Regional President Speech

SUSTAINING ECONOMIC RECOVERY: REMOVING THE OBSTACLES Remarks by Roger Guffey President, Federal Reserve Bank of Kansas City Central Missouri CPCU Society Columbia, Missouri March 14, 1983 Your kind invitation to meet with the Central Missouri CPCU Society today was particularly welcome. I do appreciate this invitation because occasions such as these are excellent oppor­ tunities to discuss key issues of concern to the Federal Reserve tvr,;t;(" ~u.ps .rue); -'\ 5 ~'s. in the period Of course, the fundamental issues which ahea~ concern the Federal Reserve are most likely the same basic issues ---­ which concern thoughtful people in the insurance industry--~ issues li..k e inflation, reces~n, and economic recovery. • Given the extensive shifting of economic sands which has occurred in the nation over the past year or so, and given the opinions of many observers that economic recovery has begun, it will perhaps be useful today to try to sort out the meaning of the economic happenings we have witnessed in recent months. Against the backdrop of historically high inflation and a stubborn recession, we have seen quite a varied menu of economic developments over the past year. One the one hand there have been continuing declines in production and high levels of unemployment, which contributed to a 2 per cent decline in GNP for 1982. On the other hand, we've seen vigorous upsurges in stock and bond markets, and a mai or lessening of inflationary pressures. J;.PI!JJ N~tR'S - ~IJJ Mew.s - ptd~t!!S ­ To be sure, the economic headlines in 1982 made disappointing reading, tracing as they did the economy's dismal performance. As you know, high interest rates brought on by years of inflation affected many key sectors of the economy. The bellwether housing and automobile industries declined further, and business capital spending was extremely weak as the second recession in three years rippled throuqh the economy. " -2­ The human dimensions of the business downturn were reflected in the rise in unemployment throughout the year. Even states like Missouri, with traditions of stable diverse economies, were not spared. We were paying a high ~fc; wring inflation from the economy. Yet, in the face of such a deep recession, some long-awaited At' ;.; 70 #Jl'P~;+A-. indications of economic recovery have recently 'De- aoppaf:'ent. Among the!e welcome signs are the so-called l§adinq economic indicators--including the stock market--which have been positive 7" nearly every month since mid-1982. underlying trends suggested by these indicators were confirmed when declining inflation, together with weakness in business activity, prompted a general decline in interest rates during the second half of 1982. I i,;Te'II.Mr in turn, have encouraged a rebound in housing Declining~rates, and auto sales, two of the most interest-sensitive parts of the economy. January housing starts were up 36 cent and auto pe~ sales have remained fairly strong. Furthermore, industrial production grew strongly last month, retail sales were positive, and the unemployment rate declined. Although these favorable economic developments certainly brighten the prospects for business recovery, many people are /lA'1J'(e,<. understandablYAgun-shy now. Many question the economy's ability to sustain the recovery through 1983 and into future years. Given the critical importance of sustained economic growth to the nation, I want to discuss this question with you briefly today from two /9'83 perspectives. First, I want to consider the near-term outlook, ­ .4A:1' /#"1" //'F':J -3­ and second, I want to examine prospects for sustaining u.s. 7' -7:l ~ /7f"f­ economic health over the longer term. 7d In assessing the economy's staying power in 1983, I believe one of the most encouraging trends is the substantial progress that has been made in restraining inflation. As you know, the (j~S~"'" IlL ;?-/~_ /"ittiex. 3.9 per cent rise in the PI in 1982 was the smallest annual increase in a decade. In January, the producer price index actually declined, and in real terms, the price of oil--a most importari~ economic ingredient--has been declining. These welcome trends on the price front also are having a favorable effect on cost structures throughout the economy. We have seen lately that a significant byproduct of slower inflation is a slower rise in labor costs and an increase in labor ..:..-­ p-roductivity. - ----.­ These price and productivity trends,Ain my judgement, -r. I'D I.i.Nd4n ~ 1'k::oe.... helpingl establish a healthy s~1for 983 economy. So, too, 1S the qenerally lower level of interest rates. Reflecting these lower rates, interest-sensitive industries like homebuilding and automobiles and other durable goods are likely to show additional gains this year. increasing sales, businesses ~vith are likely to rebuild inventori~s, spurring production levels and employment. Additional stimulus also will flow from Federal government spending, particularly for defense goods. While these factors certainly will work in favor of sustaining the economic recovery in 1983, there are indeed, some question marks. Some observers suggest that continued high -4­ unemployment and weak personal income prospects cloud the outlook for sustained recovery. I agree that consumer spending may not be overly strong under these circumstances. Another concern is that business capital investment may continue to be weak and provide little economic stimulus in 1983. ~/~~~jj~ u.s. Another problem area for 1983 is exports/' The worldwide recession and a