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SHADOW OPEN MARKET COMMITTEE
Policy Statement and Position Papers
March 11-12,1979
1.
SOMC Members - March 11,1979
2. Shadow Open Market Committee Policy Statement, March 12,1979
3.
Redefining the Monetary Aggregates, Statemtent on Monetary Aggregates, Prepared by the
Shadow Open Market Committee, March 12,1979
4.
Position Papers
Statement Prepared for the Hearings on the Conduct of Monetary Policy, Held Pursuant to
the Full Employment and Balanced Growth Act of 1978 - Karl Brunner, University of
Rochester
Recent Monetary Reversals- Homer Jones, Federal Reserve Bank of St. Louis
Economic Projections-Jerry L Jordan, Pittsburgh National Bank
Economic Outlook - Beryl W. Sprinkel, Harris Trust & Savings Bank
Weekly Federal Reserve Report - H. Erich Heinemann, Morgan Stanly & Company
Exchange Rate and Inflation -Wilson E. Schmidt, Virginia Polytechnic Institute
A Report on Fiscal Policy for the Shadow Open Market Committee - Rudolph G. Penner,
American Enterprise Institute
Money Multiplier Forecast Errors - Robert Rasche and James Johannes, Michigan State
University
Means of Financing of U.S. Budget Defecit 1976-78
SHADOW OPEN MARKET COMMITTEE
\\
The Committee met from 1:30 p.m. to 8:00 p.m. on Sunday, March
*£>, 1979.
Members:
Professor Karl Brunner, Director of the Center for Research in Government Policy
and Business, Graduate School of Management, University of Rochester,
Rochester, New York
Professor Allan H. Meitzer, Graduate School of Industrial Administration, CarnegieMellon University, Pittsburgh, Pennsylvania
Mr. H. Erich Heinemann, Vice President, Morgan Stanley & Company, Inc. New York,
New York
Dr. Homer Jones, Retired Senior Vice President and Director of Research, Federal
Reserve Bank of St. Louis, St. Louis, Missouri
Dr. Jerry Jordan, Senior Vice President and Chief Economist, Pittsburgh National
Bank, Pittsburgh, Pennsylvania
Dr. Rudolph Penner, American Enterprise Institute, Washington, DC
Professor Robert Rasche, Department of Economics, Michigan State University, East
Lansing, Michigan
Professor Wilson Schmidt, Department of Economics, Virginia Polytechnic Institute,
Blacksburg, Virginia
Dr. Beryl Sprinke!, Executive Vice President and Economist, Harris Trust and Savings
Bank, Chicago, Illinois
Dr. Anna Schwartz, National Bureau of Economic Research, New York, New York
POLICY STATEMENT
Shadow Open Market Committee
March 12, 1979
A surge of inflation in 1978 and 1979 has made the effects of excessive
monetary and fiscal stimulus visible to all. Inflation reached an average of 9%
in 1978 and is likely to be even higher in 1979. In the past two years, the
dollar has depreciated substantially against the currencies of our trading partners. Oil price increases have added to the costs borne by consumers and producers. Although political events in Iran contributed to the most recent rise
in oil prices, most of the current inflation is the result of misdirected economic policies of the Federal Reserve and the Federal Government in recent
years.
Many forecasters predict that recession and rising unemployment will add to
the nationfs economic problems in 1979. Recessions have occurred at irregular
intervals during most of our history, and no fundamental change has occurred to
break the pattern. The occurrence of a recession possibly could be postponed by
increasing monetary and fiscal stimulus; however, additional stimulus at this
time would further raise the ultimate cost of reducing inflation. The Shadow
Open Market Committee is strongly opposed to the adoption of stimulative fiscal
and monetary policy to postpone a recession.
The desire to "do something11 about rising inflation appears to have produced a shift towards antiinflation policy in recent months. It should be
recognized that inflation this year has largely been predetermined by past
policies. Increasingly restrictive steps over the coming months should be
avoided, but also the temptation to reverse policies once again when the economy
slows must be resisted.
-2The principal aim of economic policy, now and in the future, should be to
establish conditions under which the U.S. and other market economies can achieve
stable, noninflationary growth and rising standards of living in the 1980's.
Another round of "stop and go" culminating in higher inflation and slow growth
of productivity in the early 1980's is a highly probable outcome if a break with
past approaches to stabilization is not made at this time.
What Has Been Done
For the fifth time in two decades, lower inflation and a smaller budget
deficit are given high priority in the rhetoric about economic policy. But the
words will not necessarily be matched by deeds. Announced policies are likely
to increase instability in the near term, while not offering any assurance of
increased stability in the early eighties.
Current economic policy has three main features:
(1) A pitiably small reduction in the proposed budget deficit for
the fiscal year starting next October, to be achieved principally
by allowing inflation to increase taxes. Estimates by the Congressional Budget Office show no reduction in the budget deficits
for fiscal 1980.
®
(2) An unprincipled sylcem of coercion masquerading as voluntary price and wage restraint. Programs of this kind confuse the
symptoms of inflation with the causes of inflation, encourage strikes,
involve the President and his staff in collective bargaining to
the detriment of that process, impose large costs of compliance,
arbitrarily restrict the incomes earned by particular groups of
-3-
workers and firms, but do nothing to slow inflation. The many attempts at formal or informal wage and price controls, here and
abroad, during the past fifteen years have not produced success for any policy of this kind.
