We have debated this on many occassions, and my hon. Friend will know that the Government have been approached quite recently by the trade unions working in the defence industry with requests that we should not proceed with some of the cuts in which we are engaged already.
Meanwhile, it looks as though total fixed investment may be rising a little from the very low level on the second quarter. Within that total, the key component is manufacturing investment. It now seems that the trough in manufacturing investment in this cycle has already come at about the middle of this year. Through our accelerated investment scheme, we have been trying to pull forward into the current year investment planned for 1977 and later. We have good success in this respect. Some rise in investment can be expected in the latter part of this year, and, as the CBI, the Financial Times and the Department of Industry surveys have recently demonstrated, a big increase of perhaps 15 to 20 per cent. is expected next year.
So far, apart from the unexplained dip in the growth of output in the summer months, reflected in the slower growth of export volumes in the same period, the evidence which has become available since July suggests that the real economy is developing in line with our strategic objectives. This point was made in a leader in the Financial Times a fortnight ago, and it is these hard facts of economic performance which have led so many foreign observers, like Chancellor Schmidt and the Dutch Finance Minister, to argue that sterling is under-valued. Yet the foreign exchange market has so far not taken that view, and we must live with the judgments of that market whether we like them or not.
It is in the financial or monetary field that the real problems have arisen in the last few months—and in particular in the interactions between expectations about the growth in the money supply and movements in the exchange rate.
Following the arrangement of the $5,300 million standby credit in June, the Government took steps to ensure that the PSBR is steadily reduced as we move out of the recession so as to control the pace of monetary growth and leave room for the increase in exports and productive investment that we need. Given the economic prospect as we then saw it, the July measures were designed to reduce the borrowing requirement from an estimate of £11·5 billion this year to £9 billion or less in 1977–78. On that basis, measured as a percentage of GDP at current market prices, the PSBR would be reduced by about one-third—from 9 per cent. this year to about 6 per cent. next year. Other countries and international comparisons often use an alternative concept of the general government financial deficit. I said that this would be halved—from just over 6 per cent. of GDP this year to 3 per cent. next year.
The size of the general Government deficit this year and the rate at which we plan to reduce it is fully in line with what we know of other countries' plans.
At the same time as I announced these decisions I made clear that the PSBR should be financed in a way which would not refuel inflation. I indicated that the increase in the money supply as broadly defined—M3—during the current financial year should be in the region of 12 per cent. Any significantly higher figure would risk repeating the experience of 1973, when the then Government printed money and the grossly excessive increase in demand led to a seizure in production and a rapid increase in inflation and the balance of payments deficit.
The 12 per cent. monetary guideline was fully consistent with the provision of sufficient finance to support the increase in exports and investment on which the Government's economic strategy rests—and with the figure of £9 billion for Domestic Credit Expansion which I forecast in December 1975.
However, it became apparent in recent weeks that we were not achieving sales of Government stock on the scale sufficient to ensure that monetary expansion would keep to the guideline I set. As the Bank of England explained last Thursday, preliminary indications about the growth in M3 during the three banking months to mid-September show that monetary expansion was proceeding—at an annual rate—considerably faster than would be consistent with our objectives. Besides the failure to sell enough gilts, bank advances have shown a rising trend.
The increase in bank advances in recent months seems to be associated in some degree with the financing of leads and lags and may also have been used to finance more imports than would be justified by the present and prospective rate of consumer spending. In other words, excess liquidity in the banking system may have been operating not only to jeopardise our objectives for the growth of money supply but also to undermine the needed improvement in our balance of payments.
It is probable that the foreign concern about our ability to control the money supply was a major factor in pressure on the exchange rate in the last few weeks. There was a fall of some 12 cents between 8th September and 6th October. This in turn had its effect on gilt sales and so on the prospects for the money supply, producing further pressure on the exchange rate.
We have faced a situation in which uncertainties about the exchange rate have led people in this country to expect further measures from the Government—and they have therefore held off moving into long-dated Government stock; and the resulting relatively high level of liquidity in the economy has simply confirmed foreign opinion in their view that monetary expansion in the United Kingdom was proceeding too quickly. Last month we therefore raised interest rates and called for 1 per cent. of Special Deposits. This did, for a period, improve the tone of the gilt-edged market so that we were able to sell a very substantial amount of stock.
The figures for monetary expansion in the banking month of September, which ended on 15th September, will be high because the massive increase in gilt sales came later. These September figures will be published on Monday next. In banking October, however, we have already achieved over £1 billion net of gilt sales, with the effect in this and future months of the new stocks announced at the end of last week still to come. That should mean in due course monthly figures for monetary expansion much more in line with the Government's monetary guideline.