strong dollar resulted in a major deterioration in the nation's net exports during 1982. Given the current weaknes~ in .f oreign economies, and the still high value of the ~ dollar, export demand is not likely to turn around quickly. Many of you undoubtedly have been concerned about the health of the international financial system. Widespread public attention has been focused in recent months on the deteriorating financial positions of many international borrowers--particularly ~~ developing countries. Slowing worldwide economic growth left many of these borrowers exposed and raised questions about their p;e,R. ability to repaYAdebt. Despite the high visibility of this I" nr~ (..C.. i/u..? 7'[e problem, i~ ~official efforts now under way are serving to ease this problem considerably. Through responsible cooperation with the International -t1\..Q.. Monetary Fund, a number of countries are taking~necessary steps to put their affairs in order. As a result, major international l e nders are developing confidence that orderly economic adjustments will occur. Moreover, lower worldwide interest rates and improving economic conditions should ease pressures on both lenders and -5­ borrowers. In my judgement, the programs now on stream are brin~~ded likely to confidence to international financial affairs and diminish the effects of international financial c9U R. problems domestic economy ln 1983. onA~e A key ingredient in the 1983 outlook and for the sustainability of economic recovery through the year is Federal . i r 1:S .q.. -yeAS ,.,.,46 Ie Yo ASK - . A Reserve monetary policy. What are the Federal Reserve's intentions in 1983? Should the public be concerned that--as one former Fed chairman put it--the Federal Reserve will take away the punch bowl just as the party really gets going? As background for understanding the Federal Reserve's policy intentions, you should know that the Federal Open Market Committee looks for about 4 per cent real economic qrowth this year. Moreover, we believe, as a group, that the 1983 inflation rate will be below the 5.6 per cent rate in the GNP deflator anticipated by the Administration. The Federal Reserve's intentions· for 1983 were set forth in mid-February when Paul Vo1cker met with the Congress to discuss the FOMC's agreed-upon targets for money and credit growth. He reaffirmed the Federal Reserve's objectives to m.e,intain progress s oward price stability while pr6viding the money and liquidity necessary to support continued economic growth. To achieve the objective of moderate noninflationary expansion in 1983, it is clear that the Federal Reserve cannot be bound by riqid rules of monetary growth, but rather must pursue these goals with a flexible policy. Such a policy will permit us to -6­ look beyond the varied impact of financial deregulation on money -= ' growth, for example, and to deal more realistically with unusual or unanticipated financial developments. The 1983 monetary target5 ranges established in connection with such a flexible policy are .e.. in some cases wider and hiqher than' A1982 tar0ets, particularly for the widely followed and 9 istortion-prone aggregate, M-l. In my view, the Federal Reserve's intended approach to monetary policy in 1983 will help to insure that an appropriate level of money credit will be available to support a~d ~~erate in business activity. ~oninflationary eXDansio~ On balance, then, after weighing the most significant economic variables, I believe that the economy's forward momentum can and will be sustained through 1983. Against the background of these optimistic assumptions for 1983, I want to turn now to consider the economic outlook over the longer-term perspective. What can be done to insure that the current favorable developments in the economy can be translated into sustainable economic performance over the longer run? t1w ::z::;",; IUq the answer to that question might read like this: ({..; The chances forA sustained expansion are certainly good if we remember the painful lessons of -inflation and also address the -r 1Ji IiAJd., J) major obstacle to long-term economic progress,t ' is the --.c­ massive deficit Dosition for years to come in the Federal government's budget. I am convinced that we have the opportunity to make the current turnaround a long-lasting period of expansion because the I, , -7­ ~/;ru I (leAd. ,"I!t lessons of inflation have becom~apparent to the American )/eJu/' public. We ~understand ~ that the inflationary excesses of the past two decades distorted our economic decisions and led to recurring recessions. Even worse, lost jobs and lost production undermined faith in our system and weakened confidence t1t..e" 1> 4 b I,~'s­ in the future. Some repairs have been made t~confidence Sin) . recently, but there iSAmuch more to do. Thus, as we consider the sustainability of long-term expansion, -~ we can draw strength from recent evidence o~fundamental less g of inflationar This development is extremely important because diminshed inflation is a necessary precondition for permanent recovery. Precisely because the nation has come so far l . n t h e b att 1 e . h l . n f-l . -rjJ l vl ' ng the problem of the large w~t atlon,~reso PSt>c&yjeu ~ and growing federal budget deficits has become4cri tica\J. . In my judgement, this is the most to our nation's ser~ ~»stacle long-term economic health. The dimensions of the prospective deficits for 1983 and beyond are staggering and may not be fully understood by the American public. As you may know, the Office of Management and Budget now is forecasting a $208 billion deficit this fiscal year" - Even greater deficits may occur in future years unless significant adjustments are made. A major portion of the deficit this year will be related to recession-caused shortfalls in revenue/ or increases in spending . But a significant Dart of the defici rr r .b'l~o:t~P1e,fd ­ AIC this year will be structural in nature ~J1 would exist even if the economy were operating at full employment. What disturbs -8­ me most is that the structural deficit is expected to grow in future years, given existing spending and revenue laws now on the books. This will happen even if the economy recovers and the recession-related part of the deficit parrows .