1990-1992: Britain and the politics of the European exchange rate mechanism

Prime Minister John Major with Chancellor of the Exchequer Norman Lamont
Prime Minister John Major with Chancellor of the Exchequer Norman Lamont

Werner Bonefeld's detailed analysis of Britain's involvement in the European exchange rate mechanism, out of which it famously crashed in 1992.

Submitted by libcom on January 13, 2006

MEMBERSHIP OF THE EUROPEAN EXCHANGE RATE Mechanism (ERM) was the centre-piece of the British government's economic policy in the early 1990s. Despite the attention which the media focused on the mechanism and especially on Britain's forced withdrawal in September 1992, there has been relatively little discussion on the politics of ERM membership.2 This paper therefore seeks to open such a debate and is not primarily concerned with either the technicalities or the 'economics' of European Monetary Union.

Our interpretation focuses on two interrelated issues which are discussed in terms of the 'depoliticisation' of crisis and the politics of recession. Membership of the ERM put pressure on employers to confront workers in order to achieve lower unit labour costs, whilst capping consumer spending through high interest rates. As a consequence many indebted consumers found it hard to maintain interest payments on accrued debt, and this culminated in a dramatic breakdown of consumer credit whilst undermining credit-based property ownership. The expropriation of indebted property-owners through, for example, the repossession of dwellings, amounted to a huge socialisation of debt and exerted social discipline through financial restraint. At the same time, ERM membership allowed the government to distance itself politically from the consequences of austerity by arguing that its hand was forced by international commitments. Our central argument therefore is that ERM membership acted as an 'automatic pilot' (cf. Goldthorpe 1978) freeing the first Major government from political responsibility for economic adjustment. This understanding of the politics of exchange rates was well captured by Robert Triffin who argued, in the 1970s, that the return to at least locally fixed exchange rates in Europe after the breakdown of the Bretton Woods system, was an attempt to create a situation where local attacks on the working class (e.g. imposition of austerity) could be justified by the moral obligation to adhere to international commitments (Triffin, cited in Cleaver 1995: 159).

We begin our analysis of the ERM by looking at Lawson's policy of shadowing the Deutschmark from 1985 to 1988. Section two focuses on the politics of the ERM from Major's decision to join in October 1990 to Britain's forced ejection in September 1992. Our conclusion discusses the implications of ERM membership and emphasises the issue of 'depoliticisation'.


By 1985, amid growing speculative pressure on sterling and its sharp depreciation against the dollar, the Chancellor, Nigel Lawson, and most of the inner circle of the cabinet, including advisors from the Bank of England, began to argue the case for ERM membership (Lawson 1992). Participation in the mechanism was seen as a means of regaining a firm anchor for monetary policy, which had been lost with the abandonment of the Medium Term Financial Strategy in 1982 (Bonefeld 1993). Interest in a deflationary anchor was a response to the growing gap between sluggish industrial performance and rapid monetary expansion on a global scale. This gap indicated that the link between monetary accumulation and productive accumulation, i.e., between money and exploitation was becoming weaker, resulting in persistent inflationary pressure and speculative runs on currency.3

In the UK, the recession of the early 1980s had severely depleted manufacturing capacity, putting increasing pressure on the balance of trade that had moved into the red in 1983. The much acclaimed growth miracle of the 1980s was, in fact, illusory as manufacturing in 1985 failed to exceed the levels achieved in 1979, while growth rates remained low in comparison with the postwar period and output stayed below the levels of the 1970s (Keegan 1989). Despite a negative balance of manufacturing trade, Britain's balance of payments was in surplus because of the oil revenue. Although the de facto devaluation of the pound in early 1985 offered a welcome boost to export oriented manufacturing, the sterling crisis made it more difficult to gain the resources required to finance the deterioration in the non-oil balance at the same time as a depreciated pound increased inflationary pressures feeding speculative runs on the currency. Furthermore, attempts to freeze public expenditure were unsuccessful not only because of high levels of unemployment, but also because of the cost of the miners' strike. The growing gap between imports and exports created a deficit which was not shielded by state revenue.4 The attempt to stem the run on the pound through high interest rates, which were raised by 2% to 14% in January 1985, put renewed pressure on manufacturing. At the same time, high levels of unemployment failed to lower average wage levels. In fact, 'money wages began to increase faster than productivity so that, by the mid-1980s, unit labour costs in British manufacturing industry were again rising, whilst in other countries they were falling, leading to rising imports' (Dunn and Smith 1990: 33). Against this background, the ERM was seen, by its advocates, as providing a firm deflationary anchor which would enable the government to impose tight monetary discipline upon social relations.

However, Thatcher defiantly opposed ERM membership. Her position, so often caricatured as merely 'Little Englandism' in the popular press, was consistent with her belief in the operation of the price mechanism, including the price of a currency. Her stance embodied an alternative route to achieving low inflation. Thatcher employed the familiar 'free-floater' critique of fixed rates, arguing that the UK had low foreign exchange reserves and, in the absence of exchange controls, a fixed rate system would result in massive speculation against the pound, particularly in a run up to a General Election, thereby forcing a politically embarrassing rise in interest rates (Lawson 1992: 495). This situation, it was argued, would reduce the government's room for manoeuvre since 'equilibrium' could not be achieved in the ERM by letting the rate take the strain. After the publication of Britain's Economic Renaissance by Alan Walters, Thatcher used the socalled 'Walters critique' to bolster her objection to the ERM. Walters suggested that the ERM would drive countries with different inflation rates further apart. In a situation with no currency realignments, foreign exchange markets would favour currencies offering the highest interest rates (typically high inflation economies such as France and Italy) and thus low inflation economies, such as Germany, would paradoxically suffer weak currencies (Smith 1993: 59). France or Italy would thereby be forced to have interest rates that were too low, and Germany interest rates that were too high. While this would reinforce the deflationary resolve of the lower inflation country, the high inflation rate partner would be confronted with a further increase in its money supply. Rather than forcing inflation rates to converge downward to the German rate, fixed exchange rates were seen to widen the gap between countries at the expense of 'weaker' countries.

To operate successfully, the ERM requires broadly convergent inflation rates in participating countries.5 However, different productivity growth rates and convergent inflation rates 'would almost inevitably imply an unequal rate of growth in real incomes' reinforcing pressure on 'employment in the country with a slower real growth rate than in the faster-growing partner' (Nevin 1990: 266). Thus, ERM membership would involve long-term adjustment costs which might not be politically tolerable, even if such costs could be legitimated by the language of so-called global economic commitments.

At base, despite the technicalities of the debate, Thatcher and Lawson offered two distinct strategies to contain inflation. Thatcher's position focused primarily on the 'domestic' conditions of inflation, with government supplying the right monetary and fiscal policies, breaking the institutionalised power of the working class expressed in trade union organisation, forcing the unemployed to work for very low wages, and reducing public expenditure through welfare state reform. Exchange rate problems and balance of payment deficits were seen as pseudo-problems, disguising the real problem of inefficient use of resources caused particularly by wage inflation and labour market inflexibility due to trade union distortion of labour market self-regulation.6 Woolley (1992: 164) summarised Thatcher's position as follows: 'Depreciation would bring in train an increase in the price of imports and a relative shift in consumption to domestic goods. This would improve the trade balance, but it would also produce a fall in the domestic standard of living. Sluggishness in adjusting to higher import prices may mean that over some period both inflation and the trade balance may deteriorate.' At the same time, the government would have the ability to bail out manufacturing by letting the pound fall, accommodating relatively uncompetitive labour unit costs to world market prices by exchange rate depreciation.7 Any external constraint on the exchange rate was viewed as an obstacle to aligning costs and prices to world levels. Further, with fixed exchange rates the government's room for manoeuvre would be unnecessarily limited by reducing its ability to respond to social and political conflict in a flexible way, particularly before elections. Thatcher advocated a policy-option which could response to political conflict in a more flexible, potentially less indiscriminate, way. The ERM imposed a constraint on the exchange rate, restricting the ability to appease public opinion by buying off political conflict through, for example, 'preelection booms'. For Thatcher, this ability appears to have been of overriding political importance (Bulpitt 1986).

