part of the dramatic fall in the currency from March 1976 reflected a deliberate policy by the central bank to contrive a fall in sterling by cutting interest rates and selling the currency, though who exactly knew what when, and how far any depreciation of the currency was intended to go, is still contested (see Hickson (2005: 74-8); Fay and Young (1978)). But even so, a key part of the drama was played out on the currency markets in a way that did not apply to the earlier revenue squeeze episode, when the pound had been relatively stable.
It was far from the first time that the UK had borrowed from the IMF to stabilize its currency, which happened several times in the 1950s and 1960s, and perhaps most notably by the previous Labour Government in 1967, as discussed in Chapter Six. But the scale of the bailout far exceeded any previous IMF loan to the UK (or indeed to any other country at that time) and the degree of conditionality attached to it was also greater than that applying to the 1967 IMF loan, adding to its political significance.
Third, like all the other post-World War II squeeze episodes (from the 1940s to the 1990s at least), this squeeze was conducted in an era of inflation.
Indeed, it was the most inflationary of all those post-World War II episodes, and consequently offered the greatest opportunity for revenue squeeze through 'fiscal drag', as mentioned earlier (i.e., not indexing tax thresholds to take account of inflation as money incomes rose) and for spending squeeze through widespread application of cash limits on spending and other limits on indexation of expenditure—both of which are marked features of this episode.