(3) Continued emphasis on the level of short-term interest
rates as a measure of the degree of monetary restraint. In the
past, emphasis on interest rates has caused excessive monetary
growth and rising inflation during years of economic expansion, and
insufficient monetary growth and recession at other times.
In 1976, 1977 and 1978, the Federal Reserve refused to permit modest,
prompt increases in interest rates in response to the borrowing demands of
the public and private sector. Instead, money growth and inflation rose, and
the dollar fell on foreign exchange markets. Eventually, market interest rates
and inflation rose to much higher levels than would have been required if a
policy of gradually reducing money growth had been followed in these years.
Now the risks are in the opposite direction. If private demand for credit
were to slow, a policy of controlling short-term interest rates would cause
money growth to fall. The economy would be pulled into a deeper recession than
is required to slow inflation.
The risks of serious recession are increased by the absence of reliable
information about the nation's money supply. The interaction of inflation with
interest rate ceilings, complex reserve requirements, and new regulations prevent
the public and the government from knowing what is happening to actual money
growth. Congress should promptly eliminate restrictions on the payment of
interest on demand, time, and savings deposits as part of a program to restore
the reliability of data on the monetary aggregates.
-4-
What Should Be Done?
The high priority now given to controlling inflation will have no lasting
effect on inflation unless it is a part of a sustained program. Anything less
than a sustained program, lasting three to five years, would be a costly, wasted
effort. After fifteen years of rising inflation and many commitments by past
administrations and Federal Reserve officials, skepticism is large and government credibility is small.
At our meeting last September, we urged that monetary growth be reduced as
one part of a program to end inflation and restore stability within the next
five years. Although excessive monetary growth continued in the fall, there is
growing evidence that the annual growth rate of money has now been reduced even
after adjustment for change in definitions. We believe that further reductions
in the annual growth rate of the money aggregates at this time would be a mistake. Instead we urge:
One - the importance of growth in monetary aggregates is now widely recognized. Uncertainty about these growth rates can lead to major errors in the
interpretation of monetary policy and to severe recession or increased inflation. Uncertainty can be minimized only if Congress removes controls on the
payment of interest on demand and time deposits. Continued failure to act
imposes large risks and small benefits.
Two - the growth of the monetary base should be 8% for the year ending in
August 1979. This is consistent with the recommendation of this Committee at
our meeting in September 1978, when we selected the monetary base, as published
by the Federal Reserve Bank of St. Louis, as the most reliable measure of monetary growth currently available in this period of uncertainty about the interpretation of growth rates of monetary aggregates. The monetary base is entirely
-5-
controllable by the Federal Reserve since changes in the base are the direct
result of changes in the Federal Reserve portfolio. To control the size of its
securities portfolio -- which is the principal source of the monetary base
— the Federal Reserve must allow short-term interest rates to respond freely
to forces in the open market.
Three - we have urged repeatedly that the Federal Reserve adopt a fiveyear program to end inflation by reducing the growth rate of the monetary base
by 1% a year for the next five years. The need for a program of this kind has
now been recognized by Chairman Miller. During the past four months, the Federal Reserve has not made any effort to announce and implement the program. The
Federal Reserve can reduce the cost of ending inflation by publicly accepting a
commitment to sustained, gradual, but persistent reductions in money growth.
Four - productivity has grown at an average rate of 1% for the past two
years. Capital investment has lagged behind the growth of the labor force. To
encourage investment and output, Congress should further reduce the growth of
government spending (including off-budget items) below the recommendations of
the President, and reduce real tax rates. A tax reduction bill, to reduce the
real burden of taxation on households and firms should be passed early in the
session to encourage investment.
Five - to reduce uncertainty in financial markets, Congress should move at
once to repeal the Credit Control Act of 1969 and the International Emergency
Economic Powers Act of 1977. These laws -- which, respectively, create standby
authority for (1) direct government control of domestic financial markets and
(2) the imposition of foreign exchange controls in peacetime -- are unnecessary.
Should the Administration ever implement these authorities, the result would be
counterproductive and very costly to American society.
REDEFINING THE MONETARY AGGREGATES
Statement on Monetary Aggregates
Prepared by the Shadow Open Market Committee
March 12, 1979
Monetary aggregates are now widely recognized as important indicators of
exchange rates, interest rates, inflation, and economic activity. Central banks
in several countries now seek to control some monetary aggregates, and even the
Federal Reserve states target rates of growth for various monetary aggregates.
Governments, central bankers, investors, and savers throughout the world draw
inferences about the future by observing trends in monetary aggregates. While
foreign central banks have employed some variant of the monetary base concept,
the Federal Reserve has stated its targets exclusively in terms of the money
stock concept.
The monetary base statistics have proven to be accurate and reliable over
extended periods of time. However, money stock statistics periodically have
been subject to major revisions after the identification of measurement errors.
As long as errors in the reported statistics remained small or could be regarded
as constant, no major problems of interpretation arose. Currently, errors appear to be large and variable. The possibility of a major error in monetary
policy or in private decisions based on a misinterpretation of monetary aggregates as currently recorded has increased.
The Federal Reserve Bulletin for January, 1979, invited interested parties
to comment on the staff's proposals to redefine the monetary aggregates so as to
reduce potential errors of interpretation. Our Committee believes that the
proposed changes in definition are in the right direction. However, the published
proposal neither addresses the central problem nor fully adjusts the definitions
for past changes in financial arrangements. Measures of the monetary aggregates
can never be entirely accurate, but current errors can be reduced to more
acceptable levels.
