This week sees Britain celebrating.
No, not the end of a phenomenal summer of sport.
No, not the Queen’s Diamond Jubilee again.
And no, not the 200 year anniversary of the start of the end of Napoleon after his fatal march to Moscow, although how we missed celebrating that one I don’t know.
No, it’s none of those, although it does have a relationship with that last one as yes, it’s the celebration of 20 years since leaving the European Monetary Union (EMU).
Twenty years ago, the headlines were all about a currency in crisis.
The currency was the pound sterling, and billions of pounds were being bet by George Soros on the one hand and Norman Lamont on the other.
It culminated in Black Wednesday – Wednesday, 16th September 1992 – with the economy in chaos, the Chancellor announcing two interest rate rises in one day, and then the pound reverting back to a free float after having to eject Britain from the Exchange Rate Mechanism (ERM) meant to enable euro integration and harmonisation.
Britain was not the only one affected – the Italian Lira was also forced out – but it left an irrecoverable scar on Britain’s view of the EU and the euro, such that we have never felt it conducive to return.
In fact, eleven years later Gordon Brown, the then Chancellor, set out the criteria for the UK joining the euro, a criteria that has now been shelved and gathers dust in the corridors of Whitehall.
So, to spend a little bit of time reminiscing and thinking about current climate, here’s a few choice snippets about the euro and Britain’s background in the ERM that you might find interesting.
From the New York Times, Thursday 17th September 1992:
With the Bundesbank staying largely out of the ferment in European financial markets Wednesday, speculation spread that the turmoil might be just what the Bundesbank secretly wanted.
By doing little further to relieve the pressures building within Europe's currency system, the Bundesbank appeared to be prodding Germany's neighbors to accept that economic imbalances required a further realignment of exchange rates. The hard-line stance reasserted the German central bank's position as the continent's monetary muscleman, analysts said.
Interesting. Compare that with this piece about Mario Draghi’s announcement of buying bonds to prop up Eurozone countries in turmoil last week:
Stock markets soared on both sides of the Atlantic on Thursday afterMario Draghi, the president of the European Central Bank, unveiled a plan to save the euro by buying up the bonds of distressed eurozone countries such as Spain and Italy in unlimited quantities.
Draghi secured agreement for the scheme, known as "outright monetary transactions" (OMT), against fierce objections from the Bundesbank, in a rare defeat for Germany in eurozone policymaking.
The Bundesbank issued a statement condemning the proposal as "tantamount to financing governments by printing banknotes". Draghi admitted there had been one dissenter at Thursday's meeting of the ECB's governing council, widely thought to be the Bundesbank's Jens Weidmann.
How times change and it reminds us that the Eurozone has never really been without crisis, but it’s all about how you face up to the crisis that counts.
For example, when Britain crashed out of ERM on that Black Wednesday, the media attacked out political leaders from all sides. Here’s how the Guardian reported it:
The Chancellor, Norman Lamont, announced that the Government could no longer hold the line at the end of a day of desperate and futile attempts at propping up sterling, which included spending what the City estimated as £10 billion from Britain's reserves and a two-stage rise in interest rates to 15 per cent.
Sure, the government may have spent billions propping up the pound, but what was the true cost?
In a look back at the events that occurred in 1992, treasury official Harold Freeman published a paper in August 1997 that stated the government faced a loss of £800 million on reserve operations in August and September 1992, with a total loss of around £3.3 billion.
Wooo… scary numbers, but nowhere near as scary as the QE and crisis numbers we talk about today.
Mind you, Britain’s brush with ERM twenty years ago was preceded by a similar brush with Euro co-ordination twenty years before, and it might be that we’re just not suited to this sort of central system pegging of economies.
That’s certainly the conclusion of Mathias Zurlinden, an economist with the Swiss National Bank, writing an analysis of the whole farce for the Federal Reserve Bank of St Louis in September 1993:
Proponents of pegged exchange rates have argued for years that exchange rate pegging provides a way to import the reputation of the Bundesbank and get a credible anchor for monetary policy. For obvious reasons, this approach had a special appeal to countries lacking a credible monetary policy. Yet the argument is less convincing if speculative attacks are self-fulfilling and the credibility of a country’s exchange rate commitment can vanish as quickly and unexpectedly as it did in September 1992.
A necessary condition for such an attack to occur is that the markets expect the central bank to shift policy as a result of the attack. If the markets have reasons to believe that a country will relax monetary policy once a speculative attack has exhausted the central bank’s reserves, an attack is more likely.
In the case of Britain, a persistent recession prepared the way for such beliefs. Uncertainties about the prospects for EMU and the reluctance of British authorities to allow short-term interest rates to rise in defense of the pound subsequently accelerated the attack and reinforced a realignment of the pound. In short, the United Kingdom could not convince the markets of its commitment to a fixed exchange rate. This credibility is an essential factor in maintaining an effective exchange regime.
In reviewing the whole debacle, Martin Wolf maybe sums it up best in the Financial Times, when he says: ‘we went into the ERM in despair and left in disgrace”.
Maybe, or maybe it did us a favour ever as, if we had joined the euro in the 1990s then today, we would be another Greece.
For example, take that statement about ERM having special appeal to countries lacking a credible monetary policy, that certainly seems to be the case on reflection of how Greece joined the euro.
In a February report for the BBC’s Newsnight, Nick Dunbar showed how Greece managed to join the euro by hiding its debt.
In 2001, the Greek government was wondering how to meet the conditions of Euro membership.
One of the key requirements for membership is that member states show ‘directionality’ in their public debt.
This meant that the country’s debt ratio needed to be going down year on year: ‘The national debt should not exceed 60% of GDP, but a country with a higher level of debt can still adopt the euro provided its debt levels are falling steadily’.
That was a problem for Greece.
Whilst national debt was increasing generally, they had the additional challenge of the Olympics looming in the future and requirements for major infrastructure investments.
What to do?
The solution they came up with was not to cut spending or raise taxes, but to hide their debt.
Easily done when Goldman Sachs created a plan to strike a financial deal called a ‘swap’ with the Greek Government. Through this instrument, the government legitimately removed €2.8 billion from the country’s balance sheet.
I guess we could have done that back in 1992 … glad we didn’t.