Lawson and Thatcher were united in their aim to strengthen the link between consumption and productive work, but disagreed over the appropriate policy instruments. The ERM involved a firm commitment to a policy of state austerity without the option of accommodating sluggish productivity performance through the devaluation of sterling and inflationary pre-election booms. For her part, Thatcher sought to improve the way the labour market functioned by creating incentives to work. This was to be achieved by removing distortions which prevented the labour market operating effectively, by forcing people into low paid employment and by strengthening the link between consumption and work through tax and poverty traps as well as reduced rates of benefit entitlements. In other words, Thatcher relied upon restricting trade union bargaining power and those institutions associated with a 'Keynesian' policy of social reform. However, Thatcher failed to grasp the subtleties of Lawson's approach to exerting a low inflation discipline on the UK economy. By joining the ERM, the government would increase its chances both of attaining low inflation and reelection. Class politics, it was hoped, would thereby be disguised in the language of globalisation. In contrast to Lawson, Thatcher advocated that the role of government should be limited to creating the conditions in which markets, especially labour markets, can function efficiently. Lawson, far from rejecting this, endorsed the regulation of the exchange rate in order to impress upon employers the need to lower unit labour costs. The aim was to make employers recognise the constraints of the market by linking the pound to the low inflation discipline of Germany. Rather than compensating low productivity through exchange rate devaluation, employers would be forced to confront workers in an attempt to increase productivity to internationally competitive levels. Lawson, having failed to persuade Thatcher to accept entry to the ERM, pegged the pound to the German mark unofficially from March 1987 onwards (see Stewart 1993: 55). Shadowing the Deutschmark at between DM2.90 and DM3.00 became the centre-piece of government monetary policy, although for the first twelve months Lawson would not even admit to the Bank of England that the policy existed (Thompson 1994, 1995). Monetary policy became exchange rate policy. Financial discipline was exerted by fiscal targets and the exchange rate. However, Lawson was not the die-hard 'monetarist' he claims to have been in his memoirs.8 Before he committed the pound to the Deutschmark, it had devalued by 16% against a basket of currencies and by 25% against the German mark (Keegan 1989). Even though the collapse in the price of oil in 1986 allowed Lawson to peg the pound at a reduced rate, the policy still involved huge reserve interventions which, at times, were at odds with international monetary agreements (Thompson 1995:1106).

Lawson's unofficial exchange rate policy survived until March 1988. This was not simply, as the press reported, because Thatcher 'found out' and demanded that the pound find its own exchange rate. Rather, in the aftermath of the crash in 1987, monetary policy was loosened on a global scale in an attempt to soften the impact of the crisis through a huge refinancing package (see Bonefeld 1995). This expansionary response fuelled inflationary pressure globally and intensified speculative betting on the future direction of national policies. The mini-boom which followed the crash was short-lived. Bad debt problems mounted. Depressed rates of profit failed to guarantee credit-worthiness; the number of company insolvencies increased and unemployment rose while brokers focused their attention on companies' ability to generate cash to guarantee dividends.

The expansionary response to the crash led to a development in which the composition of social capital looked more than ever like an inverted pyramid. 'Phantom credits' accumulated at the same time as the ratio of debt to surplus value meant that the exploitation of labour looked less likely to support shareholders' dividends. By the late 1980s, there was growing concern that the increase in profitability during the 1980s was no longer sufficient to maintain expanding investment. The fall in profits triggered a vicious circle as companies were forced to borrow in an attempt to overcome difficulties. High interest rates cut into profits at the same time as the life-blood of the boom, i.e. credit, changed into the forcible collection of unpaid debt. Big firms such as Pan Am and Maxwell Communications were forced out of business. Everywhere profits dived. Against this background it became not only increasingly 'unprofitable' to make money out of the growing ratio of debt to surplus value, it also became more dangerous. Banks were faced with huge bad debt exposure. For example, in the US, 180 banks failed in 1987 and a record 220 in 1988, 'putting severe pressure on the insurance pools whose role is to avoid financial panic' (Wilber and Jameson 1990: 102). Furthermore, the Savings & Loans sector collapsed followed by the collapse of the junk-bond market. Savings & Loans were bailed out to the tune of $130 bn (Wilber and Jameson 1990: 3). The precarious financial situation of producers intensified at the same time as credit based consumer spending came to a halt. By the early 1990s, there was growing concern that a global credit crunch was imminent (Harman 1993). Many companies had been overburdened with debt and more than a few of these companies lacked the means with which to pay off their debt. Banks could not recover the money they had lent and their balance sheets suffered. Just as speculation had fed into itself for years, so too did the new scepticism. Not only in the UK, but on a global scale, company liquidations increased, unemployment soared and private debtors were faced with consumer credit and mortgage default. In response to the breakdown in consumer spending, retailers were hit by debt deflation. There was a dramatic increase in redundant retail capacity and office space, causing the property market, against the background of mortgage default and closure of offices, to bubble and then to burst. The housing market transformed from a state of excitement into desperation, leaving many with inextricable mortgage debt problems. The crisis in the property market fed back into the financial system reinforcing debt default at the same time as bad debt problems caused by company failures mounted. Profits did not withstand high interest rates and so started to dip seriously. The weight of corporate failures and personal bankruptcies brought many banks to the brink of collapse. Banks supported their accounts by providing higher bad debt provisions and sought to 'socialise' their debt problems through redundancies, higher fees, and wider interest rate margins on loans.9 Credit became more expensive and more difficult to obtain and financial markets concentrated more and more on currency speculation.iu Turmoil on financial markets and growing speculative pressure indicated that the financial crisis was merely the prelude to a deep global recession.

Within the British context, the pound appeared to the financial markets as a sound investment in 1988. This was due to the weak position of the dollar11 and the guarantee of global credit relations by a negative PSBR. The government's budget surplus derived, in part, from oil revenue, privatisation proceeds and VAT earnings which increased because of the consumer boom. In this context, there was growing upward pressure on the pound which soon reached its unofficial ceiling of DM3.00.