-2The staff of the Board of Governors proposes two principal types of change
to M-l and M-2. One removes deposits of foreign banks and official institutions
from these aggregates. The other adds consumer-type transaction deposits at
thrift institutions to the aggregates.
The proposal does not incorporate into the monetary aggregates the effects
of substantial changes in businesses1 asset management practices such as the use
of overnight repurchase aggreements, overnight Euro-dollar deposits and other
relatively close substitutes for bank deposits. These practices appear to have
as much importance for the levels and rates of change of monetary aggregates as
the items in the staff proposal. Currently, there are no comprehensive measures
of these items. The Federal Reserve should promptly institute sampling procedures to assure adequate measurement.
It is regrettable that the Federal Reserve did not foresee the need to
change its data collection procedures in advance of the regulatory changes it
recently instituted. Future changes in regulatory practice should be coordinated
with monetary policy and data collection.
The Central Problem
The central problem cannot be solved permanently by changing definitions.
There is now a large and rapidly growing volume of financial assets not subject
to ceiling rates on deposits, not covered by Federal Deposit Insurance programs,
and in some cases not subject to reserve requirements. The private benefits
from these arrangements are entirely the result of archaic regulations and controls on interest rates.
Interest rate controls on savings, time, and demand deposits encourage
innovation to circumvent regulations. Differential reserve requirements for the
types of liabilities issued by banks and non-bank institutions provide additional
-3-
incentives to innovate. The relatively high market rates of interest, resulting
from past and currently anticipated inflation, increase the incentives for
owners and issuers of financial liabilities to circumvent regulations and controls on the payment of interest. The net social cost resulting from misinformation about the growth of the aggregates is high and probably is rising.
The proper remedy is to remove these restrictions and controls. The Congress, the Federal Reserve, the Federal Home Loan Bank Board, and other regulatory
agencies should act promptly to remove controls on interest rates and other
incentives to socially wasteful innovation.
Statement Prepared for the Hearings on the
Conduct of Monetary Policy
Held pursuant to the Full Employment and Balanced Growth Act of 1978
U.S. House of Representatives
Committee on Banking, Finance and Urban Affairs
Washington, D.C.
February 22, 1979
Karl Brunner
University of Rochester
1.
The Full Employment and Balanced Growth Act of 1978
I appreciate the opportunity to present my views to this Committee
concerning the course of monetary policy best designed to promote the goals
of the Full Employment and Balanced Growth Act of 1978. This Act establishes
medium and long term goals for both inflation and unemployment.
Inflation
sould be lowered to 3% p.a. by 1983 and completely vanquished by 1988. Unemployment for individuals aged twenty and over need be reduced to 3% and
among all persons aged sixteen and over to 4%.
These unemployment levels
should be realized by 1983 and subsequently maintained into the future. The
Act also declares Congressional intentions addressed to capital formation,
rising productivity and increasing real income per capita.
Congress rejects
thus the prospects of permanent stagnation advanced by assorted groups
advocating a nnon-growth economyn.
Congress also rejected the views advanced
with increasing frequency that we should accept a permanent inflation and
accommodate our policies to this fate.
2.
The Inflationary Heritage of Past Policies
The apparent interest of Congress in price-stability and economic growth,
at least as expressed in the Act of 1978, should stimulate concern about the
performance of our economy in the 1970's. The drift in inflation and unemployment was not produced by blind fates beyond our reach.
We contribute
to this drift with the dominant trend in our economic policies. This fact
holds most particularly for the case of inflation.
The differences in the
2.
behavior of the general price-level between the period 1960-1965 and the
1970fs and similar differences in other countries or between countries are
not determined by mysterious social forces.
Nor is the relative intracta-
bility of recent infltion in the USA particularly surprising.
The level and
persistence of our inflation is essentially the product of our monetary policy
pursued since 1965. This policy produced a monetary growth pushing nominal
gross national product at a rate of expansion exceeding the average rate of
real growth.
Economic agents in the private sector unavoidably adjusted their
price and wage setting to this nominal expansion maintained over many years by
the Federal Reserve Authorities.
The sequence of abandoned attempts at an
anti-inflationary policy (1966, 1969, 1971/72, 1974/75) confirms prevalent
expectations of a persistent inflationary policy.
Wage- and price-setters
show little inclination under the circumstances to adjust their behavior to a
temporary reduction in monetary growth and to the passing retardation of
nominal demand.
Both our current inflation and its apparent intractability result
from the pattern of policies cultivated by our monetary authorities.
3.
A General Program of Monetary Policy
The recognition of the underlying cause driving our inflation determines
the course of policy pushing the economy nearer to the goals expressed by
Congressional legislation.
A stable price-level requires that the Federal
Reserve hold the growth rate of the monetary base to around 2% p.a. The
combination of this growth with the expected trend in the monetary multipliers
and monetary velocity produced by a gradual diffusion of institutional inno-.
vations determines approximately a trend growth of 3% p.a. in nominal gross
3.
national product.
This implies under the circumstances a normal rate of
growth in real output of about 3% p.a. and a stable price-level. With a
different normal real growth or a different trend in multiplier and velocity
than implicitly used in the previous assessment suitable revisions in the
medium term growth rate of the monetary base yield closer approximation to
the stability of the price-level required over time. A well managed
Federal Reserve Authority with a definite commitment to its public responsibility would learn from experience as the situation evolves the approximate
magnitude of the non-inflationary growth rate of the monetary base. At the
moment and on the basis of our available information it seems quite adequate
to use 2% as a benchmark for 1988 or even somewhat earlier.
errors are small relative
The probable
to the magnitude of the current inflation.