• "'r dls'A-PfC4Y.s Not only are the prospective deficits large by absolute standards, they are growing larger relative to GNP. To illustrate, ~ back in the Eisenhower years, the deficits--when they occurred-­ averaged about 1/3 of one per cent of GNP. Twenty years later, during the Carter administration, the deficit averaged about 2 ~ per cent of GNP. Current administration projections showNdeficits at 6-7 per cent of GNP, _or slightly less with a stronq economic recovery. But it is not simply the scale of the prospective deficits which is the issue, but rather the potentially nega tive ~ business growth, the financial markets, and the public psychology. Because budget deficits must be financed by borrowing in credit markets / massive ongoing deficits pose a serious threat to prospects for sustained economic expansion. As business expands, private sector credit demands from businesses, -farmers, and home buyers may well collide with the government's financing ,J,-ti ........ needs, raising again the specter of "crowding out ~ '~ Moreover, as b~h ~ublic and privat~ credit demand grows, the likelihood of rising interest rates increases, as well. Although credit demands appear manageable this year, rising interest rates later . P'1"IV't4-r-L ~ec;-kY . . . on might d1scourage t he4borrow1ng needed to f1nance a cont1nu1ng recovery. Another very important negative factor related to -9­ financing the deficit is that potential "crowding out" problems """'= ~~ing interest rates--if they occur--would raise public fears about renewed inflation. Such rising inflattonary expectations would surely weaken the foundation for recovery r ­ which has been laid. As we all know, fundamental solutions to the deficit dilemma are developing very slowly in Washington because of sincere , ~ ~4. " dl ' ff erences a b out t h e natlon Untl '1 t h ose s~prlorltles. differences are resolved, the deficit issue will remain front o A-S 1 ' 1 page news. , long as the sta emate perslsts, we probab y ~ feNd (0 -,J.-eY"fPb7 will hear ideas andJeelay the decisions whic~act ;.~mokescreen ' .A-s A- wh lch must be made. For example, some observers have suggested that the Federal Reserve could solve the deficit financing problem--and help the ~IIL economy sidestep possible "crowding out" -t:.by simply creating more money. This solution, which is tantamount to monetizing t~~bliC the government debt, will only add concern about future inflation and rising interest rates. It lS quite clear to me that excessive expansion of money is not the answer to massive federal deficits--or to any economic problem, for that matter. While excessive money growth may bring temporary short benefits, such as lower interest rates, such action will contribute to higher inflationary pressures and higher interest rates over the long run. We in the Federal Reserve believe that the economy has come far in the fight against inflation, and has high paid ~~R -10­ price to reach this point, that it would be irresponsible for ~ the Federal Reserve to foresake such important gains in order to to validate federal budget deficits. This view does not signify Federal Reserve insensitivity ~ "gu.I' t~broad public needs. ~ Rather, I mean to emphasi~e and reinforce the Federal Reserve's long standing commitment to a credible course of moderate growth in money and credit which will support a continuing noninflationary economic expansion . As ·~for making the difficult but absolutely critica} decisions that will resolve the budget stalemate, I have no easy answers, fi' though the alternatives seem clear. We can cut spending or we can increase revenues, o r we can do some of both. Deciding ':= where to cut spending or how to increase revenues is not the ,.;tt TLlRe... province of the Federal Reserve. Such decisions are political IN ?ie-V! - in both the partisan sense and a~related to the will of all Americans. At its heart, it seems to me, the budget deficit is~ue S/J-i!. ~ --rJ;:£ is a referendum on theArole offJovernment in our society. And the sooner this issue is resolved, the clearer will be the economic outlook. In closing, I am encouraged about the sincerity and intensity of the public debate over the budget deficits. Given this debate, I am very hopeful that our political processes will soon ~ produce ~Aappropriate solution--one which will enable our economy to move forward with r e.. newed confidence on a path of

J. Roger Guffey (1983, March 13). Regional President Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/regional_speeche_19830314_j_roger_guffey

@misc{wtfs_regional_speeche_19830314_j_roger_guffey,
  author = {J. Roger Guffey},
  title = {Regional President Speech},
  year = {1983},
  month = {Mar},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/regional_speeche_19830314_j_roger_guffey},
  note = {Retrieved via When the Fed Speaks corpus}
}