August 19, 1974
Page 28886
Mr. MUSKIE. Mr. President, S. 3919, which the Senate considers today, has an important goal: the establishment of an economic monitoring agency, to provide an institutional focus for the Federal Government's fight against inflation. But the agency which S. 3919 would establish – named the "Council on Wage and Price Stability" – would simply be inadequate to deal with our grave and complex inflationary problems. Under S. 3919, the Council on Wage and Price Stability would be handicapped with minimal information-gathering powers and resources too scanty to provide the in-depth analysis of inflation we need. The accountability of the Council to Congress and to the public would be nil. And, most important, S. 3919 would not grant the President the authority he needs to take firm action to fight inflation.
Mr. President, if the establishment of an economic monitoring agency is to be anything more than window dressing, that Agency must have adequate authority, and resources, to do its job thoroughly. Together with Senators STEVENSON, JOHNSON, JAVITS, and PROXMIRE,
I propose to substitute, for the language of S. 3919, the provisions of amendment No. 1807, which would create an economic monitoring agency which meets that test.
This proposal, identical to S. 3918, which I introduced last Thursday, August 15, with the cosponsorship of Senators STEVENSON, JOHNSTON, and MANSFIELD, would establish a Cost of Living Task Force with a broad mandate to monitor and analyze inflation and its causes; power to gather information by reports from various sectors of the economy, and by subpoena; a budget of $5 million, to allow for sufficient staff resources for the monitoring task; requirements to provide accountability to the public, through quarterly reports to Congress and Senate approval of the monitoring agency's Director; and authority to delay wage and price increases with "significant inflationary impact" for 45 days, and extend the delay for an additional 45 days to avoid "significant injury to the economy as a whole."
Mr. President, establishing an economic monitoring agency, of course, is only one of the actions we must take in order to begin combating inflation. It does not promise a solution to the problem.
But a monitoring agency can provide an alert to special short-term inflationary and shortage problems, and continuing study of long-term inflationary trends and their causes; and can help fashion thoughtful long-term anti-inflation policies. At the same time, economic monitoring legislation can provide a mechanism, and the authority, to allow the executive branch to encourage voluntary restraint by business and labor, dampen inflationary psychology throughout the economy, and slow the ratchet of cost-push inflation by delaying those wage and price increases which might be unjustified and irresponsible.
I was gratified when President Ford last week called for Congress to reactivate the Cost of Living Council, which was allowed to expire last April.
Earlier this year, Senators STEVENSON, JOHNSTON, and I advanced a series of legislative proposals to achieve this purpose. I would like to express my tribute to their foresight at that time in undertaking to do so.
On March 5, I cosponsored Senator STEVENSON's bill, S. 3114, to extend, in restricted form, economic monitoring and control authority under the Economic Stabilization Act. Senator JOHNSTON, chairman of the Subcommittee on Production and Stabilization of the Senate Banking Committee, proposed a similar measure, but in late March the Senate Banking Committee voted against any continuation of economic monitoring or wage and price control authority.
I felt strongly enough about the need to continue an economic monitoring agency to propose such a measure in the form of S. 3352, introduced on April 11, 1974, with the cosponsorship of the Democratic leadership and 13 other Senators. Although at that time I favored the retention of standby control authority, I drafted S. 3352 to continue only monitoring authority, to avoid the objections of those who opposed controls of any sort. When I presented this proposal to the Democratic conference, many of my colleagues agreed with me that its provisions, as well as additional standby wage and price control authority, were justified. Senators STEVENSON, JOHNSTON, and I jointly drafted a measure which contained all those provisions, and introduced it on April 29 as amendment No. 1229 to S. 3986, the appropriations bill for the Council on International Economic Policy. In debate in the Senate on succeeding days however, the standby control provision of this legislation was disapproved, and the authority for economic monitoring was so diluted on the Senate floor as to be meaningless. The result was that the entire proposal was laid aside.
But in the months since we last took this issue to the Senate floor, double-digit inflation has continued unchecked. The figures show that the Consumer Price Index has increased at an annual rate of 12.6 percent over the last months. The annual rate of increase in the Wholesale Price Index was 44 percent last month, over 55 percent at a compound annual rate – promising more consumer price inflation in the months to come.
Double-digit inflation has proven to be persistent, pervasive, and pernicious. It has not been chased away by the rosy predictions of administration economists. it is clearly a problem that demands special attention by the Federal Government.
But S. 3919, the bill to establish a Council on Wage and Price Stability, would mandate only a shadow of the required anti-inflation effort. As reported to the Senate, this bill, with only minor changes, is identical to the proposal made by President Nixon on August 2 and introduced by Senators SPARKMAN and TOWER on August 20 as S. 3984. It would establish a Council of eight members, with four advisory members, to perform limited monitoring functions. The funding authorized for this agency would be enough for the equivalent of only about 36 full-time positions, including both clerical and professional. The agency would not be required to regularly report to the Congress or the public, and its officials would not be subject to Senate confirmation. And S. 3919 would give the President no authority to take any but hortatory action to restrain wage and price increases.
Mr. President, instead of the inadequate Council on Wage and Price Stability established by S. 3919, our substitute amendment No. 1807 would create a Cost of Living Task Force with the staff resources sufficient to study in depth the special inflationary and shortage problems of each economic sector, and authority to gather data not now publicly available. This agency would be accountable to the Congress and to the public, through quarterly reports on its activities and Senate confirmation of its Director. And our proposal would grant the President authority to delay, for up to 90 days, individual price and wage increases which would otherwise be particularly damaging to the fight against inflation. Each of these elements is essential for economic monitoring to be effective.
