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Dear Friends of Tan Range

by James Sinclair, Jan 24/03

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The following article appeared in the Guardian (London) on January 23rd and is particularly relevant to the gold market.

History invoked in UK's euro debate: Brown ponders the lessons of rejoining the gold standard in 1925, writes Larry Elliott

The fateful decision was taken over dinner. As the champagne flowed, the Chancellor of the Exchequer and his guests, the cream of Britain's economics establishment, batted the issue to and fro. Despite his deep misgivings, the chancellor eventually accepted he had no choice but to bow to the weight of conventional opinion and accept the consequences.

This was 11 Downing Street on March 17, 1925. Around the dining table were Sir Winston Churchill; the permanent secretary to the Treasury, Sir Otto Niemeyer; the Treasury's former leading mandarin, Sir John Bradbury; the economist John Maynard Keynes; and the erstwhile Liberal chancellor, Reginald McKenna. Churchill was under strong pressure from the Bank of England and the Treasury to put sterling back on the gold standard at its pre-first world war parity and had invited Keynes and McKenna along in the hope that their heretical views could provide him with an answer to the bank's governor, Montagu Norman, who said that in the view of "educated and reasonable men" there was no alternative but to return to gold.

Sadly for Churchill, Keynes was not on the top of his form, and McKenna lost his bottle. Put on the spot by the chancellor, he concluded: "There is no escape; you have to go back; but it will be hell." Hell it certainly was. The return to the gold standard crippled the economy, exacerbated the deleterious effects of the depression and led to the implosion of the Labour party.

What makes the debate over the gold standard fascinating is that the Chancellor, Gordon Brown, has been rifling through old Treasury papers and can now quote chapter and verse who said what to whom in 1925, the seminal economic policy blunder of the 20th century.

Clearly there is no precise parallel between the gold standard and European monetary union. Even the most committed supporter of Britain joining the single currency would be aghast at the prospect of entering at a blatantly over-valued exchange rate that would guarantee a period of painful adjustment. Moreover Brown does not have the massed ranks of officials at the bank and the Treasury ganging up on him; there is deep scepticism in both institutions about the euro project.

All that, however, is beside the point. There has been endless argument between the rival camps: whether the recent weakness of the European economy is the result of structural defects in monetary union, and whether Britain would be better off in or out. But the next few months are really about how the economic debate translates into political outcomes. Downing Street, with the support of the Foreign Office, believes that Britain's standing in Europe would be enhanced by British membership, but the Prime Minister's ability to have his own way has been weakened by two concessions.

First, Tony Blair accepted back in 1997 that the Government would only consider a referendum if the five economic tests were met, and second, he himself set the barrier high by insisting that a "clear and unambiguous" case for membership be made. Effectively, this handed over control of the matter to Brown, who has jealously guarded his right to be the arbiter of the tests. The Treasury line is that it is still conducting the preliminary technical work needed before the tests can be completed. The Prime Minister is said to be infuriated by this response, but the British administrative class has had centuries in which to hone its stonewalling skills.

Yet the Chancellor's silence on the euro is indicative. With the June deadline for the Treasury to assess the five economic tests for entry rapidly approaching, there has been nothing to suggest that he is contemplating a positive assessment. On the contrary, he has made public his misgivings about the workings of both the European Central Bank and the stability and growth pact, he has appointed Mervyn King - at best agnostic on the euro - to be the next governor of the Bank of England, and has been expressing confidence about the underlying strength of the British economy.

Take all that together with Brown's knowledge about what went wrong in 1925, and there is plenty of insight to the Treasury's mind. The Chancellor's analysis of the gold standard debate is that the government wrongly allowed political considerations to take precedence over the economics, that it made the decision from a position of weakness not strength, that it made no proper assessment of the long-term economic consequences, and that the short-term transitional costs were not taken into account.

This seems to be the template for Brown's case against those who want to hold a referendum this year. He will argue that the economics are paramount, that it would be wrong to take the euro plunge even should the economy come off the boil, and that the currency crisis of 1931 and the general strike of 1926 illustrate the long- and short-term risks of getting the decision wrong.

So where does that leave us? Blair has given up hope that he can cajole, persuade or sweet-talk the Chancellor into a positive assessment.

In the past, the idea has been floated that Blair would agree to hand over the keys of 10 Downing Street to Brown once the Treasury has passed the tests. The fact is, however, that no deal is on offer and any overtures to Brown suggesting a quid pro quo would be spurned. Since the Treasury says the assessment proper has yet to start, it could hardly admit that the tests will be failed. Brown is leaving open the door to a positive outcome followed by a quick referendum, but it is barely ajar. That message has started to permeate the rest of Whitehall.

Brown may make his intentions known in his March Budget, but it is unlikely. The Chancellor will wait until the last moment before making his announcement, and this will only be partly as a result of the economic complexity of the issues. Politically, delay will give Brown something to do in the quiet months of summer, while also keeping hope alive for Blair that something might turn up to ensure a positive assessment.

Unless something unexpected happens between now and June, that looks improbable. Should the Treasury say no, Brown will rub salt into the Prime Minister's wounds by insisting that the risks to economic stability from constant speculation mean there should be no more talk of a referendum in this Parliament.

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