Speech

The Texas Business Executive, Summer 1980, p. 41 - p. 4-4- Economic Outlook for the '80s Part of the reason the economy has continued to grow, surely reflects anticipations of inflation, anticipations of higher prices later. by Paul A. Volcker Chairman of the Board of Governors The Federal Reserve System AMONG THE BLESSINGS I count every day is the but we did change our operating tactics and we did fact that I don't have to mediate national energy policy. change our emphasis, and one immediate result was a My competence, such as it is, extends only to something certain amount of turbulence in the bond markets, in the so simple, so readily comprehensible and so non- capital markets, and in the stock markets. controversial as monetary policy. But amid that turbulence and turmoil, sight should not I've always been surprised somehow that there have have been lost of the basic point: what we attempted to been times when one or another of the distinguished convey by those actions on October 6 was our determi- representatives of this state in the House of Represen- nation to bring money and credit under control. Of tatives in Washington have questioned the wisdom of course, we did not take that action because those parti- monetary policy and those who run it. So perhaps this is cular figures in the money supply at that time were the appropriate time and place for some accounting of crucial in themselves — in a sense all those various what we're doing. "M's" that we put out are a statistical abstraction. But Let me assure you I'm well aware that monetary there's a reality behind the abstraction: we do operate \ policy didn't begin on October 6,1979, when we initiated out of the conviction that the control of money is essen- [ some actions that took the markets a little by surprise, tial to the control of inflation, and that indeed no inflation [ but that's a convenient starting point for me this after- has persisted or can persist without being fed by exces- t noon. I won't go into any of the details about that action sive money creation. That's a lesson not just of experi- ence in the United States but elsewhere as well. It's a lesson not just of the past few years but of centuries of history. I Chairman Volcker was feature speaker at the Outlook '80 Confer- There's another point that seems to me equally cru- ences held January 15, 1980 in Houston, Texas. The Texas Business cial. Stability in money over time is, in my judgment, Executive is pleased to have the opportunity to present these timely remarks for our readers. — The Editors critical to sustained and balanced growth in economic The Texas Business Executive 41 Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis VOLCKER Stability in money over time is critical to sustained and balanced growth in economic activity itself, and that is the end object of economic policy. activity itself, and that is the end object of economic tional economic relationships can't handle very well, policy. We used to think we could fine-tune the eco- and I think there are a couple of lessons that grow out of nomy. Among devices and philosophies that were de- this situation. veloped was that there was a "trade-off," as the ex- First, all the persistent forecasts of recession, for all pression went. For instance, you could trade a little their recent fallibility, do reflect some real vulnerability in inflation for more growth and less unemployment. It the underlying economic situation. After five years of even seemed to work for awhile back in the earlier expansion, after all the distortions of inflation, that's post-war period when most people assumed that we hardly surprising, but I think it is true. At least equally could count on stability. But what we've ended up with important this experience has shown again, if we didn't after years of practicing that trade-off, or trying to, is both know it before, that it's a dangerous game to change more inflation and more unemployment and less basic policies on the basis of short-term forecasts at any growth. That's been true not just in the United States but particular point in time. Forecasts of the short-run out- in other countries. It's a lesson that's taken time to learn look are so often fallible that they're almost as apt to be but I think it is being learned. wrong as right. Looking back over these last few months, in a purely In the past, in shaping our national policies, I think financial sense, we can see some clear signs of what I we've had an insidious tendency to anticipate the worst think of as progress. First, and most obviously in light of in terms of unemployment in particular; and we always our expressed intentions at that time, the money supply anticipate the worst and act upon those anticipations is on track, it ha slowed down very appreciably from the over time. That's a recipe for too much expansionary rates of growth of 10 percent or more that we had during action and ultimately for inflation. Today our margins for the spring and summer, 1979. Basically we are on the error in that connection are less than they have ever targets that we set for ourselves this past year, both at been and I think that we should not make that mistake the beginning of the past year and explicitly reiterated again. on October 6. Alongside that slower growth in money, credit has slowed — bank credit in particular. U.S. finan- cial markets, I think at this point after the initial turbu- lence, are more settled. Now having reported on those NOW IF THE GOOD NEWS about the economy is financial developments I have to quickly add that in ambiguous at best, the bad news is pretty clear. Inflation terms of the ultimate objectives the picture is less than remains about where it was three or four months ago. clear. The good news is that the economy has continued The dollar, while its been reasonably steady in the face to grow despite almost universal expectations and fore- of some adverse political as well as economic news, has casts by the economists that it would not. It's continued certainly not been as strong as I would like to see it. The to grow overall despite a clear recession in the auto- precious metals