First, our amendment provides sufficient funding – of $5 million in fiscal year 1975, instead of the $1 million proposed by S. 3919. With an authorization of only $1 million, the monitoring agency would be restricted to a maximum staff of about 36 – allowing for fewer than 20 professionals – including the Director and Deputy Director – to perform the economic monitoring task. The complexity of our inflationary problem, however, requires a much more comprehensive effort than that.
An economic monitoring agency should have the capability, for example, to examine the components and causes of inflation in each sector of the economy. We need to know a lot more, for instance, about price increases for different agricultural products: why the seasonally adjusted annual rate of increase over the last 3 months for cereals and bakery products was 19.5 percent, and for fruit and vegetables 33.8 percent, but for dairy products only 7.5 percent. Or why consumer prices of household durables are increasing at about twice the rate of other durable products. We also need to know how the figures for each of these commodities are expected to change, and how Government action can be channeled to alleviate future increases in each sector.
To do this job, a monitoring agency needs staff adequate to develop and analyze special forecasting-type data, which is not now available from any other Federal agency. For instance, to understand construction cost increases, we should know about the pattern of wage increases, by locality, throughout the construction industry. To evaluate adequately the impact of a price increase in a particular commodity, for example, we should know which industries, and which manufacturing processes, depend upon that commodity, and whether substitutes are available.
Adequate staff resources are also needed to evaluate the effect of numerous Federal decisions on prices and the availability of domestic products. A comprehensive picture of our import and export policy, for example, requires monitoring decisions made by the Agriculture Department, the Treasury Department, the Commerce Department, the Federal Energy Office and our trade negotiators. To understand how Federal regulatory decisions affect price increases requires monitoring the actions of dozens of agencies, including the Department of Transportation, the FTC, the ICC, the Environmental Protection Agency, and others. And to forecast production of our domestic resources requires monitoring the decisions of still other agencies, including HUD, the Agriculture Department, the Interior Department, and the Federal Energy Office.
A dozen or two professional staff members could barely make a start at evaluating inflation in our complex economy. By providing an authorization of $5 million, our proposal would allow
funding and support of a staff equivalent to 180 members, professional and clerical. With about $25 billion of the annual increase in our gross national product attributable to inflation, an expenditure of $5 million is surely justified to help us understand and deal with this problem.
Second, Mr. President, our proposal includes the data-gathering authority which is essential for an economic monitoring agency to be effective. Section 5 of our proposal allows the President to obtain information, reports, and record keeping by the private sector. This authority would allow the economic monitoring agency to obtain the prenotification of price increases, to provide advance warning of unjustified inflationary actions. In addition, section 6 of our proposal allows for subpoena of witnesses and records, to provide for adequate evaluation of particular price or wage actions. Only with these information-gathering powers, which S. 3919 does not contain, could an economic monitoring agency have access to the data it needs to analyze and deal with inflationary problems.
Third, Mr. President, our proposal includes two specific provisions to insure accountability of the economic monitoring agency to Congress and to the public. Section 7 of our amendment would require quarterly reports to Congress, and a special section of the President's annual economic report, to recount the actions taken by the monitoring agency and assess progress in meeting inflation. In addition, our proposal requires that the Director of the economic monitoring agency be confirmed by the Senate. S. 3919 contains only the ambiguous provision that the monitoring agency report "from time to time" and contains no provisions for Senate confirmation.
Finally, Mr. President, our proposal grants to the President authority to take firm, positive action to deal with inflation by delaying the implementation of specific price or wage increases. Under the language of section 3 (i) of our proposal, a price or wage increase could be delayed for up to 45 days if the President finds it is "likely to have a serious inflationary impact." This delay could be extended for up to an additional 45 days if the President found that "significant injury to the economy as a whole would otherwise result."
This flexible delay authority would not signal a return to wage and price controls. But it would give the President authority to deal sternly with the few wage or price increases he might find to be unjustified, and harmful to the economy. Delaying a selected few wage and price increases could slow down the ratchet effect of cost-push inflation in those few special cases where the increase would have "serious inflationary impact," or "significant injury to the economy as a whole." The delay authority, Mr. President, would also allow the issues surrounding a particular price or wage increase to be aired during the delay period, through public hearings which the monitoring agency is authorized to conduct. In addition, the delay authority would give the President the residual authority he needs to back up his efforts to persuade business and labor to follow, voluntarily, a course of economic responsibility.
The limited delay authority in our proposal would be merely a "stick in the closet" – not the blunt "club" of wage-price controls, which the Nixon administration misused so badly over the past 3 years, but simply the capacity to take minimal action to slow down unjustified increases and dampen the psychology of inflation.
There is no evidence or logic to support the argument that granting this limited delay authority would lead to anticipatory wage and price increases. The prospect of future inflation, on the contrary, is already prodding business and labor to ask for the largest possible increases they can obtain. Granting discretionary delay authority to the President could only encourage responsibility by business and labor, and help insure the success of any purely voluntary inflation control action he might take.
Economists, at both ends of the ideological spectrum support this concept. Arthur Burns, Chairman of the Federal Reserve Board, in fact, originated this concept, and repeated his endorsement of it in testimony on August 6, 1974, before the Joint Economic Committee, where he called for an economic monitoring agency and ad hoc review boards with power to do the following:
Delay wage and price increases in key industries, hold hearings, make recommendations, monitor results, issue reports, and thus bring the force of public opinion to bear on wage and price changes that appear to involve an abuse of economic power.
Delay authority such as this has also been endorsed by Walter Heller, former Chairman of the Council of Economic Advisers, who has gone even further, calling for wage and price rollback authority. I ask unanimous consent, Mr. President, that statements of Mr. Burns and Mr. Heller be printed in the RECORD at the conclusion of my remarks.
The PRESIDING OFFICER. Without objection, it is so ordered.
(See exhibit 1.)