In an attempt to keep the pound below its unofficial ceiling, the Bank of England sold large amounts of sterling in financial markets, thereby increasing foreign-exchange reserves (Stewart 1993: 56). Further, Lawson cut interest rates from 9% in March 1988 to 7.5% in May reducing the pound's attractiveness for investors. The credit boom which was encouraged by financial deregulation, Lawson's tax cutting budgets of 1987/1988, and by his low-interest rate policy, led to a major reflation of the economy. This happened at a time when the financial crash of 1987 had indicated that credit expansion was widely out of control. The exploitation of labour was lagging far behind the financial economy, leading to an accumulation of 'phantom credits' at a time of serious doubt over the sustainability of the 1980's credit boom. Lawson's lax monetary policy lifted the economy by 'a balloon of personal credit which expanded from a mere 90.5 at the end of 1980 to more than 328bn in 1988' (Huhne 1990: 158). During the 1980s, the ratio of household debt to disposal income increased dramatically, in particular after 1987. It had 'remained steady at 40-50% in the 1970s and early 1980s, rose from about 45% in 1982, to just over 50% in 1984, and then to over 90% in 1990' (Dunn and Smith 1994: 84). Further, trade union bargaining power strengthened as unemployment moderated and average wage increases outstripped rates of inflation (see German 1993). By 1990, unit labour costs in the UK stood at 12.5% compared with an European average of 5.7% (Deakin 1992: 185). When the balance of payments started to deteriorate, the British government's resolve to control inflation was called into question. Lawson's easing of monetary and fiscal policy enabled Margaret Thatcher to claim that 'we picked up our inflationary tendency during the time when we were trying to hold our pound level with the Deutschmark.12 Similarly, the Governor of the Bank of England, Robin Leigh-Pemberton, retrospectively concluded that government economic policy making 'went quite badly wrong' under Lawson when 'interest rates were reduced over a period when we now see they clearly should not have been' (Financial Times, 6.4.90).

Although the easing of monetary and fiscal policy undoubtedly tipped an already overheating economy into an inflationary upsurge, the relaxation of a policy of state austerity was pursued globally in an attempt to avoid financial turmoil after the crash.13 Further, the underlying weakness of the real economy indicated that the expansionary policy of easy credit throughout the 1980s was not sustained by capital growth but, rather, by an inflationary growth in the money supply. In other words, the exploitation of labour did not deliver the resources with which to check the debt burden on a global scale. In the UK consumption was not sustained by a real breakthrough in productivity growth but, rather, by credit expansion for which there was no corresponding expansion in assets against which to charge the increase in the money supply. The pound fell dramatically by 20% between Spring 1989 and December 1989 (Smith 1993: 159). Government responded by tightening monetary policy. By October 1989, interest rates were raised to 15% where they stayed for twelve months. This tightening of monetary policy led not only to a slowdown in consumer spending, including mortgage default, and a huge transfer of resources from debtors to creditors but, also, to growing pressure on companies. After the crash of 1987 most company borrowing was no longer by means of stock-market issues. The major share of company borrowing was from banks. 'In 1988 and 1989 together, companies borrowed 113bn, an average of 74% of income', of which 65bn was from banks (Smith 1993: 192). In the final few months of Thatcher's tutelage the government depended on high interest rates to defend the pound in an attempt to attract money to London to finance the growing balance of payments deficit. This deflationary response to the 'overheating of the economy' reinforced bad debt problems, threatening company bankruptcy and unemployment, and intensifying the financial distress of private debtors.

By April 1990, inflation had climbed steadily from a low point of 3% in January 1988 to 9.4%-the highest level of inflation for 8 years, in spite of interest rates biting at 15% (CSO 1994). Manufacturing labour productivity in Britain still lagged 20.4% and 17.4 % behind German and French levels respectively.14 Unless demands for higher pay could be resisted, and productivity increased, then rising inflation would lead to sustained speculative pressure on the pound. At the same time, the government's anti-inflationary pay stance came under pressure from ambulance workers, workers at Ford who rejected a 10% pay deal, and public sector unions representing 750,000 local government white collar staff who submitted a 14% pay claim. In contrast to government rhetoric, Jack Adams the chief union negotiator at Ford, insisted that his members were not the cause of inflation, 'they are the victims of it' (Financial Times, 12.1.90). From the Treasury's viewpoint, the UK economy was now in the stop phase of its latest stop-go cycle. The lagged effect of wages on past growth in demand was now seen to be clashing with a downturn in economic activity and as the Financial Times (12.1.90) stated bluntly, 'the trade unions (always the last to know) cannot see the abyss opening up before them.'

Against this background, the political situation in Britain was becoming more and more uncertain. Concern focused not only on high wage settlements but, also, on the political crisis over European monetary union. While Cabinet ministers, such as Howe and Lawson, resigned over Europe, the high interest rate policy posed the risk that the so-called property owning democracy (cf. Brittan 1984) would transform into a republic of debt.15 The weakness of productivity growth relative to credit expansion during the 1980s was reinforced by the huge burden of personal debt and a dramatic decline in the savings-ratio (Keegan 1989). For the government, this carried the threat of heightened political crisis, reducing the electoral appeal of the Conservative party, unless expropriation could be depoliticised and the responsibility for the tightening of monetary policy shifted on to an 'international regime'.

The traditional backbone of Conservative support had already been alienated by the introduction of the poll tax, particularly the component of the uniform business rate (Stoker 1991). The government's policy of austerity was highlighted by the poll tax which focused attention on the imposition of tight money deriving from high interest rates (see CSE 1989; Holloway 1990). The indiscriminate nature of the tax caused growing social unease which culminated in a major challenge to the government's policy in the form of the anti-poll tax movement. The Thatcher government clearly failed to depoliticise the imposition of austerity. For this Thatcher paid the ultimate price as witnessed in her resignation shortly after Britain joined the ERM in October 1990. Political uncertainty over Europe and heightened social tension over the government's deflationary policies paved the way for ERM membership. It became clear that the government would be well served by an 'automatic pilot' which would simultaneously promise a stable exchange rate and shield the government politically from the consequences of the forceful collection of debt.


The history of the pound's membership of the exchange rate mechanism from October 1990 to September 1992 is easily summarised. Sterling was pegged at the central rate of DM2.95 with a fluctuation margin of 6% on either side of this bench-mark. Britain entered under conditions of high inflation, huge balance of payments deficits, a growing PSBR, and political uncertainty. ERM membership was therefore viewed as a golden opportunity to fend off speculative pressure and achieve adjustment between monetary expansion and sluggish industrial performance. In sum, the ERM was accepted as a secure counter-inflationary anchor which would impose financial discipline upon social relations from the 'outside' and thereby achieve what the government had failed to achieve 'domestically'.

Between November 1990 and September 1992, there was a short period where membership was seen to 'work', protecting the pound against speculative attacks, reducing inflation, depoliticising economic policy and encouraging economic adjustment. The Treasury and the Bank of England made bullish noises that the pound was well placed to overtake the German mark as the leading currency within the ERM. However, from Spring 1992, there was increasing doubt over the pound's future within the ERM. Sterling was finally forced out of the ERM on the 9th September, 1992. The main plank of Major's economic policy had snapped.

Shortly after the anti-poll tax riot in April 1990, the National Institute of Economic and Social Research reported that, because of inflation, economic activity was slowing faster in the UK than in any other leading country (NIESR 1990). As chancellor, Major's view of the benefits of joining the ERM derived in large part from Lawson's analysis of how firm financial discipline could best be imposed on industry and the working class. Lawson and Thatcher, united in their rejection of formal incomes policies, agreed that the best strategy should be constructed around the greatest practicable amount of market freedom within an overall framework of firm financial discipline to bear down on inflation. The issue which explosively divided them was precisely how that discipline would best be applied (Lawson 1992: 9). In his resignation speech to the House of Commons on the 31 st of October 1989, Lawson clarified that the exchange rate could not be seen as an aspect of market freedom but, on the contrary, it must be part of the essential financial discipline required to suppress inflation. In Lawson's view, entry to the ERM would make the exchange rate floor more credible and thereby underwrite the anti-inflationary resolve of the government. The ERM would provide a new framework for monetary policy in which, 'a fixed exchange rate became the main anti-inflation instrument and domestic interest rates became subordinated to it' (Johnson, quoted in Grant 1993: 57). For Lawson, the ERM would simultaneously supply an anchor for monetary tightness and depoliticise the adjustment between consumption and productive work.

