It's 30 years since oil prices soared and monetarism triumphed - and there could be more upheaval to come

Larry Elliott, economics editor
Thursday October 9, 2003
The Guardian

Some say the 1960s ended with Woodstock in August 1969. Others date the decade's demise to the break-up of the Beatles eight months later. Both are wrong. The 60s died 30 years ago this week when, on October 6 1973, Egypt and Syria chose Yom Kippur, the holiest date in the Jewish calendar, to launch a surprise attack on Israel.
The twin offensive was quickly halted so, in response, the Arab-dominated oil-producers' cartel, Opec, announced price increases, production cutbacks and an embargo on Israel. If the intention was to inflict pain on the west, it worked. By early 1974, oil prices had risen fourfold and a golden age of prosperity came to a halt.

The Yom Kippur war thus provided a hinge between the two halves of the post-1945 period. Up until 1973 came the era of social democracy; years of expansion in which governments, armed with Keynesian economic ideas, pursued full employment. After 1973, the pendulum swung to the right in favour of governments wielding free-market policies aimed at tackling inflation.

As the recent Israeli strike on a Palestinian base in Syria illustrated, the underlying conflict shows no sign of being resolved. The oil wealth for the Gulf states proved a double-edged sword: the windfall has allowed them to spend in the arms bazaars, but has acted as a disincentive for autocratic regimes to embark on reforms.

Instead of putting their petro-dollars to good use at home, oil states put them on deposit in the world's money markets. From there, they were recycled as loans to poor countries eager for capital to finance development. The result was not economic take-off but - thanks to reckless lending, corruption and a stagnant global economy - a debt crisis that is still burdening poor countries.

Shockwaves from the Yom Kippur war were equally strong in the west. The first-wave effect of higher inflation was followed by a second wave of higher unemployment, as companies faced spiralling costs. The third-wave effect was the triumph of a right that was committed to shifting the balance of power in favour of capital. Egalitarianism, tax-and-spend and nationalisation were out; trickle-down, balanced budgets and privatisation were in.

More than 20 years of full employment had allowed pay bargainers by the early 1970s to negotiate deals in excess of productivity gains, with profits squeezed as a result. By the late 1970s, high unemployment had undermined the power of labour, bearing down on wages and pushing up profitability. The fate of the National Union of Mineworkers illustrates the point. In the months following the Yom Kippur war, the NUM humbled the Heath government. Little more than a decade later the pit strike ended with victory for Margaret Thatcher.

The seeming impotence of Keynesianism to come up with solutions for a cocktail of rising unemployment and higher inflation validated the monetarist ideas that had been nurtured by free-market thinktanks from the 1950s onwards. To this day, central banks and finance ministries remain obsessed with price stability.

Likewise, the political thrust of the right's post-1973 counter-revolution - curb union power, cut taxes, set markets free - has not been seriously challenged. Centre-left politicians claimed their "third way" would steer a path between those who, in Bill Clinton's words, "said government was the enemy and those who said government was the solution". Yet in some key areas of policy - welfare reform, for example - Clinton went even further than Ronald Reagan.

The assumption is that the post-1973 consensus will last indefinitely. That is precisely what social democrats assumed in the early 1970s. Indeed, even when the collapse of the Bretton Woods system of fixed exchange rates in 1971 was acting as the harbinger of the crisis to come, Richard Nixon was insisting "we are all Keynesians now".

Similarly, just as the postwar golden age was undermined by rising inflation and the combined cost to the US of the Vietnam war and Lyndon Johnson's great society programmes, so there have been signs of strain for the new world order promised by George Bush senior after the Berlin Wall came down. For the collapse of Bretton Woods, read the succession of financial crises since 1992. For the hubris of organised labour, read corporate corruption and greed. For the diminishing returns from public-sector pump priming, read the diminishing returns from a build-up in private sector debt. For a world struggling to cope with inflation, read a world struggling to cope with deflation.

There are three ways of looking at all this. The first is that any comparisons between 1973 and 2003 are pointless because history doesn't repeat itself. The second is that we are suffering from the birth pangs of what the economist Joseph Schumpeter called creative destruction - the transition to a technological paradigm that will restore capitalism to good health. The third is that Argentina's collapse, the Enron fraud and the self-delusion of the dotcom bubble are warning signals of a political and economic paradigm running out of juice.