Mr. MUSKIE. The delay authority contained in our proposal, held in reserve, would supplement the other important positive actions in controlling inflation which the President and the economic monitoring agency could take, such as working with government, management, and labor in particular sectors; calling attention, publicly and privately, to the need for voluntary restraint in selected instances; reviewing economic concentration as it affects inflation; and conducting hearings on inflationary problems. Adding the delay authority to those other functions would give the Government a full range of options to respond to current and future inflationary problems.
Mr. President, it is evident that Congress will act quickly on the proposal to establish an economic monitoring agency, as the President has requested. And it is appropriate that we should grant reasonable requests of this new administration to deal with this most pressing of domestic problems. But, Mr. President, my colleagues and I simply could not let this opportunity pass with
out making this effort to clothe that authority with real substance and meaning. If we are going to give this problem of licking inflation a new, fresh effort, it seems to me that we ought to do everything we can to make sure that we are properly armed.
So we must be certain, in our prompt response to the President's request, that the legislation we pass is strong enough to deal with the problems it addresses. Unfortunately, S. 3919 would provide only an ineffective shell of a monitoring agency, without adequate resources or authority.
Frankly, that legislation offers little real hope for firm Federal action to meet inflation.
If that legislation is enacted without being strengthened, I would be surprised if the President did not shortly regret that he did not have more adequate authority.
Only a strong monitoring agency, armed with Presidential authority to delay price and wage increases, will have the capacity to take on the comprehensive monitoring task, to give continuing attention to long-term inflation problems, and to give us confidence that the Executive will have the authority necessary to take the firm anti-inflationary action we need. The provisions of our substitute amendment meet those criteria.
On the record of our experience of last spring, I am not too optimistic of our ability to persuade the Senate to accept our proposal. I regret that. But our sense of responsibility is too strong for us to abandon our effort to arm the Government adequately for the fight against inflation.
I close with one more thought. Today government at all levels is plagued with lack of credibility.
I suspect that all 100 of us have said that, time and time again. But this afternoon we have an unusual opportunity to build an the excellent start made by the new President, and engage the confidence of the country, by passing an anti-inflationary measure which the country will perceive as meaningful and deserving of support. This opportunity should not pass us by. So I urge the Senate to support our proposal.
EXHIBIT 1
STATEMENT BY ARTHUR F. BURNS, CHAIRMAN, BOARD OF GOVERNORS OF THE
FEDERAL RESERVE SYSTEM BEFORE THE JOINT ECONOMIC COMMITTEE,
AUGUST 6, 1974
I am pleased to appear before this Committee once again to present the views of the Board of Governors on the condition of the national economy.
Our country is now struggling with a very serious problem of inflation. In the past twelve months, the consumer price level has risen by 11 per cent; wholesale prices have risen even faster. When prices rise with such speed, inflation comes to dominate nearly every aspect of economic life.
The current inflation is of world-wide scope and of virulent intensity. Among the principal industrial countries, consumer prices over the past year have risen anywhere from 7 to over 20 per cent, while wholesale prices have advanced from 15 to over 40 per cent. Inflation is also raging among the less developed countries, and apparently in socialist countries as well as in those practicing free enterprise.
A major cause of the stepped-up rate of inflation around the world was the coincidence of booming economic activity among major industrial nations during 1972 and 1973. With production rising rapidly, prices of labor, materials, and finished products were bid up everywhere. The pressures of demand were particularly acute for industrial materials; severe shortages developed and prices of these commodities skyrocketed.
The impact of world-wide inflation on our own price level was magnified by the decline since 1971 in the value of the dollar in foreign exchange markets. Higher prices of foreign currencies raised the dollar prices of imported goods, and these price increases were transmitted to domestic substitutes as well as to finished products based on imported materials. Moreover, as the dollar became cheaper for foreign buyers, our export trade increased rapidly and thus reinforced the pressure of demand on domestic resources.
Other special factors have also contributed to the higher rate of inflation since the beginning of last year. Disappointing harvests in 1972 – both here and abroad – forced a sharp runup in food prices during 1973. And the manipulation of petroleum shipments and prices by oil-exporting countries has caused a spectacular advance since last fall in the prices of gasoline, heating oil, and other petroleum products.
More recently, the removal of direct controls over wages and prices has been followed by sharp upward adjustments in both labor and commodity markets.
The inflation that we have been experiencing has already caused injury to millions of people and its continuance threatens further and more serious damage to the national economy.
As a result of the inflation, consumer purchasing power is being eroded. During the past year, the take-home pay of the typical worker declined nearly 5 per cent in real terms.
As a result of the inflation, the real value of the savings deposits, pensions, and life insurance policies of the American public has diminished.
As a result of the inflation, financial markets are experiencing strains and stresses. Interest rates have moved skyward. Some financial and industrial firms have found it more difficult to roll over their commercial paper or to raise needed funds through other channels. Savings flows to thrift institutions have diminished, and stock prices have plummeted.
As a result of the inflation, profits reported by corporations have risen sharply; but much of the reported profit is illusory because it fails to take into account the need to replace inventories, plant, and equipment at appreciably higher prices.
In short, as a result of the inflation, much of the planning that American business firms and households customarily do has been upset and become confused. The state of confidence has deteriorated and the driving force of economic expansion has been blunted.
It should not be surprising, therefore, that the physical performance of the economy has remained sluggish in recent months, despite the lifting of the oil embargo that depressed the economy last winter. Auto sales have recovered somewhat since March, but total retail sales – allowing for price advances – have continued to move sidewise. Residential building activity is in a slump.
Although the volume of new housing starts rose a little in June, the average for the second quarter fell and the number of new building permits also declined. Actually, most major sectors of the economy recorded little or no change of activity in the second quarter, and early estimates suggest a slight further reduction of the real gross national product in that three-month period.