In the context of rising inflation, working class pay demands and the anti-poll tax protest, Major accepted in full the assessment of the Bank of England and the OECD that Britain would reap substantial benefits from joining the ERM. In particular by ruling out periodic exchange rate realignments both sides of industry, in Major's view, would be forced to face the long-standing problem of inflationary wage settlements. Thatcher's position weakened as the government found increasing difficulty in fending off speculative pressure. For a government that found it difficult to impose monetary discipline, the ERM offered a golden opportunity to have it 'implemented from without' (Sandholtz 1993: 38). The government could be shielded from the unpalatable consequences of 'economic adjustment' by shifting responsibility on to an international regime and thereby Major hoped the government would evade electoral punishment (see Busch 1994: 84). With the expectation that the Gulf Crisis would exacerbate inflation in 1991, Major finally committed Britain to the ERM on the 8th October 1990. In timing the entry, statecraft concerns were obviously uppermost. 16

The cut in base rates from 15% to 14%, which accompanied Major's decision, was presented as contingent on entry ostensibly indicating the government's willingness to ease monetary pressure. Some commentators, such as Smith ( 1993) and Stewart ( 1993), argue that the depth of the recession of the 1990s, and also the pound's short lived membership of the ERM, was to a great extent a consequence of the government's decision to join the mechanism at an overvalued exchange rate. For these observers, the central rate of DM2.95 was much too high. For example, Stewart (1993: 61) argues that the decision to join was 'a basically sensible move' but that the central rate was 'simply too high', and that instead of joining at DM2.95, a preferred central rate would have been DM2.50 (see also Smith 1993). In this view, the discipline exerted by the ERM was too harsh against the background of a serious economic downturn. In short, the 'British economy had turned decisively in the middle of 1990, before the decision to join the ERM, and well before the beginning of the world recession' (Stewart 1993: 62). The chosen entry rate thereby simply exacerbated the recession of the 1990s.

However, the argument in favour of a lower central rate misses the point that the decision to join the ERM was not motivated by the desire to compensate inflation, wage increases and sluggish productivity through a lower exchange rate. ERM membership was motivated by the desire to achieve low inflation discipline. This was a view which the Governor of the Bank of England and the CBI were happy to confirm. As Stevens (1991: 26-7) put it, 'arguably the most disappointing feature of the past eleven years of attempted price restraint has been the fact that wage inflation has persistently outstripped general inflation. ... It is now clear that merely a portion of these greater labour costs was justified by improvements in productivity. Only an exchange rate policy... can constitute a sufficiently obvious discipline, even for the dullest of wage negotiators, to break this trend that has bedevilled us for more than a generation.' Further, membership in the ERM 'is the recognition that devaluation does not work as an instrument of economic policy' (ibid.: 27). There was a real danger that the UK would find itself in a position comparable with East Germany after German unification. However, unlike East Germany, the UK had been given a longer chain. The 6% fluctuation margin on either side of the central rate provided a considerable degree of flexibility. A further line of defence for the pound was the institution of central bank intervention for currencies attacked by speculative runs. If all this failed to ward off speculative pressure, interest rate increases, it was argued, would stabilise the pound within the ERM (Financial Times, 16.1.92).

Initially, ERM membership removed the risk of a drastic decline in the value of the pound and improved Britain's credit rating.17 Against the background of the anti-poll tax revolt, Britain's hard pressed policy-makers gained an important degree of freedom. The ERM provided facilities and resources to finance interventions for stabilising the exchange rate. The rules of the system require participating countries to defend partner currencies against speculative attack and to provide credit support for currencies at the margin. While the government gained an important degree of freedom, the ERM does not reduce deficits automatically. It simply eases the problem of deficit financing, for a time. The condition of sustained membership was a reduction in unit labour costs through.lower wages and intensification of work. The Bank of England made this quite clear: 'The Governor has emphazised that henceforth companies can have no grounds for expecting a lower exchange rate to validate any failure to control costs. The greater stability which ERM membership offers sterling against other European currencies should in itself be welcome to business as it will enable firms to plan and invest with greater certainty. If companies recognize that they are now operating under a changed regime the benefits of lower inflation will accrue sooner, and at a lower cost in terms of lost output, than could otherwise be expected. But if they fail to recognize the constraints under which they now operate the outcome will prove painful to them' (quoted in Smith 1993: 187).

The success of the new found monetary anchor depended upon a stronger link between exploitation and money: deficits had to be brought down, inflation contained and productivity increased. Against the background of bad debt and huge balance of payments deficits, the ERM discipline involved a painful adjustment process. The discipline meant a prolonged period not merely of living on less but also of working harder in the face of declining conditions. In other words, the ERM demanded a closer tie between consumption and productive work. It meant a colossal repayment of debt, reinforcing bankruptcies, failures and liquidations. ERM membership did not 'cause' the financial crisis in Britain. Rather, within the context of the global expansion of credit, it was the so-called Lawson boom and the subsequent recession which saddled the property owning democracy of the 1980s with spiralling debt. Under the ERM, the pressure of debt could no longer to be corrected by either currency devaluation or the inflationary refinancing of debtors. Further, unlike the dramatic recession of the early 1980s, producers and consumers were much deeper in debt and so found it much harder to withstand the monetary discipline of the ERM. Responsibility for the politics of deflation was therefore 'externalised' and legitimated in terms of 'international commitment'.

The government's policy was 'uncontroversial' in as much as ERM membership was endorsed as an economic policy objective of the Labour Party.8 During the early 1990s, Labour hoped to achieve a reduction in the ratio of debt to GDP by opting for ERM membership. The Labour Party endorsed the view that ERM membership would 'depress inflationary expectations by denying employers the option of a competitive devaluation if they succumbed to pay claims too easily' (Shaw 1994: 98). Were employers not able to depress the growth of wages and achieve lower unit labour costs, they would 'price themselves out of markets with the result-as [the Labour Leader John] Smith pointed out-that "there would be unemployment, wouldn't there?"' (ibid.). Both major parties therefore endeavoured to rectify the shortcomings of the 1980s-'you cannot spend what you have not earned'-by using the ERM to exert financial discipline, controlling social relations through the threat of expropriation and unemployment, and financial distress.

Within the ERM

Throughout the period leading up to Major's re-election as Prime Minister in April 1992, the chancellor Norman Lamont and the Governor of the Bank of England repeatedly made bullish noises about the recovery of the UK economy. Growth was deemed 'round the corner', 'faint stirrings' were detected in the housing market and 'green shoots' were seemingly abundant throughout the economy. In reality, Major presided over what Peter Norman dubbed as 'the second worse recession since the Second World War' (Financial Times, 16.11.91). By the end of 1991, unemployment showed an increase of 700,000 over the 1990 figure, business failures ran at 930 a week, and house repossessions climbed continuously. The second quarter of 1992 saw Britain's GDP fall 3.6% from its 1990 level whilst other EC nations experienced a rise of 2.8% on average. Similarly, industrial production fell from an index of 113.6 in 1990 to 108.6 in 1992 and the balance of payments continued to slide recording a current account deficit of 13,680 million in 1992 (CSO 1994, No.488). The PSBR which had shielded the pound in the late 1980s from sustained speculative pressure, moved from minus 14% in 1988-89 to a staggering 36.5% in 1992-3. At the same time, the amount of outstanding bank and building society lending increased year by year, reaching 622.8bn in 1992 compared with 504bn in 1989. The financial deficit in 1990 of 2bn increased to 37.5bn at the end of 1992 (CSO 1994: T68).

