The belief that growth will flow from low inflation is too simple a belief.
Is Britain a tortoise or a hare? Two distinct views are emerging on Britain's medium-term growth prospects. The optimistic assessment takes as its starting point the belief that only economies which have inflation under control can achieve strong and sustainable growth. Britain's current investment in low inflation, painful as it might be, will therefore pay dividends later.
For every optimistic economist there is, at least one pessimist. The gloomy view of the medium-term concerns itself with the nature of the economic adjustment that the British economy was faced with two years ago. Having let the inflation cat out of the bag, the Government had no choice but to clamp down hard on the economy. The policy - we can call it phase one - has been successful.
But the pessimists would say that the real challenge comes with phase two, and a demonstration that low inflation can continue alongside economic growth. A further complication is provided by the fact that Britain has lost competitiveness since entry into European exchange rate mechanism (ERM) in October 1990. This implies that Britain does not merely need to match average inflation performance in Europe but undercut it.
So which is it to be? Let us begin with the optimistic view. Politicians have a particular dream of economic success. In it Britain acquires the best features of post-war Japan and Germany - rapid growth, a strong currency, a sound industrial base, a healthy trade position and low inflation. Awake, they contrast this paradigm with the realities of post-war British performance, in which these features have made only occasional appearances.
Could it happen? The "golden age" of the '50s and '60s was one of reasonable growth for Britain, alongside generally low inflation. Over the period 1953-69, economic growth averaged 3% a year, alongside an average inflation rate of 3.3%. It did not feel like an enormous success, mainly because other countries were growing much faster and Britain was losing her share of world trade at a dramatic pace. But it was a record that politicians in the '70s (average inflation 12%, average growth 2%) and the '80s (average inflation 7%, average growth also 2%) would have been glad of.
The most ardent advocates of sterling's continued membership of the ERM see Britain as having achieved one half of the golden age package. Inflationary pressures, measured by producer prices, pay settlements, average earnings and credit growth, are at their weakest since the '60s, when sterling was last in a semi-fixed exchange rate regime (we will ignore the embarrassing six-week flirtation with the snake, the ERM's predecessor, in 1972).
But how does growth follow from this? Low and stable inflation should mean a stable policy environment, with no sudden applications of the brakes of the sort that brought on the recession in 1990. A stable policy environment encourages investment, while low inflation reduces the power of the precautionary motive for saving - if people no longer fear that their savings will be eroded by inflation, they may be prepared to consume more.
The benefits of low inflation partly depend on the growth in world trade, and Britain's inflation performance in relation to competitors. If world trade growth is reasonably strong, if the exchange rate is not overvalued, if the supply side improvements of the '80s have largely survived the recession and if Britain could achieve lower inflation than competitors - four fairly big ifs - then the growth prospects of the '90s would be very promising indeed. It is important not to get over-obsessed with the current cautious mood. The Chancellor suggests that in two or three years time people will look back and conclude that the Government was right to stick to its guns now.
The alternative is rather less palatable. Its starting point is the belief that, to the extent that there were supply-side improvements in the '80s, many of them have been wiped out during the recession. Britain, is is said, has too small an industrial base to satisfy even modest increases in consumer demand, a belief underlined by the imports surge that accompanied even tentative signs of recovery in the spring.
The pessimistic view also holds that, while in an ideal world low inflation would be accompanied by policy flexibility, and in particular, low and stable interest rates, this may not be possible within the ERM, particularly if the strains caused by German unification take years to work themselves out. Bill Martin, of UBS Phillips and Drew, is an exponent of the pessimistic view. Having looked into Britain's performance during the '80s, when growth averaged a disappointing 2% a year, his projections for the '90s are decidedly gloomy. He suggests that, on unchanged import and export trends, Britain will be hard-pressed to grow by 1% a year if the financial markets decide that a current account deficit of 4.5% of gross domestic product is as much as they will stand for. Growth of 2% a year, again on those unchanged import and export trends, produces an unsustainable deficit of 9.5% of GDP - roughly £60 billion in today's prices.
Martin then tries plugging in some optimistic assumptions, notably that, as a result of supply-side improvements, exports grow twice as fast as imports - 4.5% a year against 2.25% and manufacturing increases its share of GDP (from 23.5% now to 26.5% to the end of the century). The result, within the constraint of a current account deficit of no more than 4.5% of GDP, is an unremarkable growth average of just 1.75% a year, compared with 3% for the other countries of the Group of Seven.
It is easy, as I noted above, to be excessively gloomy at or near the bottom of the cycle. And medium-term projections are notoriously unreliable. Even so, the assumptions that growth will automatically flow from the achievement of low inflation is one that has been allowed to pass too easily from the lips of politicians into general acceptance. One of the conclusions of my recent book, From Boom to Bust (Penguin), a work I have so far refrained from mentioning here, is that the damaging effects of recession do not end with the first signs of an upturn. I believe the "entrepreneurial spirit" that characterised the '80s was badly damaged and will take time to recover. And, even if businessmen, particularly small businessmen, recover their capacity for risk-taking, the availability of finance will act as a significant constraint.
There are other difficulties. The combination of rising employment, an uncertain housing market, and the debt aversion of consumers is an uncomfortable backdrop for meaningful growth in spending. It would take a brave man to predict a growth miracle for the '90s.