Recent economic movements do not have, however, the characteristics of a cumulative decline in business activity. In a typical business recession, all – or nearly all – comprehensive indicators of economic activity move downward simultaneously. That is not the case presently. For example, the demand for labor has remained strong. Employment has continued to rise, and the unemployment rate appears to be at about the same level now as it was in January.
In the industrial sector, production has recovered somewhat over recent months; factory shipments have continued their upward course; and new orders received by manufacturers of capital goods have risen further. Unfilled orders on the books of business firms, especially in the capital goods industrials, are enormous and are still advancing, as shortages of critical materials and parts continue to hold back production schedules.
In addition to the business capital sector, our export markets are a source of continuing strength to the economy. Also, some businesses are adding significantly to their inventories, in order to replenish depleted stocks and bring them into better balance with sales. These sources of strength have kept up activity in the industrial sector and have prevented the downward tendencies in our economy from cumulating in the manner characteristic of economic recessions.
We should, however, act decisively to bring inflation under control before these remaining sources of strength are undermined. If interest rates continue to soar, if construction costs and equipment prices continue to rise at a feverish pace, if our export prices continue to mount, we may eventually find that incentives for business investment are being eaten away and that our export markets are shrinking.
Let me turn now to the condition of international financial markets and recent trends in our international trade and payments accounts.
Our foreign trade balance has moved into deficit this year, principally because of the huge increase in the bill for imported oil. The dollar value of our fuel imports rose from an annual rate of $8 billion in the second quarter of 1973 to a $28 billion rate in the second quarter of this year. The deterioration in the overall trade account was much less than this, however, since our exports the past year have risen much more than imports outside the petroleum category.
Partly for these reasons, partly also because our money and capital markets have been attracting funds from oil-exporting nations, the high price of imported oil has not created a serious balance of payments problem for the United States. Uncertainties surrounding the effects of recent oil prices have given rise to large and rather unsettling swings in the value of the dollar relative to other currencies since last October, but on balance the dollar is stronger now that it was at that time. The value of the dollar in exchange markets began to recover last October, fell once again between this February and May, and since then has gathered some strength. At present, the average price of the dollar in exchange markets, although below the high point reached in January, is still about 6 per cent higher than it was in October of last year, before the oil crisis.
Intervention in exchange markets by the Federal Reserve and other central banks, while not extensive, has helped to prevent exchange rate fluctuations from becoming unduly large and upsetting to the calculations of firms operating in international markets.
Other oil-importing countries have fared less well during this difficult period of high and rising oil prices. For many of the less developed nations around the world, the rising costs of fuel and fertilizer have shattered plans for economic development. Industrialized nations also – notably Italy and to a lesser extent other countries such as Japan – have experienced severe strains in their international payments accounts. And all oil importing countries have suffered a significant loss of consumer purchasing power due to the massive increase in fuel costs.
Unless the price of oil declines materially the oil-importing nations as a group cannot avoid sizable deficits in their current international accounts. This situation is fraught with danger for the stability of international financial markets. It is by no means clear that private financial institutions will be able to recycle the huge surpluses of the oil-exporting nations to the many nations of the world that are experiencing current account deficits. A substantial decline in the price of oil is, in my judgment, essential and requires the closest attention of the world's statesmen.
Strains in the international financial system will, of course, be reduced if the oil-exporting nations use their surpluses to provide assistance to countries with current account deficits – if not directly, then indirectly through international financial institutions. Tension in international financial markets will also be lessened if countries throughout the industrialized world, besides practicing conservation in the use of oil, assign high priority to gaining control over their internal inflationary problem. Most of them are now relying on monetary or fiscal restraints for that purpose and the worldwide boom in economic activity is therefore abating. If we and other nations around the world persist in this struggle, the raging fires of inflation will eventually burn themselves out.
In our own country, the battle against inflation has relied heavily on monetary restraint. The Federal Reserve recognizes that a restrictive monetary policy is bound to cause some inconvenience and even hardships. While we have tried to apply the monetary brakes firmly enough to get results, we have also been mindful of the need to avoid a credit crunch.
Thus, the supply of money and credit has continued to grow. During the past twelve months, the narrowly-defined money stock – that is, currency plus demand deposits – has increased 5½ per cent, while the loans and investments by commercial banks have risen by 12 per cent.
Since the beginning of this year, the annual rate of growth of these two magnitudes has been a little higher – 6 ¼ per cent for the narrow money stock and 13½ per cent for total bank loans and investments. For one category of credit – namely, business loans of commercial banks – the annual rate of growth has been much higher, in fact over 20 per cent during the first half of this year.
Clearly, the American economy is not being starved for funds. On the contrary, growth of money and credit is still proceeding at a faster rate than is consistent with general price stability over the longer term.
Yet, the demand for money and credit has been rising at a very much faster pace than supply. This huge and growing demand for borrowed funds reflects the continuing strength of business capital investment; it reflects the efforts of many firms to rebuild inventories that were depleted by earlier shortages and slow deliveries; it reflects the inflated prices at which inventories must now be replenished; and it reflects, to some degree, anticipatory borrowing by those who fear that credit may later be unavailable or be still mere costly.
In any event, with the demand for credit expanding much more rapidly than supply, credit markets have tightened, and interest rates have risen to levels such as we have not previously known in over a century of our nation's recorded experience.
For example, the rate of interest that commercial banks charge on short-term loans to their largest and best known business customers has risen to 12 per cent. In recent weeks, many of these same business firms have been paying from 11½ to 12¼ per cent in the commercial paper market.
Long-term interest rates have also risen substantially. The highest-grade corporate bonds are selling at yields around 10 per cent; rates on tax-exempt securities have been averaging about 6 per cent. Home buyers now face mortgage interest rates of 9 per cent or more.