Before the April 1992 election, Lamont's economic policy represented a difficult balancing act between electoral economics and the financial rectitude imposed by ERM membership. In an effort to distance itself from the latter stages of the Thatcher era, the Major government announced, in January 1991, an increase in central government spending to keep poll tax levels down. This was followed by an acrossthe-board reduction in poll tax bills of 140, funded by a 2.5% increase in VAT. The tax itself was only abolished in March 1993. Against the background of the ERM, Lamont appeared to relax monetary policy as the rate of interest was reduced over seven stages to 10.5% by September 1991 (compared to a 10% rate of interest in Germany). However, real interest rates remained high as the headline figure of inflation dropped from 10.4% in September 1990 to 4.1% by the second quarter of 1992. Whilst high interest rates and pressures deriving from the exchange rate reduced the rate of inflation, the economy failed to kick-start in the way predicted by government advisers. As the number of property transactions in England and Wales fell by 450,000 over the period 1989-92, the number of repossessions and the scale of personal and corporate bad debt problems increased accordingly. Although less severe than the crisis which hit the American and Japanese banking systems, the main British clearing banks found that their aggressive lending to borrowers in real estate and construction in the late 1980s left a disastrous bad debt problem by the early 1990s. When real estate prices around the globe plummeted, bankers to companies such as Olympia and York (the world's largest property developer responsible for the Canary Wharf project in London's docklands) were pushed to the brink of crisis as the gap widened between debt and asset values. Consequently as Olympia and York recorded a debt of approximately 6bn in March 1992, NatWest suffered the biggest losses ever incurred by a UK bank on its domestic lending and Barclays, Britain's biggest bank, recorded its first ever loss due to bad debt problems in its core UK operations (Financial Times, 26.2.92; 21.3.92; 7.8.92; Wall Street Journal, 6.11.92).19 These financial difficulties reinforced earlier uncertainties. For example, the world's largest and most experienced financial shock absorber, Lloyds of London, faced imminent collapse as Lloyds' 'Names' accumulated losses totalling 8bn in the early 1990s (Sinclair 1994: 241-2). Between 1990 and 1992 the number of people registered as unemployed in Britain increased by 1.1 million. This meant that, according to official figures, 9.8% of the total work-force was now unemployed. By the end of the second quarter of 1992 high levels of unemployment had hit the traditional Conservative heartlands of the South East and the South West. From levels which stood at 3.6% and 4% in 1990, the South East and the South West now recorded unemployment rates of 9% and 9.1% respectively. Bankruptcies increased dramatically, per year, from 9,365 in 1989 to 35,940 in the first nine months of 1992. During the same period, company liquidations rose from 9,427 to 24,825. Manufacturing output contracted and the volume of retail sales declined dramatically. GDP growth dropped from 2.1% in 1989 to -2.2% in 1991 until it 'recovered' to -0.6% in 1992. Whilst manufacturing industry fell away in the North and the West Midlands, the surge in non-manufacturing investment, which occurred in the 1980s, left a huge surplus of vacant office and retail premises in the South. House prices collapsed, leaving many with a mortgage which was much higher than the value of the property ('negative equity'). The number of repossessions reached staggering proportions: 75,540 properties were repossessed in 1991 and 68,540 in 1992, compared with 15,810 in 1989. This 'socialisation' of the debt problem was reinforced by an equally dramatic increase in mortgage payment arrears: the number of mortgages in arrears (6-12 months) rose from 66,800 in 1989 to 205,010 in 1992.20 The property owning democracy collapsed under the threat of debt, eviction and homelessness-between 1979 and 1991 homelessness increased in England by 160.3%, the number of households in bed and breakfast accommodation by 578.7% and the number of households in hostels and women's refuges by 159.5%. According to the Independent (19.7.93), around 150,000 young people were becoming homeless each year. The recession of the 1990s represented a dramatic shake out of labour. Yet, average wage increases declined only slowly during the early part of the recession from 9.5% in January 1990 to 7.25% in January 1992.21 However, disposable income was pushed down as the burden of debt increased. This made actual wage levels lower than they might at first seem. Falling house prices, along with the spread of the negative equity trap, fear of unemployment, and financial distress, displayed the disciplining power of money. After the forced exit from the ERM, 'manufacturing pay rises between April and June 1993' were the 'lowest for at least 16 years' (German 1993:17).

As the recession deepened and consumer spending was capped, the rate of inflation fell from 10.9% in October 1990 to 3.7% in September 1992. The then Chancellor, Norman Lamont, was quite clear on this: 'Rising unemployment and business failures "were a price worth paying" for the defeat of inflation' (Smith 1993: 188). Indeed, the government was so impressed by the deflationary discipline of the ERM that the Treasury seriously considered committing Britain to the narrow band of the ERM thus exerting even stronger discipline over labour. Within the narrow band, the exchange rate floor for sterling would have been DM2.88 and the ceiling DM3.01. Towards the end of April, sterling surged to DM2.92 and Lamont took the opportunity of emphasising the 'seachange in attitudes to inflation' that had occurred in Britain since joining the wide band. Entry to the narrow band, the chancellor stressed, would represent a regime change in monetary policy in as much as industry and labour would be taught once and for all that high pay awards 'translate directly into a loss of competitiveness and hence of market share, profits and jobs' (Financial Times, 20.5.92). The centre of gravity was the Deutschmark, with the pound kept within limits set by the German mark. This enabled the government to argue that Britain had to adapt to an environment in which inflation performance must match or even undercut that of Germany. By the middle of May, the Bank of England, encouraged by Britain's falling headline rate, began to wonder whether the Bundesbank's stronghold on the ERM could be broken and whether UK interest rates could fall below German levels (see Smith 1993: 235).

Britain's membership of the ERM was widely heralded as a success. It was proclaimed that 'sterling's years of living dangerously are over' (Financial Times, 29.4.91) and that the UK was 'about to enter a period when making things is more important than moving paper' (Financial Times, 8.2.91). These assessments focused primarily on the decline of speculative pressure against the pound and the fall in the rate of inflation. However, these early assessments missed an important point. During the 1980s there had been a dramatic shake out of labour (Crafts 1994) and the Keynesian nexus between wages and public expenditure had been attacked (Rowthorn 1992). There had not been, however, a decisive breakthrough in productivity, productive investment or a reduction in average wages relative to other European states (Deakin 1992). The depth of the recession of the 1990s was to a great extent a response to the ballooning of debt on a global scale.22 The boom of the 1980s rested on the continued accumulation of credit. The longer this was sustained without a corresponding exploitation of social labour power, the deeper the attendant recession, 'the greater the accumulation of fictitious capital on which [the boom] rests, the greater the dangers of a catastrophic crisis and a devastating depression' (Clarke 1992: 147).

The sine qua non of the pound's stability within the ERM was a reduction in unit labour costs and increased productivity. Failure to achieve these ends made it unlikely, as indeed was the case, that the pound would survive inside the ERM. Unless unit labour costs in Britain improved to match the levels in Germany, pressure on the pound would increase because the pound's exchange rate would not be backed by productivity performance and the creation of assets against which to balance the money supply. Between 1985-92, GDP in Germany grew uninterrupted, with unemployment reaching only 4.6% in 1992 and net output per worker running 25% higher than in Britain. The underlying strength of the German industrial economy underpinned the Deutschmark. Britain had to accommodate to German unit labour costs and rates of inflation or lose jobs to German competition. The ERM operated like an automatic pilot of national and international reconstruction putting, in the absence of a real breakthrough in labour productivity, growing pressure on high inflation and low productivity member-states. As Marsh put it, 'Britain faced a milder form of the [pressures] born by east Germany' (Financial Times, 12.3.91). The UK joined with interest rates at 14% (down from 15%) while inflation was at 9.5% in 1990 (up from 7.8% in 1989). During 1991 interest rates declined further from 13.5% in February to 10.5% in September compared with an inflation rate of 5.9%. Throughout 1992, interest rates declined dramatically, especially after Britain's ejection from the ERM on September 16th, 1992.