markets, gold and silver, as well some mobile industry and despite the difficulties in the hous- commodities markets continue to reflect strong specula- ing industry. Part of the reason the economy has con- tive influences. While both the action of the gold market tinued to grow, part of the reason that spending is high, I and the dollar reflect political as much as economic think surely reflects anticipations of inflation, anticipa- disturbances in recent weeks and months, I think they tions of higher prices later — so we might as well buy also reflect the fact that we haven't made as much now. This has been achieved at the expense of low progress as I'd like to see towards dealing with uncer- savings — extraordinarily low savings—which is hardly tainty and inflationary expectations. We should take a healthy situation looking at the problems of the eco- heart, however, from the fact that in the face of interna- nomy in the years ahead. tional turmoil and the big new increases in oil prices, In a real sense, all those forecasts of recession during domestic markets have remained calm and orderly. But this period have been wrong, I think, precisely because we have to face the fact that physical progress in the we are in a new experience in this country with the price front has been set back by recent developments in anticipations of inflation in the future. It's a situation that energy markets by a quarter or two at best as a result of our conventional economic analyses and our conven- those prices increases. 42 Summer 1980 Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis VOLCKER We do expect to see progress on inflation during 1980 if we stick with it, and we do mean to stick with it. That's not a happy picture, but we always knew there production. Whatever particular measures are taken in were lags, and sometimes long lags — between action that connection, however, can hardly be successful and reaction — so there's no reason in my judgment to without the help of the price mechanism. Even more be surprised or disenchanted. Monetary policy, specific- urgently to my mind right here and now is that we must ally restraint on money and credit, can only be effective deal with the anomoly of oil prices rising even while over a period of time. We do expect to see progress on world production apparently exceeds consumption by inflation during 1980 if we stick with it, and we do mean what should be a comfortable margin. Now we can point to stick with it. the finger at OPEC in connection with oil prices and oil Maintenance of restraint on credit need not mean markets. But the fact is at the moment the spot market unchanged interest rates. I may disappoint you by de- prices are pulling up OPEC prices — not the reverse. nying that I am a seer about the future of interest rates. I The reason seems pretty clear— uncoordinated stock- do know that interest rates in the past, and presumably piling around the world — stockpiling out of understand- in the future, will respond to changes in demands for able fear of rising prices and shortages of supply. credit and ultimately in the outlook toward inflation. However, that same stockpiling, in turn, brings about the Should business soften as so many anticipate and cre- very price increases that are feared in the first place. So dit demands thereby decline, some reduction in interest nothing seems to me more urgent than to bring that rates would not be surprising. And, if we begin to see the situation under control. One of the most hopeful signs is real signs of a decline in inflationary pressures those that the International Energy Agency is hopefully being declines in interest rates could be sustained. Under re-energized itself and is at work on that problem on an those conditions a decline in interest rates would be a international scale because it is indeed one that re- healthy thing, it would assist the adjustment process in quires international attention. the short run and provide a more favorable climate for The second threat to the economy seems to be more investment in the long run. Such a decline would be insidious, but perhaps no less important. That is our consistent with restraint on the money supply, it dismal record — I don't think there's any other word to shouldn't be determined as a change in policy or a describe it — in productivity in recent years. I won't go weakening of our will. But let's not put the cart before the into all the detail but let me just put it in an overall setting. horse, attempts to force interest rates lower at the ex- You know, back in the early or mid-60s government pense of excessive increases in the money supply proclaimed and business and labor accepted the fact would ultimately only be counter-productive. It could that somehow productivity increased by 3 percent a only foster, in the first instance, renewed inflationary year and that you could kind of count on that indefinitely. expectations, in time the expectations would be fol- The figure was never quite that high but it was a pretty lowed by the reality of more inflation and in the end it good approximation of what the previous 20 years had would bring in its wake, as sure as night follows day, brought. There was a sense that we were entitled to 3 higher not lower interest rates. percent growth in real income a year provided out of that Now I don't mean to suggest that persistent restraint productivity. But no sooner did that conviction become on money, however indispensable it is, is itself an easy, imbedded in our minds, than the productivity rate began automatic path to renewed price stability, to lower in- to decline to something like 2 percent, and in the later terest rates and to a healthy economy. Success without 1960s to something more like 1 percent, and then during important economic strains and dislocations is going to the 1970s to something like 0 — actually that's being depend on a number of other policies. In that connection kind — to a minus figure in the past year. Real growth, I've already denied any special expertise in energy, but I real income, a higher standard of living, ultimately com- think the comments I'm about to make on energy do not es