These interest rate levels are disquieting. They cause difficulties for many individuals and pose a threat to the viability of some of our industries and financial institutions. But we cannot realistically expect a lasting decline in the level of interest rates until inflation is brought under control. When the rate of inflation is 11 or 12 per cent, an interest rate of even 10 per cent means that the rate of return to the lender, in real terms, is negative.
Evidence is accumulating that the restrictive policy pursued by the Federal Reserve is helping to moderate aggregate demand by reducing the availability of credit to potential borrowers and disciplining inflationary psychology. In the first half of last year, the credit extended to private domestic borrowers increased at an annual rate of $165 billion and amounted to about 14½ per cent of the private component of the gross national product. Estimates for the first half of this year suggest that the rate of aggregate private credit expansion has fallen to about $145 billion, or 11½ per cent of private GNP.
Of late, many businesses attempting to borrow at commercial banks have found it more difficult to obtain loans. The public securities markets have also been less receptive. Since the beginning of this June, cancellations or postponements of corporate bond and stock offerings have amounted to almost $2 billion. State and local governments have also been affected; cancellations or postponements of municipal security offerings since early June have amounted to about $800 million.
Some sectors of our economy now face unusually difficult problems. The housing industry – which had already been suffering from the erosion of workers' purchasing power, from rising construction and land costs, from fears of a gasoline shortage, and from overbuilding in some areas – is now experiencing added hardships because of soaring interest rates and reduced availability of mortgage credit at savings institutions and commercial banks. Public utilities have also been caught in a squeeze; the rates charged to their customers have lagged behind the prices of fuel and other materials, while rising interest rates have been adding to the costs of debt service.
During the recent boom, some carelessness crept into our financial system, as usually happens in a time of inflation. Some commercial banks permitted their liabilities to grow much faster than their capital. They also allowed dependence on volatile funds – such as overnight loans from other banks, certificates of deposit, and Eurodollars – to reduce their liquidity. The great majority of our banks have been managed prudently; but in some instances unhealthy practices have turned up – such as speculating in foreign exchange or acquiring large amounts of long-dated securities.
Striving for quick profits is a characteristic feature of an inflationary boom. In fact, our entire business system has come to rely on credit too heavily, as so often happens in a time of exuberance. But financial adventuring on the part of banking firms – whether in the United States or abroad – is especially deplorable, since mistakes on the part of individual banks can have pervasive effects on the state of confidence.
Taken as a whole, however, the commercial banking system in the United States is entirely sound, and it can be counted on to continue to function efficiently. My judgment is based on the actual condition of our banks, and it reflects also the state of readiness of the Federal Reserve to deal with such temporary financial problems as may arise.
The Federal Reserve stands ready, as the nation's lender of last resort, to come promptly to the assistance of any solvent bank experiencing a serious liquidity problem. Besides, the Federal Reserve has long had on hand well-laid contingency plans for assisting, if the necessity should arise, other types of enterprises experiencing liquidity problems.
The need to activate these plans appears remote. But the resources of the Federal Reserve are enormous, and there should be no uncertainty about our readiness to deal with financial emergencies.
Tensions in financial markets have lessened in recent weeks, but they may continue to trouble us until more evidence appears that the rate of inflation shows promise of diminishing. There are a few hopeful signs that price increases may abate during the second half of this year, but they are inconclusive.
The role of the special factors that served to accelerate price increases during the past year or two is now waning. Food and fuel prices have recently contributed less to the rise in the consumer price level than they did in 1973 or early 1974. The boom in our own economy and that of other nations has tapered off, and the pressure of demand on available industrial capacity should therefore continue to diminish.
The underlying problem of inflation, however, remains very grave. The Federal budget continues to be in deficit. Farm prices, which had a downward trend during the past ten months, have again staged a spirited recovery in the past few weeks. Shortages of materials and component parts – for example, steel, aluminum, coal, bearings, electric motors, forgings – continue to be troublesome.
Most serious of all, the rise of wage rates has accelerated sharply this year, while industrial productivity has been stagnating. Hourly earnings in the private non-farm economy rose at an average annual rate of 10 per cent during the second quarter, and labor costs per unit of output rose faster still.
Progress can still be made this year in slowing the rate of advance in our price level, and it is urgent that we do so. We must face squarely the magnitude of the task that lies ahead. A return to general price stability will require a national commitment to fight inflation this year and in the years to come.
For a time, we should be prepared to tolerate a slower rate of economic growth and a higher rate of unemployment than any of us would like. A period of slow growth is needed to permit an unwinding of the inflationary processes that have been built into our economy through years of neglect. I believe the American people understand this, and are prepared to make the sacrifices necessary to stop inflation.
There are, of course, risks that a period of slow economic expansion will lead to a gradual weakening of demand for goods and services, to a deterioration in the economic outlook, and to cumulative recessionary tendencies. Public policy cannot ignore this possibility. But the principal danger our country faces today is from the corrosive effects of inflation. If long continued, inflation at anything like present rate would threaten the foundations of our society.
The proper course for public policy, therefore, is to fight inflation with all the energy we can muster.
Monetary policy must play a key role in this endeavor, and we in the Federal Reserve recognize that fact. Our actions this year have signaled a firm resolve to stick to a course of monetary restraint until the forces of inflation are under good control. We are determined to reduce over time the rate of monetary and credit expansion to a pace consistent with a stable price level.
However, monetary policy should not be relied upon exclusively in the fight against inflation.
Fiscal restraint is also urgently needed. Strenuous efforts should be made to pare Federal budget expenditures in fiscal 1975. The Congress should resist any temptation to stimulate economic activity by a general tax cut or a new public works program.
