He said: "The strength of sterling is posing growing problems to manufacturing industry ... This needs to be fully taken into account by the new government as it plans its policies."City economists believe that industry is looking for Chancellor Gordon Brown to raise taxes instead of interest rates to take some heat out of both the economy and the pound.But they add that the Chancellor will face a difficult decision. Some economists are now calling for rises in taxes rather than interest rates to restrain demand and inflation without running the risk of boosting sterling to an unsustainable level."I can't see how we can avoid the danger of higher inflation without tighter fiscal policy. Even if interest rates go up to 8 per cent, that may not be enough,'' said Michael Dicks, economist at Lehman Brothers.While Labour fought an electoral campaign saying it would not raise income taxes, it could still increase revenue through indirect and corporate taxes."They could abolish Miras (mortgage interest relief at source), shift allowances on income taxes, freeze or cut a number of allowances,'' suggested Mr Dicks.If Labour ignores the overvalued pound, it might eventually be forced into a politically damaging devaluation mid-term in the same way that the Wilson, Callaghan and Major governments were morally wounded in 1967, 1976 and 1992.
It would be ironic if New Labour is so zealous in its pursuit of monetary rectitude that it brings the fate of its predecessors upon itself.Other economists are more circumspect. Kit Jukes, European economist at NatWest Markets, said emerging confidence in Labour's economic policies would make the threat of large-scale interest-rate rises recede, at least for the rest of the year.. Traders are braced for an interest-rate rise and are waiting to see if Gordon Brown will be tough enough to announce one after the scheduled monthly monetary policy meeting between the Governor of the Bank of England and the new Chancellor on Wednesday. Mr Brown will be anxious to demonstrate to the world's financial markets that he is at least as tough on fighting inflation as his Conservative predecessor, Kenneth Clarke, who pushed price rises down to their lowest levels in 30 years. "There will be a hiatus before the mini-Budget in six to eight weeks, but markets will watch his every move," said Simon Briscoe, an economist at Nikko Europe. "His posturing on base rates will be a key component of building market credibility."Labour has worked hard to shake off its old image of high taxes and high spending.
During the election campaign, Mr Brown said his interest rate policy would be shaped to meet the same inflation target the departing Conservatives had aimed at but never hit, an annual 2.5 per cent.Analysts said that meant rates would rise. "We think the size of the majority will make it more likely that Labour will pursue a tight monetary stance,'' said Andrew Cates, an economist at UBS. "The strength of the economy and a wish to gain anti-inflation credibility leads us to expect a quarter-point rise in base rates, taking them to 6.25 per cent."The latest economic reports bolster the case for higher rates. Gross Domestic Product expanded at an annual rate of 3 per cent during the first quarter, and average earnings increased a surprising 5 per cent rise during February, sparking concern that a tighter labour market is leading to wage inflation.Many economists now expect interest rates to rise by 0.25 per cent this week and a full percentage point by the end of the year.While final responsibility for monetary policy lies with the Chancellor, Bank of England Governor Eddie George will almost certainly advise Mr Brown to raise interest rates when the two meet on Wednesday.Acting quickly would allow Mr Brown to avoid any political opprobrium as he can blame his predecessor for making such a step necessary.But there are good economic reasons why the new Chancellor might delay an immediate move. The greatest danger the new government faces is not inflation but an overvalued pound which has risen 17 per cent against its trade-weighted index since last August.A rate increase would make sterling an even more attractive investment relative to the mark or the dollar, eroding the competitiveness of British exporters and threatening the manufacturing recovery.The National Institute for Economic and Social Research believes there is no need to raise borrowing costs as the strong pound is keeping inflation down and says any rate rises would have to be reversed in the autumn if sterling remains high.. Labour has pledged a Treasury sponsored review of duty on beer, in a bid to quell soaring duty-free imports from the Continent. The move has yet to be officially confirmed, but the then Labour shadow secretary to the Treasury, Dawn Primarolo, has promised the industry an inquiry will be launched "sooner rather than later". Stuart Neame, vice chairman of independent brewer Shepherd Neame, based in Kent, says his business is losing up to pounds 1m a year off its profits because of the impact on local pubs from cheap French bootlegged beer.He says Ms Primarolo assured him in February that Labour would keep "an open mind" over the problems besetting the industry.Beer duty is an essential part of Treasury revenues, and Customs has admitted it is losing pounds 750m a year in lost duty on alcohol and cigarettes from cheaper, untaxed imports flooding in from the Continent.The Treasury has also been presented a paper, prepared by Oxford Economic Forecasting on behalf of the Brewers and Licensed Retailers Association (BLRA), urging a 20 per cent cut in duty on beer.Surprisingly, the OEF research concludes that such a move would, paradoxically, lead to an increase in Treasury revenues.The research was presented to a gathering of Treasury officials last November.Using the Treasury's own model, the research concluded a 20 per cut in duty would lead to a 0.3 per cent increase in GDP in the first year, followed by gains of 0.1 per cent in the second and third years of such a regime.Inflation would also benefit, falling by half a per cent in the first year.