from productivity and when productivity's declining at require any special genius in that field. the same time imported energy prices are rising, living Obviously the state of the oil market is the greatest standards inevitably contract and there's nothing we immediate threat to our economic prospects. One can do about it under those circumstances. We can, of aspect of that, the medium- or longer-run aspect, is the course, ask for a bigger piece of the pie individually and urgent need to reinforce incentives for conservation and when the pie is not growing we either take it from some- Digitized for FRASER The Texas Business Executive 43 http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis VOLCKER This country hasn't been kind to investment in its tax policies for many years. body else or we simply have inflation — and that in the political process I think in Washington, of some essence is what's been happening. We can live with the rather elemental truths: the need for restraint; the fact productivity decline or we can try to do something about that the creation of money is no substitute for the crea- it. Obviously the latter course seems to be the only tion of real goods and real productivity; and the need for reasonable one. The causes of the decline are not com- consistent and persistent restraint across the frame- pletely understood, but one thing that everyone seems work of government policies. in agreement on is that it does have something to do with investment, investment incentives, and that in turn WE'VE BEEN REMINDED again in recent weeks has something to do with fiscal policy — which brings that we live in a dangerous and uncertain world. We're me to taxes. learning in economics, as well as other policies, about This country hasn't been kind to investment in its tax the need for a certain toughness, a certain persistence policies for many years. Against the background of our and realism in approach. I can assure you that in our economic performance and against the background of own area of monetary policy we do mean to persevere the need for more productivity and more investment, the with the policy we undertook a few months ago. case for well-constructed tax reform and reduction seems to me very strong. In saying that let me point out PAUL A. VOLCKER is Chairman of the obvious: tax reduction does have revenue implica- the Board of Governors of the Federal Reserve System. Mr. Volcker received tions. Tax reduction, with all other things equal in the his B.A. at Princeton University in short run, would increase budgetary deficits. We've 1949 and his master's degree in poli- made progress in reducing budgetary deficits, but the tical economy and government from deficits have been too high for too long. In a very real the Harvard University Graduate sense, tax reduction has to be earned by persistent School of Public Administration in 1951. He attended the London School spending restraint over a period of time. The tax reduc- of Economics in 1951-52. Mr. Volc- tion should be timed when business requires stimulus. ker's first association with the Federal These preconditions are not, in my judgment, present Reserve System was as a summer today and for that reason the sense of restraint and I employee at the Federal Reserve think the sense of responsibility by the Congress and Bank of New York in 1949 and 1950. He returned to the New York Bank in the Administration in resisting premature tax reduction 1952 as a full-time economist, and remained with the Federal Reserve is admirable. until 1957 when he became a financial economist at Chase Mahattan This above all is a period that tests our patience, our Bank. In 1962 Mr. Volcker joined the U.S. Treasury as Director of wisdom and our common sense. With all the question- Financial Analysis and in 1963 he became Deputy Under Secretary of the Treasury for Monetary Affairs. From 1965 to 1969 he was a Vice ing and the uncertainties, I urge that you not overlook President of Chase Mahattan Bank. In 1969 he was appointed Under our strengths. We've had an exceptionally long period of Secretary of the Treasury for Monetary Affairs, where he remained economic expansion, virtually unprecedented in our until 1974. During this time Mr. Volcker was the principal United States peace-time history. We may not have enjoyed that ex- negotiator in the development and installation of a new international pansion as much as some earlier ones but the fact is monetary system departing from the fixed exchange rate system after we've got about 10 million more people at work in this World War II. He spent the academic year 1974-75 at Princeton University as a Senior Fellow in the Woodrow Wilson School of Public country than five years ago. By international standards, and International Affairs. Mr. Volcker became President and Chief our growth during this period has been impressive. The Executive Officer of the Federal Reserve Bank of New York on August dollar's more competitive internationally, our exports 1, 1975. He continued in that office until he became Chairman of the have been growing at a particularly rapid rate of speed Federal Reserve Board for a four-year term beginning August 6,1979. and our current account on the balance of payments has As President of the Federal Reserve Bank of New York, Mr. Volcker was a continuing Member of the Federal Reserve System's principal been getting a little better despite the increased oil monetary policymaking body, the Federal Open Market Committee. influence. Most of all I can't help but be encouraged by He was elected Vice Chairman of the FOMC in 1975. As Chairman of the understanding of the American people, reflected in the Federal Reserve Board Mr. Volcker is Chairman of the FOMC. 44 Summer 1980 Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis

Paul A. Volcker (1980, January 14). Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/speech_19800115_volcker

@misc{wtfs_speech_19800115_volcker,
  author = {Paul A. Volcker},
  title = {Speech},
  year = {1980},
  month = {Jan},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/speech_19800115_volcker},
  note = {Retrieved via When the Fed Speaks corpus}
}