Greater assistance from fiscal policy in the fight against inflation could, I believe, have dramatic effects on our financial markets. Even if no change were made in the course of monetary policy, interest rates would tend to fall and the stock and bond markets revive. Such developments would be of enormous benefit to the working of financial markets and to industries such as homebuilding that depend heavily on credit.
There may well be justification for governmental assistance to housing or other activities that are especially hard hit by a policy of monetary restraint. An expanded public-service employment program may also be needed if unemployment rises further. But government should not try to compensate fully for all the inconvenience or actual hardship that may ensue from its struggle against inflation. Public policy must not negate with one hand what it is doing with the other.
There are other actions that would be of help in speeding the return to general price stability.
Fresh efforts should be made to bring our nation's business and labor leaders together to discuss their common interest in checking the wage-price spiral. A degree of governmental intervention in wage and price developments in pace-setting industries might also be helpful.
In the construction industry, the pace of wage increases is once again accelerating, and the progress made earlier through the Construction Industry Stabilization Committee could easily be lost. Reestablishment of that Committee would be in the public interest. The Board of Governors would also urge the Congress to reestablish the Cost of Living Council and to empower it, as the need arises, to appoint ad hoc review boards that could delay wage and price increases in key industries, hold hearings, make recommendations, monitor results, issue reports, and thus bring the force of public opinion to bear on wage and price changes that appear to involve an abuse of economic power.
Encouragement to capital investment by revising the structure of tax revenues may also be helpful, as would other efforts to enlarge our supply potential. For example, minimum wage laws could be modified to increase job opportunities for teenagers, and reforms are still needed to eliminate restrictive practices in the private sector – such as featherbedding and outdated building codes. We also need to enforce the anti-trust laws more firmly and stiffen penalties for their violation.
A concerted national effort to end inflation requires explicit recognition of general price stability as a primary objective of public policy. This might best be done promptly through a concurrent resolution by the Congress, to be followed later by an appropriate amendment to the Employment Act of 1946. Such actions would heighten the resolve of the Congress and the Executive to deal thoroughly with the inflationary implications of all new governmental programs and policies, including those that add to private costs as well as those that raise Federal expenditures.
This illustrious Committee has on past occasions provided timely and courageous leadership to the Congress and to the nation. The opportunity has arisen once again for the Joint Economic Committee to help our country find its way out of the great peril posed by raging inflation. Our people are weary, and they are anxiously awaiting positive and persuasive steps by their government to arrest inflation and to restore general price stability. The Federal Reserve pledges to you its full cooperation in your search for ways to restore a stable and lasting prosperity.
OPENING STATEMENT OF WALTER W. HELLER, REGENTS' PROFESSOR OF ECONOMICS, UNIVERSITY OF MINNESOTA, BEFORE THE JOINT ECONOMIC COMMITTEE
In addition to the customary review of economic developments and policy, Senator Proxmire has asked for suggestions on aspects of the inflation problem that the Joint Economic Committee should examine in response to the Senate resolution instructing it to undertake an emergency study of the state of the economy with special reference to inflation. I will open with a list of such suggestions and continue with a statement of my own conclusions and convictions concerning the handling of the inflation problem in the light of the steadily worsening outlook for economic recovery.
At the outset, let me say that, with or without a Senate (and House) resolution, it is high time for the kind of sober and balanced analysis that the Joint Economic Committee can bring to the inflation problem. We are clearly in the grip of an inflation psychosis – in a recent survey, 87% of the public list inflation as their number one concern. In the face of dangerous double-digit inflation and our almost traumatic state of mind about it, we run substantial risks of over- reacting, of practicing one-dimensional economics that counts – or over-counts – the benefits of tight money and budget austerity without adequately weighing the costs. A judicious inquiry by your Committee can help us attain a balanced perspective on the problem. It can help us avoid that worst of all worlds: Selling our soul – full employment and fair sharing of benefits and burdens – to that devil, inflation, and not getting deliverance in the bargain.
In the process of its investigation, the Committee will face an agenda of unrelentingly hard questions. Let me list some of the major ones, together with occasional suggestions as to where the answers may lie.
An obvious starting point of the inquiry would be to sort out the causes of our current inflation, attempting particularly to distinguish between the endemic and epidemic aspects of the problem.
Identifying the causes of the 1973-74 inflation will help us fashion the appropriate cures – or at least avoid the inappropriate ones. This is not to say that understanding how the inflation genie got out of the bottle will readily tell us how to put him back in. But if inflation today is really in large part the lingering legacy of excess domestic demand, a policy of super-tight money and budget restraint is more appropriate than if, as I suspect, much of it has a one-shot character associated with food, fuel, and raw commodity price explosions. And going on from there, the Committee will want to determine how much of the one-shot inflation is being built into the fabric of the cost and price structure through the gathering momentum of the new price-wage spiral.
As already implied, a closely related question is whether inflation will succumb to the pressure of tight money and austere fiscal policy. Here, the specter of 1969-70 haunts us. Tightening first the fiscal and then the monetary screws, thereby generating a recession and 6 % unemployment, did not prevent inflation from steadily worsening until prices and wages were frozen. Why the game plan that failed so miserably in 1969-71 should suddenly be resurrected and offered as our economic salvation in 1974-75 is anything but clear to me. Careful econometric analyses by James Tobin (in the most recent Brookings Papers on Economic Activity) and by Otto Eckstein (in publications of Data Resources, Inc.) agree that if we simply go the route of severe monetary- fiscal restraint, we would have to endure a sustained and heavy unemployment to subdue inflation. Eckstein estimates that it would take at least two years of 8% unemployment to cut inflation back to a 4% rate. He rightly dubs this "overkill" and concludes that "the financial system would collapse before we cracked inflation."
