Here’s something that’s not particularly well understood about the late British prime minister, Margaret Thatcher.
She is often seen as Britain’s Ronald Reagan, a free-market evangelist who believed in rolling back the power of the state. But what’s forgotten is that she was also its Paul Volcker, a steely central banker willing to ratchet interest rates ever higher and pitch the country headlong into recession in order to get inflation under control.
It wasn’t until 1997 that the Bank of England established its independence from the central government. After Thatcher took power in May 1979, it was her decision to raise interest rates to the highest ever level in the three-century history of the bank. (The Wall Street Journal’s Charles Forelle has an excellent piece pointing out Thatcher’s tough monetary posture—paywall.)
Regardless of whether you think this was the right thing to do, it was an audacious political move. Especially as the British government was cutting spending at the same time. That meant that the government would be retrenching with the private sector mired in recession. To top it all off, the currency started to strengthen as inflation fears began to wear off, hurting exports. So Thatcher’s policies ensured a brutal recession. And when it arrived, she carried on. The lady was not for turning.
Around the same time, the US had an inflation fight of its own, which was being waged by then-Fed chairman Paul Volcker. He had raised interest rates to previously unthinkable heights. The economy suffered mightily and unemployment surged. When it came into power in 1980, the Reagan administration tried to offset the impact of Volcker’s tight monetary policy with loose fiscal policy.
Reagan had reason to fear high interest rates and unemployment, which had helped push his predecessor from the White House. As a result, the early Reagan administration ran some of the loosest fiscal policy the country had ever seen, cutting taxes, boosting spending—especially on defense—and generating record deficits. Volcker eventually prevailed, helping to convince Reagan to raise taxes in August 1982 and Congress to push through a program of spending cuts in 1985 that helped rein in the deficit. (Both on taxes and on spending, therefore, Reagan was far less of a hawk than certain guardians of his legacy would have you believe—and certainly far less of a one than Thatcher.)
But that tension stateside between loose fiscal and tight monetary policy only underscores the political will it must have taken for Thatcher to keep both fiscal and monetary policy tight at once. As we’ve pointed out, the current Tory government in the UK doesn’t seem to have any problem talking tough on government austerity, while leaving scope for a back-door bailout from the Bank of England, which—alas—is no longer under the sway of Number 1o. But in fairness, prime minister David Cameron isn’t dealing with anywhere near the inflation problem that faced Thatcher.