20 years ago yesterday, sterling left the exchange rate mechanism. This episode raises two paradoxes that haven't had the attention they should.
Both exist only if you accept the hypothesis that the conduct of monetary policy since 1992 has been better than what went before. I don't think this is wholly unreasonable. Granted, it's still controversial as to how much post-1992 monetary policy contributed (pdf) or not to the "great moderation" of 1992-2007. And inflation targeting might be inferior to NGDP targeting.But nobody really now thinks inflation targeting is inferior to monetary or exchange rate targets. So in this sense, there has been some progress.
Conditional upon this assumption, my first paradox is this. The decision to join the ERM followed years of intense discussion among economists and yet proved to be a bad one, whereas the decision to adopt inflation targeting was taken hurriedly and yet proved a better idea*. This suggests that cool-headed, lesiurely and informed policy-making after lengthy debate isn't always better than quick panicky decisions.
Leaving the ERM created the conditions for a long period of strong growth and falling unemployment. How far this was due to the falling pound, to lower interest rates or to inflation targeting itself is unimportant for my purposes. Despite this, the move led to a drop in Tory support from which the Major government never recovered, and the day was long known as "Black Wednesday"; efforts to rename it "Golden Wednesday" never succeeded.
Which gives my second paradox: a government that takes a decision that's good for the economy can actually suffer from doing so. I don't think this is because voters blamed the government for taking us into the ERM in the first place. For one thing, that decision did not prevent the Major government winning the 1992 election. And for another, the decision had bipartisan support; Labour's 1992 manifesto promised to "maintain the value of the pound within the European Exchange Rate Mechanism.**" Instead, I suspect the Major government suffered from being seen as too weak to defend the pound, even though such weakness was good for the economy.
Putting these two paradoxes together suggests something curious - that informed expert opinion on economic policy can sometimes be wrong, and so can voters.
* Milton Friedman had suggested (pdf) price-level targeting in 1968, but by the early 90s there was little interest in the idea in the UK.
** An interesting exercise in counterfactual history would be: what would have happened if Labour had won the 1992 election and been forced out of the ERM? It would have suffered a reputation for bad economic management, and we'd not have had a New Labour victory in 1997.