Since a large part of the damage done by inflation is distributional – inequities between those on fixed and those on responsive incomes, between the poor who spend a high percentage of their income on food, fuel, and housing, and the well-to-do for whom such outlays are proportionately much smaller, and so on – an important part of the Committee's inquiry should focus on who gains and who loses from inflation (for which the study by G. L. Bach in the July/August 1974 Challenge is a good point of departure). But two caveats are in order:
The 1973-74 inflation is different. Where inflationary pressures are generated by vigorous monetary-fiscal expansion that tightens labor markets, the poor tend to gain in increased jobs and income as much as, or even more than, they lose through high prices. But this time around, runaway food and fuel prices eroded their real incomes without any compensating benefits in jobs and earnings.
The inquiry must extend beyond the costs inflicted by inflation itself to the costs implicit in a policy of fiscal-monetary austerity to combat it. The evidence may well show that certain groups – especially in the lower income and wage-earnings categories – are hit by a double whammy in this process.
Accompanying the analysis of distributional questions should be a parallel appraisal of the damages and costs of inflation balanced against the damages and costs of the Administration's more and more openly avowed policy of induced economic slack and torpor to check inflation.
The costs of this policy in terms of output, jobs, productivity, profits, and financial stability are potentially huge – not to mention the adverse impact on foreign economies. No one in the Administration seems to doubt that this costly game is worth the candle. But many critics, myself included, feel that in their efforts to throttle inflation, they will strangle recovery, endanger financial stability, and retard the capital spending and productivity advances that promise longer-run relief from intense price pressures and shortages. Who is right? The country will be looking to the Joint Economic Committee's answer with intense interest.
In seeking that answer, the Committee will also have to judge whether the Administration is right in dismissing the current slump as an "energy spasm" or shortage phenomenon rather than a reflection of inadequate demand. In my view, the combination of contractionary monetary and fiscal policy and the demand-deflating effect of skyrocketing oil prices supports the latter explanation – and this will be increasingly so as Federal Reserve Policy squeezes demand even harder. In light of the much greater inventory accumulation that has shown up in the revised statistics and the growing evidence that shortages are progressively disappearing, the deficiency of overall demand and the existence of excess capacity will become more and more evident.
This leads directly to a series of policy questions on which the Committee inquiry can shed important light:
Since policy for the "new inflation" cannot limit itself to demand management, the Committee's study can make an important contribution by appraising the possibilities of supply management, ranging from better information devices to means of anticipating and averting supply shortages and production bottlenecks.
An objective evaluation of the possibilities of selective credit policies is also very much in order.
Given the inequity of present credit restraints and their failure to distinguish between productive and speculative investment, one needs to take a hard look at policies that go beyond reliance on high prices to ration credit. Given the fungibility of money and the limited reach of its policy authority, what steps can the Federal Reserve Board take to help on this score?
On the wage-price front, any light the Committee could shed on two basic questions would be most helpful. The first is that hardy perennial: Where is competition a good policeman, and where is a government presence needed to counteract the excess market power of key unions and big business and make them behave in a more competitive way? Second, what are the possibilities of economic detente between business and labor? In the absence of any White House attempts (and ability) to bring about some kind of an economic disarmament agreement, Congress should develop an agenda that might lead to a mutual de-escalation of labor and management demands.
Various proposals for tax relief such as boosting income tax exemptions, converting such exemptions into tax credits, and exempting the working poor from payroll taxes would clearly serve the ends of equity, but are opposed by many on grounds that they would worsen inflation.
An objective study matching the spending patterns of the beneficiaries of such tax relief with the patterns of supply – shortage versus excess capacity – in the areas where the money will be spent would help substitute reason for emotion on this issue.
Let me turn now to some observations on anti-inflation policies and their costs in the light of
current economic prospects.
There is no quick fix for inflation in 1974. We can look for some ebbing as the run-up in fuel, raw materials, and food prices tapers off and as the post-controls surge subsides. But get-ahead price increases and catch-up wage increases are translating a lot of the one-shot food-fuel- commodity inflation into a new price-wage spiral. Although present 12% rates of inflation may have a soft core, I now fear that we will find the hard core of cost-push inflation in the 7%-8% range next winter.
The "old-time religion" of sky-high money costs and tight budgets will be relatively ineffectual in taming inflation, short of draconian budget slashes, tax boosts and dangerously tight money.
Such measures would condemn us to deep and prolonged unemployment, huge losses of production, profits, and income, and financial crisis – costs that a democratic society will not and should not tolerate.
Such costs will become more and more painfully evident this summer and fall. As already suggested, the economic slump will be clearly revealed for what it is: not an "energy spasm," not a pause that refreshes, not a reflection of supply shortages, but a corrosive stagnation born of a short-fall in demand. Every day, new cracks are appearing in the facade of strength behind which the ordained optimists have been hiding. Underneath the veneer of high prices, high profits, and bulging order books, I detect growing signs of softness:
Even though orders may not be cancelled, some manufacturers are being asked to hold up shipments for which their customers were begging only a few months ago.
At the same time, more and more producers are finding they have attained satisfactory inventory levels.
As a result of this combination of factors, forward material commitments are being cut.
An Administration that has convinced itself that our present slowdown is simply evidence of a "shortages economy" and that speaks glibly of a "phantom recession" is missing the point. The debate over the semantics and politics of recession merely diverts attention from the real problem, namely: How far below our output and employment potential are we going to drive the economy in the course of our war on inflation? Undeviating adherence to present policies would push unemployment closer to 7 % next winter than the 6 % that is presently being forecast.
