1979 May 4: day one - briefing the new pm
MT arrived at No.10 to find a lengthy briefing document from Cabinet Secretary, Sir John Hunt, which will probably have been the first thing she read in office as PM, prepared against the not too surprising eventuality of her election.
Hunt's document was predictably methodical and thorough, but there is notably little effort to elucidate the new government's policies from its manifesto. Perhaps he was leaving it to the Prime Minister and her colleagues to set things out. The document sometimes betrays the priorities of the previous administration rather than the new one, for example in its emphasis on "the pay round" (though to be fair MT sometimes struggled to get beyond that one herself) and also digs surprisingly deeply into some foreign policy questions remote from the immediate agenda, but in the main Hunt focusses crisply on issues needing early decision and action.
All will have been read and absorbed.
1979 june 12: first Budget
The first big issue for the new administration was financial. Labour had introduced a pre-election budget on 3 April, but this was a "holding operation" merely. A second budget would need to be introduced in no time at all. Room for manoeuvre was minimal: Treasury officials reckoned 12 June pretty much the earliest and latest date feasible.
MT involved herself very closely in the detailed slog of budget planning, perhaps more closely than the Treasury would have liked, fully asserting the Prime Minister's prerogatives as First Lord of the Treasury. She made her points bluntly in a series of lengthy meetings, sometimes with the Chancellor of the Exchequer alone, on other occasions with a variable cast of ministerial colleagues and Treasury officials. Her anxiety in the matter is not surprising. In many ways the budget would set the framework for the new government over the Parliament to come. With the mandate still fresh, and the next election four years away, it represented much the best chance to make unpopular decisions on tax and spending.
Treasury ministers planned the budget around the need to make a substantial reduction in income tax, to improve incentives and hence economic performance. Although significant reductions in planned spending totals were being sought, these seemed likely to do little more than hold the public sector borrowing requirement to £8b (and in the event the outturn was much worse, closer to £10b). Consequently the only way to fund the income tax cuts was to make a large increase in indirect taxation, principally by increasing the rate of VAT.
The papers show that while generally MT accepted the logic of the direct/indirect tax switch, which indeed she had publicly endorsed, she worried mightily about the political and economic effects on the retail price index (RPI) which would show an increase of more than 3 per cent if VAT was put up to 15 per cent, as Howe urged. Instead she argued passionately for further spending cuts, notably in a meeting with all the top Treasury ministers and officials on 16 May when they were told they were being "not nearly tough enough". She urged that the VAT increase should be limited to 12.5 per cent, sought ways not to backdate income tax cuts and even suggested deferring them altogether to the following year. But Howe did not yield and in the end the Treasury got the budget they wanted, predictably enough perhaps.
In the years that followed the 1979 budget attracted criticism from monetarist economists influential with MT, notably Alan Walters, who saw it as too loose, forcing monetary policy to be tightened excessively. On that line of argument the budget contributed to the markets' reluctance to fund the government's debt later in the year (see below). Indeed, the poor outturn meant that Howe was wrong to have supposed that the effect of the measures would be "quite severely contractionary ", as he minuted MT on 21 May. But the logic of making the tax switch early in the Parliament was irresistible. Achieving it lay at the centre of the new government's political and economic calculations and only 40-odd days were available to plan the whole thing. If the budget posture was a mistake, it was probably an unavoidable one.
MT's involvement in the detail sometimes went too far. Days before the budget she was trying to influence how the Treasury briefed MPs and asking how the Bank of England was planning to handle the markets when the trade figures were published hours before Chancellor's speech. Later these were questions she would have left to others (like Bernard Ingham, who arrived at No.10 in November 1979), but in the early months it is clear from this and other episodes that she had yet to feel she had full control of the machine, and so fell easily into "I must do it myself" mode, which was always a temptation for her.
1979 may-nov: monetarism in one country
At the core of the new government's economic approach was a commitment to fight inflation, with a new set of tools for the purpose drawn from a monetarist approach to economic policy-making, laying aside the previously dominant Keynesian framework with its creaky machinery of demand management and pay policy. It is true, of course, that the previous Labour Government had begun employing some of those monetarist tools itself. But it was perceived to have done so largely at the behest of the IMF, in other words from external compulsion rather than inner conviction. The Conservatives would be different. And in most respects they would have to find their own way: the Thatcher government was consciously experimental in its economy policy-making, influenced on occasion by overseas experience but without a foreign model.