The
path of the monetary base determined by its initial position (around 9% p.a.
in 1978) to the benchmark level set for 1986-1988 would assure an unambiguous
reduction of the rate of inflation to a small fraction of the inflation emerging
during the winter 1978/79.
4.
The Implementation of the Program
The implementation of this general program requires some attention.
non-inflationary level can be approached in many different ways.
The
If we knew
with certainty the economyfs complex dynamic structure and the patterns of
changing expectations induced by new information the move to a non-inflationary
state could be realized under optimal conditions in terms of the social costs
associated with the transition.
The revisions of expectations would moreover
induce rapid changes in price-wage setting in case the new policy is
4.
(miraculously) accepted by the public with full confidence as an expression
of a determined and sustained effort.
The social costs of the transition
would be lowered to a minimal level under the circumstances.
Unfortunately
we do not possess this information and we must grope for a path in a murky
fog.
An immediate reduction of the growth rate of the base from 9% to 2%
induces most likely a recession with losses in output and employment. The
low credibility attached at this time to any sustained anti-inflationary
monetary policy raises the social cost of the transition as it lengthens
the time required for the adjustment in price-wage setting behavior.
It
should be noted however that the moderation in the growth of the base required
for our proposal is substantially smaller than the retardation observed in
1920/21 or in 1936/37.
It would be somewhat larger than the retardation
imposed by the Fed in 1948/49 and other postwar recessions.
The loss in
output and employment resulting under the circumstances fosters most likely
political pressures forcing a reversal of monetary policy onto a renewal of
the inflationary game.
I know of no way to determine a path for the monetary
base which will assure us the absence of any social cost of transition or promise
that we move along an optimal trajectory in terms of social cost. My best
suggestion under this uncertainty shared by all of us indicates a gradual
approach explicitly announced and well articulated to the public. According
to this approach the Fed should announce once and for all in a manner conveying a convincing commitment that it plans to lower the growth rate of the
monetary base each year by one percentage point until we achieve a stable
price-level.
This policy need be announced now and initiated for 1979. The.
5.
White House should also commit its prestige, as it is, in support of this
policy and make clear that it will not tolerate any deviation from the
announced path.
5.
The Implementation of the Program:
Changes in Procedures and
Conceptions Governing the Fed's Policy-Making
The simple proposal involves no technical complications and difficulties.
The Federal Reserve Authorities possess all the technical means for an
effective execution of such a policy.
It will require however somewhat of
a revolution in the conception and procedure of the Federal Reservers
bureaucracy.
The Federal Reserve continues to formulate and implement
policy according to an old pattern.
This pattern,and its consequences with
respect to economic stability,has been described in detail in a study on
Federal Reserve Policy Making jointly prepared for this Committee in 1964
by myself and Allan H. Meltzer.
The Shadow Open Market Committee also
commented repeatedly in recent years on this problem.
The Fedfs traditional
procedure seriously impairs the control of monetary growth and the growth
of the monetary base.
It obstructed in the past four years the realization
of Congressional intentions expressed by HC 133 (March 1975) and the recent
revisions of the Federal Reserve Act.
This obstruction was reenforced by the
Fedfs conception traditionally dominating its views of monetary events and
monetary processes.
The conception inherited by the Fed!s bureaucracy essen-
tially denies the relevance of monetary aggregates and blinds the Fed to the
crucial role of monetary growth in the inflation process. The internal pro-,
cedures combined with the old conceptions explain the fact why the Fed so
6.
miserably failed to satisfy the Congressional intentions over the past four
years.
6.
The Implementation of the Program:
Institutional Reform of Adequate
Information
The change in procedures and conception of the Fedfs bureaucracy must
be supplemented with two other groups of measures in order to improve our
policy-making in a manner better suited to achieve Congressional goals.
Some of the institutional arrangements in the US monetary system are not
well designed for an effective control over monetary growth.
The prevailing
structure of reserve requirements and the ceiling on interest rates imposed on
checking and time deposits produces under inflationary circumstances serious
distortions in the measured monetary aggregates.
These distortions lower
the information content of the data and impair any rational assessment in
policymaking.
These distortions have recently been aggravated by increasing
errors impounded into the traditional measures of M. and M ? .
Institutional
innovations (AFT accounts, NOW accounts, broker and money market fund
checkable accounts and overnight repos) in the financial industry erode the
meaning of the published data.
There remain however some questions concerning
the adequacy of the published date even in the absence of the evolving institutional innovations.
Several years ago a special Committee constituted
by the Federal Reserve Authorities recommended several modifications in the
assembly and preparation of data for the measurement of monetary aggregates.
It seems most urgent at this time that the Federal Reserve Authorities be
7.
advised that their responsibility defined by the Federal Reserve Act and the
Full Employment and Balanced Growth Act requires a systematic reexamination
of their measurements.
Inadequate measures increase the uncertainty con-
fronting policymakers and economic agents. They also offer opportunities
for useful exploitation by the Fed's bureaucracy in order to produce sufficient
verbal smog to obstruct the movement to a non-inflationary path of the relevant
monetary magnitudes.