Sustained stringency in fiscal and monetary policy in addition to its direct costs in jobs and output will undermine some of our natural defenses against inflation. First it will deny us the short-run productivity offsets to rising costs that we normally reap from a rising volume of sales and output. The combination of accelerating wage boosts and lagging productivity will build up more cost-push resistance to the downward pressures of lagging demand. The longer we stunt productivity by choking off recovery, the more likely it is that slower productivity growth and hence higher unit costs will be built into conventional price mark-ups.
Second, unswerving devotion to "the old-time religion" will worsen the environment for the business capital spending and technological advance that boost productivity and capacity in the longer run. Investment, innovation, and risk-taking thrive in an atmosphere of expansion and wither in stagnation. Current policy – especially in the form of hard-as-nails credit restraint – undermines the health of equity markets, pushes money costs skyward, and threatens both profitability and financial stability. In the face of this policy of calculated stagnation, no program of tax gimmicks or special incentives will induce the increases in capital spending needed to boost productivity, expand supplies, and ease price pressures.
What we need now is not a hell-for-leather program to put the country through the wringer in the misguided hope that we will squeeze the inflationary water rather than the economic lifeblood out of it. Instead of a one-dimensional policy that lets inflation fill our whole field of vision, we need to take our blinders off and adopt a balanced and comprehensive approach to the inflation problem. What are the main elements of such an approach?
First, counting not just the benefits but the costs of sustained monetary-fiscal austerity, we need to back off from the policy of excessive restraint to one of moderate restraint.
Second, recognizing the limitations of the traditional monetary and fiscal instruments of demand management, especially in the face of an inflation characterized by supply shortages and growing cost pressures, policy needs to respond accordingly.
Given the self-propelling nature of the renewed price-wage spiral, policy should seek to restore an atmosphere in which an economic detente between business and labor – on behalf of the consumer – might be possible. This won't be easy after the botch the Administration made of its late lamented controls. But without some kind of a wage-price monitor and a new set of wage-price guides – backed by powers of inquiry, publicity, suspension, and (in outrageous cases) even rollback – the outlook for inserting a circuit-breaker in the new round of cost-push inflation will remain bleak.
In the light of our traumatic experience with shortages and bottlenecks in the past couple of years, we need to explore the potential of supply management ranging all the way from better information devices like shortage alerts and prompt export reports or licensing to the use of special financial aids (not in the form of new tax shelters) and the milder forms of credit rationing.
Rationing of credit by price alone is channeling too much of our limited financial resources into speculation in inventories, land, precious metals, and foreign exchange to the detriment of investment in productive capital. And, as always, super-tight credit is squeezing small business, housing, and state and local borrowers. Both to curb inequities in the present allocation of credit and to curb speculative in favor of productive uses of credit, Federal Reserve policy should couple a gradual retreat from excessive tightness with the use of more selective methods of making credit available. And a gradual phase-out of the Regulation Q ceilings that shortchange the smaller saver and distort the flow of financial resources is surely in order.
A White House and Congress that are dead serious about fighting inflation ought at long last to take the political risk – in terms of stepping on the toes of articulate and well-heeled pressure groups – to put an end to the laws, regulations, and practices that make government an accomplice in many cost- and price-propping actions. Running from anti-competitive regulation of transportation rates and inadequate anti-trust enforcement to resale price maintenance and the Davis-Bacon Act and embracing import quotas, tariffs, maritime subsidies, and the Buy-America Act, to name but a few – these restrictions in the aggregate deny the American consumer substantial benefits in price and wage moderation.
Third, we need to keep at the forefront of our thinking that the major damage inflicted by inflation – and particularly an inflation arising in large part out of a food and fuel price explosion – is its distributional inequity. Coupled with this is a sense of grievance and alienation, an undermining of morale and social cohesion that may be inflation's greatest cost.
One of the ironies of today's inflation is that both the nature of the price explosion and the nature of the weapons we are using to fight it tend to discriminate against the lower income groups.
Their vulnerability to unemployment and income loss in a slack economy is well known. And apart from the usual built-in biases of monetary policy, budget policy has been squeezing social programs while enlarging defense outlays. And tax policy – except for the minor relief to low income groups tentatively approved by the Ways and Means Committee – shows far too little concern for those who are being shortchanged by inflation. A truly balanced attack on inflation would couple the restraints of fiscal and monetary policy with measures to redress the grievances of inflation:
More generous unemployment insurance and a greatly expanded public service jobs program are a vital necessity under a policy which is "taking the cure" of unemployment and economic slack for the disease of inflation.
The vicious inroads of food and fuel price run-ups on the real income of lower income groups and wage earners – the statistics on erosion of the real incomes of wage earners in 1973-74 and the drop in relative incomes of blacks in recent years serve as disheartening testimony on this score – call not only for more generous food stamp and housing allowances but relief from payroll taxes for the working poor and increases in personal income tax exemptions, standard deductions, and low income allowances.
It is particularly important to put this proposed tax relief program in proper perspective. First, it contemplates a reduction of $6 to $8 billion out of total personal income and payroll tax revenue of $215 billion. Second, for the longer pull, such revenues can readily be made up by a program of long overdue tax reform and will, in any event, be more than offset by inflation's impact on income tax revenues. Third, as liberal critics need to be reminded, this carefully targeted tax relief would in itself be part and parcel of a program of fiscal and social justice just as much as a program of positive government outlays to the same groups. Fourth, as conservatives need to be reminded, most of the tax benefit would not "pour gasoline on the raging fires of inflation" but rather serve as nourishment for a sagging economy characterized by increasing slack and widening areas of excess capacity.
If we simply declare total war on inflation without weighing the resulting devastation of the human and financial landscape, experience tells that we will risk serious economic and social damage and invite an eventual public backlash. This is not a plea to be soft on inflation but rather a plea that we strike a sensible balance between benefits and costs in attacking inflation and thereby stay within the bounds of economic and political tolerance rather than risking repudiation of the battle before it is won.