Towards the end of May 1992, it was becoming clear that a number of unresolved problems in the global political economy were causing extreme uncertainty in foreign exchange markets. As Peter Norman (Financial Times, 29.5.92) summarised, the strength of the US economy was unclear, and the long term capacity of the German economy to absorb the new eastern Lander without allowing inflation to run out of control was identified as a possible source of future monetary instability. In addition doubts were voiced over whether the authorities in Tokyo would be able to stave off recession while managing the problem of asset price deflation in Japan. Overshadowing these worries, there remained the unfathomable outlook for the republics of the former Soviet Union as they stumbled along the road to the market economy. Added to this list was uncertainty presented by integrationist ideals in Europe, particularly with national referenda approaching, and the real fear that GATT as well as NAFTA would not be concluded. In these circumstances, conditions had been created for financial markets to respond much more decisively to perceptions of underlying economic and political strength rather than interest rate differentials. For all Lamont's talking up of Major's achievements, the underlying industrial condition of the British economy hardly inspired sustained market confidence. The chancellor's claim that Britain would soon be able to match Japan's inflation performance of 1.7% in 1992, and thereby resume 'first-rank commercial power' status, rang hollow as the government's financial deficit spiralled to 38bn by the end of the year.23 German reunification resulted in a mini-boom which threatened to overheat the German economy and increase inflation. To maintain price stability in Germany, the Bundesbank continued its tight monetary policy. This situation, as Sinclair (1994: 226) clarifies, led 'all ERM currencies to appreciate in terms of others, particularly the US dollar.' This significantly weakened Britain's dollar export trade at a time when the US economy was in the throes of an equally deep recession. The disciplinary straitjacket of the ERM quickly became a noose for British, Italian, Spanish and French chancellors as pressure to devalue mounted. As Peter Jay (1994: 183) summarises: 'Since interest rates cannot be substantially different in two economies linked by supposedly immutable exchange rates (even with a 6% band) and capital movements, the EC economies outside the natural greater German economy (Germany, Austria, Holland, Belgium and Luxembourg) faced a choice between devaluing (or floating down) against the German mark and raising their interest rates to compete with German rates, thereby subjecting their already cyclically weak economies to further deflationary pressures.' As the costs of German unification rocketed, the Bundesbank sought to balance the fiscal expansionism of the federal government through a tight monetary policy, driving German interest rates up. The Deutschmark appreciated pushing its partner currencies to the lower end of the fluctuation margin. Pressure on the exchange rate of the pound increased rendering a reduction in the rate of interest in Britain impossible at a time of deepening recession.

Towards the end of August the Deutschmark appreciated sharply against the dollar and the Bank of England lost $1bn in an attempt to prevent sterling falling below its ERM floor. As exchange rate volatility increased and dollar exports weakened, it became apparent that the pound's continued membership of the ERM depended on further interest rate rises at a time of deep recession, consigning the UK's manufacturing and construction industries to further decline and job loss and reinforcing financial pressures on personal debtors. The government's attempt to impose a pay freeze on public sector workers-breaking long-standing agreements with the police, fire-fighters and the majority of civil servants-intensified political pressure on Major weakening the credibility of the government's emergency measures in the eyes of the world's financial markets. Lamont's last throw of the dice occurred on the 3rd of September when he announced a foreign currency borrowing plan designed to strengthen sterling within the ERM-and finally scotch suggestions of devaluation. In a move dubbed by the Financial Times (4.9.92) as more 'often associated with the lax finances of banana republics', Lamont borrowed Ecu 10bn (7.27bn), over half in Deutschmarks, as insurance in the event of a French 'No' vote in the September 20th referendum on Maastricht. The weakness of Britain's position was well illustrated by the experience of the Italian government on the 12th of September. As the lira came under intense pressure, the Italian government decided on a 7% devaluation of its currency in return for which the Bundesbank agreed to cut interest rates.24 Lamont's hopes were pinned on a significant German cut. But on the 14th of September the Bundesbank announced a reduction of only 0.25% and the Bundesbank President, Helmut Schlesinger, indicated that in his view a wider realignment was still required. This could only mean one thing to the dealers on the floors of the world's financial markets-that sterling's position within the ERM was under threat. Wednesday 16th of September saw the Bank of England intervene in foreign currency markets on an unprecedented scale, losing l6bn in an attempt to maintain sterling at its ERM floor of DM2.77. As sterling continued to collapse-'it was sold like water running out of a tap' (Financial Times, 19.9.92)-Lamont raised interest rates by 2%. David Smith ( 1993: 243) is surely right to claim that at this point the financial markets knew the game was up. When in the early afternoon Major raised base rates again, this time by 3%, it was clear to all that the centre-piece of the government's economic policy was in tatters. Lamont announced at 5pm that Britain had left the ERM. Interest rates returned to 10% on the following day.


National states are not insulated from each other but subsist in and through the world market (Holloway 1995). Their capacity of imposing austerity upon the working class is 'policed' through speculative capital movements. While governments might have been tempted to inflate the debt away and thereby reduce the burden of debt on many firms as well as eroding real wages and standards of living, speculative runs on currency would have resulted in a liquidity crisis, reinforcing the fiscal crisis of the state and making it more difficult to finance balance of payment deficits. The resolution of financial crisis is a policy of austerity which aims at reducing the ratio of debt to GDP. 'Adjustment' is much more than just a technical term which describes the control of public debt. It means a policy of tight money and thus the replacement of a inflationary expansion by a policy of state austerity which accepts unemployment as a means of containing inflation.

Further, adjustment means the eradication of balance of payments deficits through improved export earnings. Thus, 'adjustment' amounts to a policy of replacing deficits with sound finance, containing inflation by forging a stronger link between the expansion of the money supply and productive activity. A growth in deficits which is not matched by capital growth sooner or later becomes unsustainable. Interest charges will absorb a growing proportion of the national product. In order to reduce the ratio of debt to GDP, a policy of state austerity aims at forcing people to live on less than has been earned. However, the incomes from which interestcharges have to be paid has already diminished as a result of weak capital formation and sluggish productivity growth in relation to the expansion of credit. In order to adjust consumption to productive work, standards of living have to deteriorate and the efficient use of resources, including labour power in production, has to improve. In other words, the guarantee of global credit goes forward through a policy of austerity which aims at making people pay the price for the repayment of credit through wage restraint, intensification of work and the expropriation of property which have not been paid for in real terms. To adjust the ratio of debt to GDP, the economy has to generate large surpluses so that a net transfer of resources pays the interest on accumulated borrowing. Failure to achieve real savings in state expenditure and lower unit labour costs, will only exacerbate the burden of debt and growing inflationary pressure will lead to increasing speculative drain on currency, making it harder to attract the money required to finance deficits.