It is important to emphasize in the present context
however that we need not suspend any relevant action until the studies of
new Committees or the enquiries made by the Fed are terminated.
The Fed can
immediately initiate the necessary changes in implementation proposed by the
Shadow Open Market Committee in recent years, modify some arrangement (e.g.
reserve requirements), actively propose some other modifications (structure
of reserve requirements, interest ceilings on deposits) and most particularly
announce a commitment to lower the growth rate of the monetary base by one
percentage point each year in the manner indicated above. We note in passing
that the monetary base suffers at most vanishing measurement problems. It
suffers on the other hand under the Federal Reserve's systematic refusal to
recognize its central position in the money supply process.
7.
The Significance of Fiscal Policy
My statement concentrated thus far on monetary policy.
A short comment
bearing on the role of fiscal policy need be added at this point. The direct
effect of budget and deficit on the rate of inflation is comparatively negligible.
An expansion of government expenditures on goods and services tends indeed to
raise the price-level.
But such expansions contribute (directly) little to
8.
to our inflation.
A similar situation holds for the deficit.
The direct
effect of the deficit on the rate of inflation vanishes in comparison to the
importance of the mode of its financing.
The deficit exerts however an
indirect effect of some importance on the inflation motor.
The nature of
the political process lowers the likelihood of a non-inflationary monetary
policy under the circumstances of a persistent and large borrowing requirement
by the Federal Government.
It would thus seem advisable that fiscal policy
contribute with a balanced budget to the goal addressed by Congress. The
comparative irrelevance of the direct effect of budget and deficit on inflation does not imply however the irrelevance of these fiscal magnitudes in
terms of our welfare.
the government sector.
A large and increasing budget absorbs resources by
These resources are used less productively and more
wastefully in this manner than in the private sector.
Rising government
expenditures on goods and services lower in the average real investment and
real consumption and lower over time our economic welfare.
Rising government
expenditures in any form expand moreover the power and reach of the bureaucracy.
The citizen's control over an ever expanding government sector forms a major
problem for our political future beyond the threat of permanent inflation.
8.
The Objections to Anti-Inflationary Monetary Policy
The program submitted in my statement is hardly uncontested.
It is
opposed on the grounds that the social cost of transition to a stable pricelevel is too high.
The argument asserts in particular that the social cost
of permanent inflation is small when compared to the social cost of an
anti-inflationary policy.
This discrepancy in social costs determines that
9.
policy should rationally accommodate a persistent inflation built into the
economy.
Another objection contends that inflation involves a social process
essentially independent of monetary growth.
A reduction in monetary growth
produces under the circumstances a permanent loss of output and employment.
It is useless and harmful in this view to tame inflation by means of monetary
control.
Lastly, one may concede some usefulness to monetary-fiscal restraints
but argue that such t!general measures11 be supplemented by nspecific and
structural1' measures.
a.
The Social Cost of Anti-Inflationary Policy
The case for a permanent inflation in terms of the social cost of antiinflationary policy involves essentially an irrelevant comparison.
It com-
pares the transition to a stable price-level with a stable and fully anticipated inflation.
But this comparison is hardly relevant for our purposes.
It assesses an anti-inflationary policy against the standards of Never-NeverLand.
Permanent inflation actually means an erratic inflation with large
variations in the spread between expected and actual rate of inflation. A
policy of permanent inflation induces thus substantial variations in output
and unemployment.
The cumulative loss of output from intermittent recessions
whenever inflation abates exceeds probably the social cost of a once and for
all transition.
Permanent inflation imposes additional social costs beyond
this cumulative output loss resulting from intermittent "stagflationary"
recessions.
The erratic course of permanent inflation increases the un-
certainty confronting economic agents. The higher level of uncertainty
shortens the horizon of investment projects, curtails the average pay-off
10.
period, and tends thus to lower the rate of investment in human and non-human
capital.
These repercussions are further aggravated by our tax structure.
Permanent inflation typically fosters furthermore intermittent controls over
prices, wages, and interest rates. Every new wave of inflation encourages
the formation of new agencies and watchdogs Msupervisingn prices or fosters
extended powers to already existing agencies. The bureaucracy expands and
the power of government increases.
The resources invested in this manner
by the government sector hardly affect the ongoing increase in costs and
prices.
They do provide however substantial incentives encouraging a wasteful
and distorted use of our productive opportunities.
These repercussions lower
over time the trend growth of normal output.
b.
Irrelevance of Monetary Policy and Monetary Growth?
The second objection against an anti-inflationary monetary policy
implicitly argues that the social cost imposed by such a policy is indefinitely
high.
This follows from the view that inflation evolves irrespective and in-
dependently of monetary growth.
wide circles.
This theme has become quite fashionable in
Its attraction follows to a large extent from the political
message implicit in the view.
It offers some further justification for massive
social engineering and most particularly for the replacement of markets with
political institutions.
The evidence accumulated from a wide array of in-
flationary experiences drawn from many different historical circumstances and
countries thoroughly refutes however this contention.
No inflation ever emerged
without an excessive monetary growth usually produced by the government.
This
holds for the French inflation in the middle of the 14fth century just as well
11.
as for the Latin American inflation of the last 150 years, or the Italian,
English, Turkish, Spanish, etc. inflation of the past ten years. We find
in particular that every major or persistent acceleration of monetary growth
is followed by rising inflation.
Substantial variations over time within
any given country or differences between countries at any given time in the
level of monetary growth are clearly reflected by prevailing magnitudes in
the rate of inflation.