The files show that on monetary questions (as well as fiscal) MT was mistrustful of the Treasury from the very first. She always sought an alternative perspective, and frequently preferred it. In her early months in office this often came from the stockbroker and monetary economist, Gordon Pepper, who had often helped her in Opposition and began visiting No.10. The young official who handled economics in the No.10 Private Office, Tim Lankester, quite properly facilitated and minuted the visits at Prime Miniserial behest, though senior officials raised eyebrows, particularly in the run-up to the budget when it was suggested that Mr Pepper might use the backdoor (i.e., the Cabinet Office entrance).
Gordon Pepper was fundamentally at odds with the way the Treasury and Bank of England approached monetary policy, urging that the authorities attempt to regulate the supply of money directly through their control over the reserve assets of the banking system ("monetary base control") rather than influence demand for money indirectly through the setting of short-term interest rates (as was actually practised). MT was attracted to the idea, partly in the hope that it would deliver the conditions necessary to control inflation at lower rates of interest, and hence lower mortgage rates, the feelings of owner occupiers never being far from her thoughts. In this respect she was likely mistaken: monetary base control was not a recipe for low mortgage rates, still less for lower volatility in rates (of which she was also a fan). But she was on stronger ground in being determined to test the official view. Certainly the existing regime of monetary targets was open to many criticisms, not least that the targets were frequently missed, sometimes spectacularly so.
The high costs of monetary targetting were made apparent early into the new government when the Chancellor minuted MT that a 2 point interest rate increase was urgently needed. Even Labour's old monetary targets were being overshot, let alone the tighter version about to be announced by the new government in its first budget. MT resisted fiercely, questioning both the timing and the date, forcing postponement till budget day and only reluctantly conceding that the increase would be 2 points rather than 1.5. The tussle paved the way for a more serious argument at the end of the month. Roused by reports in the Sunday papers on 24 June that mortgage rates might shortly rise, MT sent Howe a handwritten note of instruction: "This MUST NOT happen. If necessary there must be a temporary subsidy (as in 1973) from the contingency reserve to keep the rate where it is". A meeting was held to consider this extraordinary proposal, at which Willie Whitelaw and Michael Heseltine (as the minister responsible for housing) were present as well as Treasury ministers. In later years it is hard to imagine such an event. In the event Heseltine backed the Treasury's rejection of the scheme, Whitelaw sitting silent, and the whole thing was watered down into a contingency scheme, never to see the light of day - though it was agreed that the Building Societies were to be "pressed hard" by Heseltine and Lawson in tandem to keep mortgage rates unchanged till September.
As early as June 1979 the Treasury was warning No.10 of its concerns for the gilt market (i.e., the market for UK government debt, or "gilt-edged securities"). Over the summer the market was stable, despite rumours that the government was ready to interfere with mortgage rates. But by September there were unmistakable signs of strain as the markets absorbed month after month of high bank lending and government borrowing figures, the money supply (£M3) growing well above the target range set out in the June budget - 7-11 per cent over the following year. The crunch came in early November. On the 5th Howe minuted MT about the monetary figures for October. These had been expected to be good: in fact they were "worse than disappointing", with poor tax receipts, record bank lending, high monetary growth, against a background of increasing interest rates in Germany and Japan. The PSBR was expected to exceed the £8.5b estimated in the budget. Market expectations swiftly became deep rooted that the authorities would soon have to increase interest rates, and increase them substantially. Sale of government debt simply ceased as the markets waited for the higher rates: a "gilt strike" had begun.
After a blizzard of painful crisis meetings - activity largely concealed from the public which understood little of the gilt market and its crucial role to government - an emergency package was agreed. Interest rates were increased from 14 to 17 per cent, the largest one day increase in British history, before or since. (The voters noticed that at least.) The overshooting budget deficit was addressed by a technical change to advance payment of Petroleum Revenue Tax, an embarrassing expedient rejected by the Treasury earlier in the year, while the £M3 targets were extended a further four months. An examination of MBC was announced, under pressure from No.10.
The gilt strike was ended, but the government had had to pay a very high price to establish its credibility in the markets. It is evident that MT was furious with the outcome, and quickly fastened on the role of the Bank (which Gordon Pepper criticised sharply in a speech of 19 Nov). Her relationship with Geoffrey Howe was evidently quite frayed by this point, but on this point at least they achieved a measure of common ground, the Treasury telling No.10 it was conducting a post mortem of Bank tactics in the gilt market and using the opportunity to review monetary policy in general.
Much more to come, including files on MT's first dealings with the Soviets, her debut in European and international summitry in Strasbourg and Tokyo, her first Prime Ministerial visit to Washington in December ...