Between 1990 and 1992, high real interest rates, persistently slow economic growth, pressure on public spending and loss of revenue intensified the fiscal crisis of the state. Budget deficits increased at the same time as the guarantee of global credit relations through central bank reserves and state revenue decreased in strength. The growth of global credit markets has been so dramatic during the previous decade that central banks can not hope to resist speculative attacks on particular currencies by exchange markets (Walter 1993). As a consequence speculative policing of national attempts to safeguard currencies through deflationary control of social relations has increased, reinforcing global pressure to deflate the money supply through speculative runs, leading to a drain on reserves. Against the background of both huge balance of payments deficits and budget deficits, as well as sluggish economic growth and a faltering banking system, the pound became a target in financial markets. Even an increase of interest rates to 15% on September 16th, 1992, credit support by other European central banks, and the spending of billions of pounds to maintain sterling inside the ERM, could not rescue the pound. While the ERM had helped the government in the short-term to finance deficits, exert deflationary pressure and depoliticise economic policy, the continued comparative decline of British competitiveness made an eventual devaluation of the pound inevitable, in spite of the ERM.

Within the context of a global dissociation of monetary from productive accumulation, the 'ERM-crisis' of September 1992 had its roots in the failure of successive postwar governments to increase productivity performance to internationally competitive levels. In the short term, this crisis was exacerbated by the serious conflict between Britain and Germany over macroeconomic interests (see Sinclair 1994: 226). Although Britain's exit from the ERM allowed a resolution of the crisis in the short term, it did little to address the underlying weaknesses of the British economy. Exchange rate policies do not offer a short cut for dealing with insufficient rates of productivity. Exchange rate constraints force employers to drive down wages and intensify work. However, as Clarke (1992: 147) argues, this is not determined by 'an economic logic, but by the development of class struggle, nationally and on a global scale.' The ERM discipline reinforced the destruction of productive capacity, increased unemployment, debt default, external deficits, and public spending deficits. High interest rates meant that a higher percentage of industrial profits had to go to serving debt. As in the early 1980s, employers responded to the financial squeeze by shedding labour. The deflationary periods between 1979 and 1983 and between 1989 and 1992 both led to a dramatic destruction of industrial capacity. During the first deflationary period, 45% of industrial employment was lost and, although the productivity of the remaining labour force increased during the 1980s, industrial production in 1994 was not significantly higher than in 1979 (Pollard 1994: 278). In fact, productivity still fails to match the levels set by European competitors (Crafts 1994).

It is tempting to interpret the calamitous event of Britain's short-lived ERM membership as simply confirming the power of financial markets ('states can't buck markets'). Alan Walters seems to be vindicated. For him, what was urgently required in 1991 'was an immediate 3% cut in base rates, accompanied by a 10% devaluation of the pound within the exchange rate mechanism' (Walters, cited in Keegan 1991: 21). Walters, quite in contrast to his monetarist image, seemed to have been alarmed by the government's deflationary stance and the exertion of anti-inflationary pressure.

Walters' alarm was shared by other commentators, such as Smith (1993) and Stewart (1993). They have argued that the depth of the recession of the 1990s was to a great extent a consequence of the government's decision to join the ERM at an overvalued exchange rate. Similar arguments have been offered by, for example, Thirlwall ( 1988) and Strange ( 1971 ) to explain the relative decline in British competitiveness during the postwar era. For example, Susan Strange argued that the 'main cause of the British predicament has not been the British economy but rather the decline of sterling and the failure of British policy to adapt to that decline' (Strange 1971: 318). Similarly, Thirlwall (1988) argued that the lack of competitiveness was, in part, a consequence of sterling's overvalued exchange rate between 1950 and 1967 especially against European and Japanese currencies. The adjustment of sterling's exchange rate through the devaluation of the pound in 1967 is said to have been too late as serious damage to Britain's real economy had already occurred. The maintenance of the pound's exchange rate led, as argued for example by Hirsch (1965), to persistent balance of payments crises, giving rise to the familiar stop-go cycles. However, the stop-go problem is not a 'British' problem. All national states face similar problems. In the British case, the stop-go cycle was decisive because of the weakness of relative productivity growth (Alford 1988; Matthews 1968).

In comparison with its main rivals on the world market, Britain competes on the basis of low wages (see Fine and Polletti 1992). Low wage levels in Britain do not, on their own, amount to a competitive advantage and might well reflect poor productivity performance. 'Britain's labour costs per hour were low but when these are translated into labour cost per unit of output the reverse is the case' (Alford 1988: 40). In Alford's view, this is primarily due to an insufficient intensity of capital use, giving rise to low throughput per worker. This situation prevailed during the postwar era and has not changed over the last two decades.25 As Eatwell (1992: 333) put it, the economic problems before the election in 1992 were 'more severe than any faced by an incoming government since 1945.' According to Michie (1992: 6), 'UK output rose by 6% over 1979-1991 compared with the OECD average (excluding the UK) of 35% with the UK coming in twentieth out of 21 OECD countries.' The 1980s did not present a decade of investment and production but rather of credit-based consumption, fiscal redistribution and financial profligacy. The exploitation of North Sea oil resources has not been 'associated with an equivalent accumulation of productive assets' (Eatwell 1992: 333). Nor has credit expansion launched a boom in productive investment based on improved productivity performance. Rather, the asset base of the economy continued to deteriorate, average wage rises continued to forge ahead of productivity growth and the growth of consumer spending increased import penetration. The 1980s rather than representing a break with the past, amounted to a 'culmination of the past' (Michie 1992: 6). In terms of manufacturing competitiveness, John Muellbauer (Financial Times, 14.9.92) shows that, with the exception of the period 1986-87, British competitiveness since 1979 had been substantially worse than in the previous fifteen years. Similarly, in terms of production capacity, the UK's output rose by only 11% in the period 1979-89-a disappointing increase in comparison with most EC partners (Italy for instance recorded a rise of 37%). Whilst GDP (at constant market prices) fell in Britain by 0.3% between 198892, the EC as a whole recorded a 10% increase, with German GDP increasing by 17.5% (CSO 1994). Although manufacturing productivity improved, it still lagged behind levels recorded in most other EC nations, and the productivity gains that were made in Britain in the 1980s were, according to Crafts (1994: 217), due in large part to a shake out of overmanning and inefficient firms. As Glyn (1992: 79) clarifies, 'the most fundamental point is that the more than 50% rise in manufacturing productivity took the form mainly of reduced employment (down 26%), whilst output increased only by 12.2%.' Between 1973 and 1993, the percentage of the work-force employed in industry dropped from 42.6% to 25.8% (OECD 1994). Despite weak domestic demand and falling levels of real income and wealth, Britain, throughout Major's chancellorship and early premiership, amassed a visible trade deficit of 80bn.

Does this indicate that Britain's membership of the ERM proved to be a major mistake? This is the now familiar view (see Jay 1994: 202). However, it is misguided. It not only ignores the financial pressures imposed upon the working class but, also, the circumstance that the Major government undermined mass resistance to the politics of tight money. Despite its single-issue nature, the anti-poll tax movement represented a focus of resistance to the tightening of monetary and fiscal policy. The spectre of social resistance was stopped in its tracks not only by the abandonment of the tax under the incoming Major government but, also, by ERM membership which imposed monetary tightness through exchange rate discipline. The last Thatcher government had neither the political clout to undermine this resistance nor the money to buy itself out of problems. ERM membership was not so much motivated by the idea of reversing the postwar relative decline of Britain but, rather, sought to resolve the political crisis of the state by gaining short-term financial stability and shifting the blame for adjustment to an international regime led by the German Bundesbank. The disciplining powers of debt and precarious work, cannot be overestimated. Fear and anxiety make people agreeable to comply. In other words, social resistance against a policy of state austerity was replaced by individualised struggles to maintain existing positions of employment, income and conditions. The risk of unemployment and financial insecurity renders obedience a prudent response to the 'terrorism of money' (Marrazi 1995). The transformation of a property owning democracy into a republic of debt meant a control of social relations through fear of unemployment and financial distress. Similar to Labour's use of the IMF in 1976 (see Ludlam 1992; Brittan 1988), the ERM depoliticised the government's anti-inflationary policy. The ERM was the scapegoat, not the cause, of expropriation, unemployment, wage restraint, and deteriorating conditions and standards. ERM membership was about deflation, making people face up to the fact that their consumption was based on a promise to pay, and not on the expectation of debt being inflated away. For the government, ERM membership was a means of deflecting criticism from its handling of the recession as the politics of tight money could be justified by the obligation imposed upon it by European monetary integration.