But the evidence shows more.
It also reveals that
inflation disappears whenever monetary growth subsides to a level determined
by normal real growth and the trend in velocity.
Recent experiences in West
Germany, Switzerland and the United Kingdom offer remarkable instructions for
our purposes. West Germany and Switzerland were more exposed to the real
shocks produced by OPEC and the failure of agricultural crops than the USA.
They still managed by a determined reduction of monetary growth below the
excessive rates reached in 1972 to lower inflation to vanishing levels.
There are many other cases from other periods and other countries which exhibit
unambiguously that a persistent and sufficient decline of monetary growth
effectively reduces the rate of inflation.
Any contention that inflation
proceeds irrespective of monetary policy and independently of monetary growth
finds no support in the reality of inflation experiences.
c.
A Need for Supplementary Measures?
Lastly, it is argued on occasion that general measures based on monetary
and fiscal policy cannot form the sole instruments of an anti-inflationary
policy.
They need to be supplemented by "specific and structural" measures.
12.
But this position is fundamentally untenable and contradicted by the facts
summarized by the previous paragraphs.
In particular, the contention that
general policy measures have been unable to lower inflation is simply false.
The failure observed over fourteen years in the USA is not due to price
movements being disconnected in a Mnew world governed by new social structures"
from falling monetary growth produced by unstinting efforts of our Federal
Reserve bureaucracy.
The facts are very different.
Our monetary policy
never settled on such an effort and never showed any determined attempt to
reduce monetary growth to the levels required for a non-inflationary growth.
One might just as well attribute the failure of a car to move because the
driver confuses brake and accelerator or fumbles with the ignition to a
breakdown of the car.
An emphasis on supplementary measures lowers the like-
lihood of an effective anti-inflationary policy as it directs attention away
from the basic requirement to lower monetary growth.
The Federal Reserve
bureaucracy essentially rejected in the past years and still rejects this
very notion of monetary control for the purpose of taming inflation.
Supplementary measures are basically useless as anti-inflationary devices.
"Income policies", "social contracts", "orchestrated approaches" or simple
coercion all failed to contain inflation.
We need not invoke ancient history
and the futile exercies of Diocletion, Julian the Apostate, Jean Valois II of
France, Edward III of England and others. The experiences of the postwar era
are quite sufficient to reveal that such measures may modify somewhat the
shorter-run path of inflation with little longer-run effect in the face of a
persistently excessive monetary growth.
Moreover, the measures mentioned above
hardly contribute to raise the credibility of a new attempt at anti-inflationary
13.
monetary policy.
The uncertain and unreliable record of policy-makers will
not dissolve with the cultivation of irrelevant and ineffective measures.
Even under the best circumstances when they initiate a more efficient use of
our resources the effect of specific or structural measures on the rate of
inflation is minimal.
It is quite illusory to cope with an 8% p.a. rate of
inflation in such terms.
It should be noted however that the irrelevance of
supplementary (structural) measures with respect to inflation does not imply
their irrelevance in terms of their cumulative effect on our general welfare.
But I also wish to emphasize that some of the supplementary measures
occasionally proposed are more likely to foster price increases and a wasteful use of our resources.
9.
Unemployment and Growth
The Full Employment and Balanced Growth Act 1978 imposes joint goals
for inflation and unemployment.
Policymakers are thus addressed to pursue
a course of action lowering both inflation and measured unemployment.
course should also foster economic growth.
This
Some clarification of the role of
monetary policy in this context may be useful in view of many prevalent confusions.
The case for an effective anti-inflationary monetary policy is
frequently dismissed as an expression of "Republican values" favoring higher
unemployment and lower inflation.
This argument misrepresents unfortunately
the actual issues confronting us. The choice is not between lower unemployment and higher inflation on the one side or higher unemployment and lower
inflation on the other side.
Our choice lies between a temporary increase
of unemployment in the present above its normal level in conjunction with a
14.
return to the normal level and no inflation in the future on the one side,
or, on the other side, permanent inflation with intermittent spurts of unemployment beyond its normal level augmented very likely by an increase in the
normal level.
It is unfortunate that we do not possess a sure way out of
inflation without suffering most likely some temporary increase in unemployment.
But there is really no alternative.
All attempts to avoid lower
monetary growth, exemplified by my proposal in a previous section, which
insist on a variety of flspecific or structural" measures are committed to
failures.
They will produce an apparently more and more intractable inflation
and the final "Latin-Americanization" of this country.
And most importantly,
the country will move even further away from the goals declared by Congress.
A determined and generally understood sustained effort to reduce monetary
growth does remove inflation.
It will not raise the normal level of unemploy-
ment but neither will it lower this level significantly at this stage of our
inflationary heritage.
The normal level of unemployment settled probably
around 6% under the current institutions.
Any effort to lower this level
moves our attention beyond monetary policy.
Monetary policy could lower the
measured unemployment rate substantially below 6% only for a short period and
would unleash thereby accelerating inflation.
A reduction in the normal level
of unemployment must be accomplished by major changes in our social institutions, (among others: minimum wage, the modus of food stamp plan and unemployment compensation or benefits).
Government policies reenforced in the
USA the upwards drift in the normal (and measured) unemployment rate beyond
the range due to demographic trends in our labor force. A similar pattern
holds for the fall in the rate of real growth observed in the USA.
