WASHINGTON, Jan. 31 (UPI) -- This is the first part of a six-part reflection and commentary on David Kynaston's "A Club No More" (Chatto and Windus, $43, the fourth and final volume of his history of the City of London's financial district from 1945-2000. It covers the key relationship between the Bank of England, represented by the governor, and the government, normally represented by the chancellor of the exchequer.
The underlying theme is the expansion of the Bank of England's role in monetary policy.
From 1945 to 1951, the Bank of England was simply the agent of the Treasury, whose policy was not to use monetary levers at all. Since 1997, the bank has had entire responsibility for monetary policy, a level of independence that even the legendarily powerful Montagu Norman (governor, 1920-44) never achieved.
But the bank's powers have declined on the regulatory side. In the early years after World War II, its power over city banking institutions was more or less absolute and largely exercised over the legendary "cup of tea." Since 1996, it has had no power over the banking system.
At the end of World War II, nearly all the city's traditional markets were closed (apart from much of the existing infrastructure that had been bombed to rubble.) Share trading was allowed only on a cash basis, with no "contangos" allowing positions to be carried forward between the two-week account periods. There was no options trading either, though there was an active market in share options from the 19th century to 1939.
Commodity cash and futures markets were closed, since commodity trading was felt to be a means where the city could evade Whitehall's prohibitions against acquiring foreign currency. Even the gold market was closed and the two top partners in one of London's leading gold dealers founded an industrial clothing company to await the return of the market.
The discount market, trading in short-term debt, was dormant because Whitehall didn't believe in using the interest rate mechanism to affect the economy.
So it's difficult to see how the city could have been anything but "moribund" in Kynaston's term. It's surprising that many of its capabilities survived at all.
One remarkable feature of the early post-war years was the low level of financial understanding in Whitehall and its high level of hostility toward the city. Hugh Dalton, chancellor of the exchequer from 1945 to 1947, was a son of the dean of Windsor and graduate of Winchester public school who despised the city and had great difficulty negotiating with Bank of England Governor Thomas, Lord Catto, who had started at 16 as a Scottish bank clerk. As Catto said in his memoirs, "My relations with Mr. Dalton were most delicate, but very cordial."
Dalton based his work on one of John Maynard Keynes' more peculiar theories: If interest rates could be driven low enough, the result would be the desirable "euthanasia of the rentier." A rentier is a person who gets a fixed income from land and bonds.
Instead of the evil rentier, industrial capital was to be provided by a state-funded National Investment Board. In 1945, the Industrial and Commercial Finance Corporation was set up by five London clearing banks (retail commercial banks.)
Dalton implemented this theory by refunding a vast chunk of government debt into the infamous Daltons, Treasury 2.5 percent due after 1975, which did indeed, when combined with Dalton's inflationary public spending policies, slaughter the savings of a vast number of modest British rentiers (though there was very little mercy about the euthanasia.)
Following Dalton's forced removal in 1947, the policies changed somewhat, but the level of understanding in Whitehall didn't. Catto's successor, Cameron Cobbold (governor, 1949-61), saw an opportunity to break out with the return of a conservative government in October 1951.
The futuristically named "ROBOT" plan of 1952, where Britain would abandon the restrictive Bretton Woods agreement, restore the full convertibility of sterling, and remove exchange controls, returning largely to the free market and allowing the city and indeed the British economy as a whole to reawaken, was supported strongly by Cobbold and the chancellor of the exchequer, Richard "Rab" Butler. But it was defeated in the cabinet.
"ROBOT's" principal opponents were Winston Churchill, prime minister, and his two successors, Anthony Eden and Harold Macmillan. All three were proud members of Whitehall's financial illiteracy club.
As a consequence, the opportunity was lost. Meat rationing remained in Britain until 1954, the gold market and foreign exchange markets were closed until 1958, option dealing was banned until 1958 (the 19-year gap from 1939 ensured that it had to be essentially reinvented), foreign exchange controls on investment abroad remained until 1979, and the top rate of income tax remained at 75 percent or higher until 1979.
Not surprisingly, there was no wirtschaftswunder (economic wonder) in Britain until the 1980s.
Following the failure of ROBOT, Tory chancellors attempted to control the economy by means of monetary policy, implemented by the Bank of England but wholly dictated by Whitehall. There was little attempt to control public spending, other than a brief flicker of hope under Chancellor Peter Thorneycroft in 1957-58, which was snuffed out by his forced resignation and the resumption by Macmillan of control over economic policy.
McMillan was certainly no free marketer. In "The Middle Way" in 1938 he'd advocated abolishing the stock exchange altogether (the middle way between what and what, one is forced to ask?). As late as the last days of his premiership, in October 1963, when Barclays was worried by evidence of economic overheating in the notorious Maudling reflation and tried to raise its overdraft rate by 0.5 percent, Macmillan said "This is very serious. Why not nationalize the banks?"
The Bank of England's own attitudes remained firmly committed to the free market and to a unique methodology for managing the city's diverse institutions and personalities. An internal "Maxims for Central Bankers" of 1962 noted:
"All expenditure is inflationary, but government expenditure most of all."
"Stability in the value of money helps economic growth."
"Taxes are too high."
"No civil servant understands markets."
"Politicians do not sufficiently explain the facts of life to the electorate."
"A central banker needs a sense of smell.
Analysis is only theorizing but may be encouraged when it confuses critics."