Anti-inflationary policies carry the threat of heightening the social conflict which stems from the unmediated character of market criteria (see Goldthrope 1978). In this way such policies are likely to increase class conflict and ultimately risk the serious danger that a crisis in the sphere of distribution will become a crisis of political authority itself. To prevent the realisation of this scenario, governments are well served by an 'automatic pilot' which takes responsibility for imposing financial discipline upon social relations. As Clarke (1990: 27) argues in a different context, the driving force behind the state's attempt to restructure social relations is not so much the attempt to provide a resolution of 'economic crisis', as the attempt to resolve the 'political crisis' of the state by trying to separate the state from the economy, disengaging the government politically from the economic sphere. As a strategy of depoliticisation, membership of the ERM was, initially, successful for the Major government. Its importance can be compared with Britain's return to the gold standard under Stanley Baldwin in Spring 1925. Leading supporters of the return to gold, in particular John Bradbury and Otto Niemeyer in the Treasury, were adamant that the gold standard would make the British economy 'knave-proof , free of manipulation for 'political or even more unworthy reasons' (Rukstad 1989: 440). In effect, it was judged that the gold standard with its 'automatic corrective mechanism' was the best way to shield the government from the consequences of deflationary policies.26 The parallel between Britain's return to gold in the 1920s and Major's determination to depoliticise 'economic' adjustment by joining the ERM in 1990 is striking. Both 'regimes' seemed to offer an automatic corrective to inflation and both, in the short-term, were successful in imposing austerity upon the working class.

Thus, the assessment that the ERM was 'one huge and recognizable mistake' (Jay 1994: 202) misses the point that it helped the government to stave off social resistance, to depoliticise the politics of recession, to insulate itself politically from the consequences of economic adjustment through the language of European obligations, and to secure re-election in the 1992 General Election. The ERM offered Britain's hard pressed policy-makers a respite in the short-term. This however changed when the pound was forced out of the ERM. The more the government tried to talk the pound up, the more it lost face once ejected. The pound's exit from the ERM and its subsequent devaluation not only meant that government had lost its monetary anchor. Ejection from the ERM also contributed to a loss of political credibility for the government which Major has since failed to regain.

Acknowledgement We would like to extend our thanks to the two anonymous external referees who supplied helpful and detailed comments.

Author: Bonefeld, Werner; Burnham, Peter Source: Capital & Class n60 (Autumn 1996): 5-38



1. This article arises out of a wider project conducted with Alice Brown, see Bonefeld, Brown and Burnham (1995).


2. The discussion which has emerged has been conducted at a fairly superficial level. For instance, Hugo Young sees the ERM as a strategy which was followed simply because Major 'was a European' (1994: 23). Most other existing studies focus on the extent to which the Major governments continue the politics of the Thatcher era (Kavanagh and Seldon 1994). For a conventional 'economic' analysis of European Monetary Union (EMU) see Daniel Gros and Niels Thygesen (1992). 3. This development is a moment of the overaccumulation of capital as money capital itself can no longer be converted reproductively, i.e. money capital cannot be converted into expanded command over living labour. Hence, 'unemployed capital at one pole and unemployed workers at the other' (Marx 1966: 251). On the crisis-ridden dissociation between monetary accumulation and exploitation on a global scale since the early 1970s see the contributions to Bonefeld and Holloway (eds.) (1995); Mandel (1987); Mandel and Wolf (1988). 4. State revenue supports the ability of the central banks to meet a drain on reserves by guaranteeing external debt as a claim on taxation. On this see Bonefeld (1993); Clarke (1988); De Brunhoff (1978). 5. On this point see Jay (1994); Gros and Thygesen (1992); Molle (1990); Nevin (1990). 6. This view is forcefully made by Brittan (1970) and repeated in a weakened version in the Postcript to Brittan (1988). 7. On inter-imperialist rivalry and exchange rate competition: Burnham ( 1990). 8. The concept of 'monetarism' is, of course, notoriously slippery (see Smith 1987). Besides, monetarists such as Friedman and Walters, as well as Brittan, had been long-standing advocates of flexible exchange rates with the market determining the level of the exchange rate (see Friedman 1995).


9. 'Socialisation' refers here, and in subsequent discussion, not to the refinancing of private companies by the state. Rather, it refers to the attempt to shift the 'costs' of 'economic adjustment' on to the working class through an increase in the cost of credit, loss of income through unemployment, and downward pressure on direct and indirect wages through, for example, changes in welfare provision. 10. On the above see the contributions to Bonefeld/Holloway (1995); Burkett (1994); Harman (1993); Walter (1993). 11. On the dollar's precarious condition before and after the crash see Evans (1988) and Walter (1993). 12. M. Thatcher, BBC World Service broadcast, May 1989, quoted in the Financial Times, 27.10.89. 13. As Samuel Brittan observed and the Economist stated: 'When a slump is threatening, we need helicopters dropping currency notes from the sky' (Brittan, quoted in Harman 1993). 'The immediate task is a Keynesian one: to support demand at a time when the stock market crash threatens to shrink it' (Economist, quoted in ibid.). 14. These are purchasing power parity estimates taken from Crafts (1994: 210). For a wider statistical analysis, see van Ark (1993). 15. On the politics of debt in Britain under Major see Bonefeld (1995b). 16. For an analysis of the concept of 'statecraft' and a study of statecraft under Thatcher, see Bulpitt (1986). 17. This section draws on Grahl (1990). 18. However, some within the Labour Party, most notably Bryan Gould, campaigned for a return to Keynesianism and attacked the constraints on economic policy stemming from Britain's membership of the ERM. For details see Kavanagh (1994).


19. This situation was considered so serious that some commentators, for instance Anthony Harris, advocated bank nationalisation as a solution. See Financial Times, 19.10.92. 20. See footnote 9 on the use of the term 'socialisation'. 21. The data in this section is drawn from McKie (1993, 1994), and Smith (1993). 22. For an analysis of the relationship between global credit expansion and the British recession see Bonefeld, Brown and Burnham (1995: chapters 2, 3, 4). Our theoretical framework is premised on the view that the global flow of capital subsists through national states (on this see Holloway 1995). National states are not insulated from each other but are integrated on the world market. Indeed, the term 'national economy' should be treated with caution if only for the reason that the world market 'is directly given in the concept of capital itself (Marx 1973: 163). 23. For the text of Lamont's speech, and commentary, see Financial Times, 27.5.92. 24. For an overview of the Italian events, see Smith (1993: 239-43). 25. For a recent overview of theories of British 'decline' see Coates (1994). 26. For an analysis of the politics of the return to the gold standard in the 1920s see Eichengreen (1990).



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