The proper
15.
approach to lower unemployment and higher real growth involves under the
circumstances a systematic reassessment of a wide range of inherited government
policies and regulatory procedures.
This reexamination with appropriate
actions should indeed be welcomed and encouraged.
and general welfare rise.
Our society would benefit
But our political process may not produce this
result and Congress may prefer to continue the prevailing arrangement.
But
this also means under the circumstances that one should rationally accept the
consequences expressed in terms of unemployment and growth rate.
In particular,
these consequences offer no justification for an "expansionary" monetary and
fiscal policy intended to force a lower rate of unemployment and higher rate
of real growth.
Monetary policy will not deliver this result.
It would only
yield on this course accelerating and erratic inflation with unstable output
and rising level of normal unemployment.
And lastly, any attempt at curing
the problems of low growth and high measured unemployment with larger doses of
the "specific and structural" measures which produced these problems contributes
to accelerate the trend into stagnation and permanent inflation.
Homer Jones
March 9, 1979
In the several years up to the middle of last fall, the
Federal Reserve was increasing the stock of money of the
nation inordinately.
This rapid growth of money has been the
major cause of rapid and increasing inflation and reduction in
the rate of growth of money was long overdue in order for
inflation to be moderated.
But instead of a reasonable moderate
monetary growth, which this Committee recommended last September,
the Federal Reserve, about November 1, instituted a sudden and
inordinate reversal of monetary policy.
Since October narrowly
defined money (Ml) has declined at a 2 percent annual rate, after
increasing 7.8 percent in the preceding year.
Money more broadly
defined (M2) has grown at a 2 percent rate, after increasing 8.7
percent in the preceding year.
The monetary base has grown at a
6 percent rate compared with 9.7 percent in the preceding year.
This sudden extremely tight monetary policy may lead us in the
future to an unnecessarily acute recession, and the longer the
present excessively restrictive policy continues the greater the
likelihood and severity of such a recession.
We recommend that the degree of restraint on monetary growth
be moderated immediately.
Specifically, we advise that the growth
of that monetary aggregate consisting of currency and bank deposits
in the hands of the public (M2) be increased for the next six months
at a rate of about 6 percent a year.
This would help to correct the
excessive restraint of the last four months, yet would give assurance
that the inflationary rate of expansion in the years before last
November would not be resumed.
A moderation of the recent restraint
would reduce the likelihood of extreme recession, and at the same
time would be beneficial to our foreign exchange rates.
It would
reduce the likelihood that we would later reverse policy to one of
inordinate
ease.
MONETARY AGGREGATES
RATE OF GROWTH
III 74
to
III 78
Since
Oct.
1978
Year
End ing
Oct. 78
Federal Reserve Credit
8.5
11.3
9.3
9.9
8.7
10.1
Monetary Base
6.0 .
9.7
8.5
9.0
8.1
8.8
M2
2.2
8.7
9.3
9.8
8.9
8.8
Ml
- 2.2
7.8
6.4
8.0
4.8
6.2
III 76
to
III 78
III 74
to
III 76
Homer Jones
March 9, 1979
III 72
to
III 74
tt
TO.
FROM
SUBJECT
£J LJ iTfi O ihi ii\i iTi I u L i «"\! ."h L 1
SOMC
Jerry L. Jordan
.PHONE Mr>
355-3101
ECONOMIC PROJECTIONS
I.
March 5, 1979
DATE
Below are two tables showing projections for 1978 as of the
September meeting last year (I) and actual results for 1978 (II).
TABLE I
(percent changes)
Projections for 1978 as of September 78 SOMC Meeting
GNP
Output
Deflator
M1
M2
Q4/77Q4/78
12.1
4.1
7.7
7.6
8.1
19771978
11.4
4.0
7.2
7.7
8.4
M
M
V
V
TABLE II
(percent changes)
Actual for 1978
GNP
Output
Q4/77Q4/78
13 .0
4. 3
8 .3
7.3
8.5
5.3
4.1
19771978
11 .6
4.0
7 .4
7.8
8.6
3.5
2.8
Deflator
V
Growth of real output was higher than projected in September, but lower
than the 4.9 percent change projected at the March 1978 meeting.
Inflation
was higher than projected, and measured velocity grew more rapidly.
These
results are very strongly influenced by the sharp increase in real output
reported for Q4/1978 and the sharp decrease reported for money growth in
Q4/1978,
-2-
II.
The next two tables show the projections for 1979 as of the
September 1978 meeting (III) and for the March 1979 meeting (IV).
TABLE III
(percent changes)
Projections for 1979
GNP
Q4/78Q4/79
1978-79
Output
Deflator
10-12
2-3
11.6
3.4
M
M
8-9
8.0
-9.0
3.0
2.0
8.0
7.9
8.8
3.5
2.6
TABLE IV
(percent changes)
Projections for 1979 as of March 11 SOMC Meeting
GNP
M
M
8,3
7.0
8.0
8.3
6,8
Deflator
Output
-.7.1
1978-79
10.5
2.0
10.4
z.o
11,8
3.3
3.3
fc. 3
8.3
4.7
The following assumptions for 1979 were put forth for the September
1978 meeting.
11
The unemployment rate is expected to remain in the 5.5 to 6.5 percent
range in
1979, and the growth of employment, as well as the labor
force, are likely to be slower than in 1978.
Both short- and long-term market interest rates are expected to rise,
at least through mid-1979.