In 1961, Cobbold was succeeded by the Bank of England's true postwar hero, Rowley Baring, Earl of Cromer. Only 42 when appointed in 1961, a former Guards colonel and partner in the family merchant bank, he took Cobbold's gentlemanly resistance to Treasury monetary policy to an altogether new level.
After Labor's win in October 1964, Baring repeatedly defied the government over the issue of the policies necessary to maintain sterling's $2.80 parity. At the same time, he obtained last-minute loans, in one case of $3 billion, to make it happen.
In discussions with both the middle class Tory Selwyn Lloyd and subsequent Labor chancellors, Baring showed none of Dalton's upper middle-class guilt complex when dealing with his social inferiors, but got on quite well with them. Blue-collar stalwart Jim Callaghan, chancellor of the exchequer 1964-67, was fond of referring at parties to the opinions of his new friend "Rowley," thus mystifying his colleagues in the Labor movement.
When faced with academic pretensions, however, Cromer was implacable, commenting on a memorandum of the government's advisor, Hungarian economist Nicholas Kaldor: "It is because Britain has followed policies diametrically opposite to the philosophy of this paper that the pound became universally respected. I feel ashamed to read such a paper on HM Treasury stationery."
The other part of Cromer's achievement, with even more long-term significance for the city, was the rise of the Eurobond market. Warburg's, not the Bank of England's favorite house (Sigmund Warburg was totally lacking in a sense of humor) did the first such issue, a $15 million, 15-year bond for Autostrade, the Italian motorway, in 1963.
Cromer was highly encouraging in removing obstacles.
"It is par excellence an example of the kind of business which London ought to be able to do both well and profitably," wrote his deputy, with Cromer's endorsement. Cromer's longterm ambition, which was not realized in his time, was to remove exchange controls and return London to its pre-1914 pre-eminence
"Cromer still thinks of a great liberalization of the capital market, whether we are in the EEC or not, as an important step forward," Sir Alec Cairncross of the Treasury wrote disapprovingly.
Cromer's gallant resistance to the forces of socialism and financial illiteracy marked the post war high point in the influence of the Bank of England. It was the only time since Montagu Norman, that the man in the street could name its governor.
More important, in coming half way -- or even a quarter of the way -- toward meeting Cromer's imperious tirades, the Labor chancellors of the exchequer and the Treasury mandarins at last began to move toward financial literacy.
Jim Callaghan and Roy Jenkins, chancellor from 1967 to 70, were both far ahead of their predecessors, both Tory and Labor (with the possible exceptions of Butler, who lost the argument, and Thorneycroft, who didn't last.)
From these years on, Whitehall began once more, as before 1914, to have an understanding of the primary importance of the city of London in the British economy, and of city expertise as key to successful economic management. There would be something of a relapse under the anti-city Heath and the feeble Barber, but never again would outright hostility break out, as it had under Dalton and Macmillan.
That, in the end, was Cromer's legacy. Of course his gallant resistance to 1960s corporatism was too good to last. After Labor was reelected with a large majority in March 1966, it was clear that he would not be re-nominated for a second five-year term.
Deputy governor Leslie O'Brien was Cromer's choice as successor. O'Brien was a "safe pair of hands" who shared most of Cromer's views, but inevitably his influence was less. Nevertheless, from Cromer's tenure onward, the principle was once again established: The Bank of England bore primary responsibility for monetary policy.
The "Barber boom" from 1971 to 1973 and the "Lawson boom" from 1987 to 1988 repeated Maudling's reflationary mistake of the early 60s, but with Callaghan close to ultimate power after 1974 and Jenkins fondly remembered, Bank of England control over monetary policy was fairly easily re-established.
In the other direction toward over-stringency, Robin Leigh-Pemberton, governor from 1983 to 93, supported Britain's entry into the exchange rate mechanism in 1990 at a sterling parity that had been artificially ramped up by the Treasury. It bears much of the responsibility for the subsequent disaster. However, in spite of the Bank of England's monetary pre-eminence, blame for the fiasco fell largely on the Treasury, and the luckless John Major and Norman Lamont.
The final move was the full independence of the Bank of England granted by the incoming Blair government in 1997. Since then, the bank has pursued an uncontroversial course, albeit in easy times, leaning gently against any attempt for Britain to join the euro.
As the bank acquired more influence over monetary policy, however, it lost influence over the city's financial service businesses. What had been immediate acceptance of bank dictates in Cromer's day became sullen acquiescence at the time of the secondary banking crisis of 1973-74, and steadily decreasing Bank of England power thereafter.
Gordon Richardson (governor 1973-83), who as an ex-chairman of Schroders merchant bank might be thought to have had Cromer-like capabilities, turned out an indecisive bureaucrat, hobbled by his legal training. Leigh-Pemberton, a clearing banker, was not expected to be a strong governor, but simply a reliable tool of the Thatcher government in monetary and regulatory policy. He was neither. Eddie George, governor since 1993, suffered the Barings fiasco early in his term and was thus in a poor position to resist the second (1996) Financial Services Act, which removed the Bank of England's regulatory powers altogether.
The city's changes after 1966 will be discussed in parts II through V. In the meantime, I end with one thought: Had Cromer been reappointed in 1966, and had he continued like Montagu Norman for term after term (he lived until 1991), he still would have been only in his late 60s at the time of the 1986 "Big Bang" city revolution.
Can anybody doubt that, with a Bank of England governor as knowledgeable and determined as Cromer, the history of Big Bang would have been very different and the city would still today be dominated, as it was in the 1960s, by London merchant banks?
Part II of this review will appear Friday