The rise of high quality corporate bond yields
will be about one-half percentage point while yields on short-term market
securities will rise by 75 to 100 basis points.
Residential construction activity in 1979
will be down 10 t.o 15
percent compared with 1978, but non-residential construction will exceed
1978. Real capital spending will still rise this year* but by a
smaller amount than in 1978.
Automobile sales can be expected to decline
—3—
about 10 percent for the full year, with a somewhat larger decline occurring
in foreign cars and a smaller decline in sales of domestically built cars.
Export volume will continue to rise in 1979 and will be accompanied
by a smaller increase in import volume so the trade deficit is expected
to by smaller.
Government spending in nominal terms is projected to rise
11 percent, about the same as nominal GNP»U
III.
The deceleration in monetary growth in late 1978 and early 1979, in com-
bination with the announcements and actions of policymakers since November,
1978 suggest that monetary growth this year will be less than in 1978.
Interest
rate increases in the next six months are likely to be greater than expected
last September,
However, a peak in short-term market interest rates is
expected to occur before year-end and declining market rates can be expected
in 1980.
SOMC
MONEY GROWTH RATES
(% Change from Previous Year)
TO:
FROM:
Ml
M2
MONETARY
BASE
M1+
1971/Q1
1972/Q1
6.8
10.9
7.1
8.9
Q2
Q2
6.3
9.7
7.2
7.7
Q3
Q4
Q3
6.7
10.4
6.9
8.2
Q4
8.4
11.2
8.3
9.2
1972/Q1
1973/Q1
8.5
10.5
8.9
8.4
Q2
Q2
8.0
10.0
8.9
7.6
Q3
Q3
7.2
9.2
9.1
6.3
Q4
Q4
6.2
8.8
8.1
5.2
1973/Q1
1974/Q1
5.9
9.0
8.1
5.1
Q2
Q2
5.7
8.8
8.4
5.2
Q3
Q3
5.3
8.3
8.4
5.4
Q4
Q4
5.1
7.7
9.0
5.5
1974/Q1
1975/Q1
3.8
6.7
8.2
5.2
Q2
Q2
4.2
7.3
7.8
6.8
Q3
Q3
5.0
8.4
8.0
8.5
Q4
Q4
4.6
8.4
7.6
8.8
1975/Q1
1976/Q1
5.3
9.6
8.0
11.0
Q2
Q2
5.3
9.6
8.7
11.4
Q3
Q3
4.6
9.3
8.3
10.6
Q4
Q4
5.8
10.9
8.4
12.6
1976/Q1
1977/Q1
6.5
11.0
8.3
12.5
Q2
Q2
6.8
10.8
7.9
11.2
Q3
Q3
8.0
11.1
8.5
11.3
Q4
Q4
7.9
9.8
8.8
9.3
1977/Q1
1978/Q1
7.7
8.8
9.5
7.2
1977/Q2
1978/Q2
8.2
8.6
9.4
7.0
1977/Q3
1978/Q3
8.1
8.6
9.4
6.4
1977/04
1978/04
7.3
8.5
9.6
5.3
SOMC
TWO-QUARTER COMPOUNDED ANNUAL RATES OF CHANGE
Ml
M2
MONETARY
BASE
M1+
Ql/71- Q3/71
8.2
11.5
8.2
10.1
Q2/71- •Q4/71
Q3/71- •Ql/72
4.8
8.1
6.6
6.3
5.4
10.2
6.0
7.8
Q4/71- •Q2/72
7.8
11.3
7.8
9.1
Ql/72- •Q3/72
8.1
10.7
7.8
8.6
Q2/72- •Q4/72
9.0
11.0
8.9
9.3
Q3/72- •Ql/73
9.0
10.4
10.1
8.3
Q4/72- •Q2/73
Ql/73- •Q3/73
7.1
9.0
8.8
5.8
5.5
8.0
8.1
4.4
Q2/73- •Q4/73
5.3
8.6
7-4
4.5
Q3/73- •Ql/74
6.3
10.0
8.1
5.8
Q4/73- •02/74
Ql/74- •Q3/74
6.1
8.9
9.5
5.9
4.2
6.7
8.8
4.9
Q2/74- •Q4/74
4.0
6.4
8.5
5.1
Q3/74- •Ql/75
3.3
6.6
7.7
5.5
Q4/74- •02/75
4.3
8.3
7.1
8.5
Ql/75- •Q3/75
Q2/75- •04/75
6.7
10.2
8.3
11.6
4.9
8.6
8.2
9.1
0.3/75-•01/76
Q4/75- •02/76
3.9
8.9
7.8
1.0.4
5.7
10.7
9.2
13.8
Ql/76- •03/76
Q2/76- •Q4/76
5.4
9.7
8.7
10.7
5.9
11.1
7.7
11.5
Q3/76- •Ql/77
Q4/76- -Q2/77
7.6
12.3
7.9
14.2
7.6
10.4
8.1
10.9
Ql/77- -Q3/77
Q2/77- -Q4/77
8.3
9.9
9.2
8.5
8.2
9.3
9.5
7.7
Q3/77- -Ql/78
Q4/77- -Q2/78
7.2
7.7
9.8
6.0
8.2
7.9
9.3
6.2
9.0
9.5
9.0
6.8
6.4
9.1
9.9
4.3
Ql/78- -Q3/78
Q2/78- -Q4/78
ECONOMIC OUTLOOK
(BILLIONS OF DOLLARS — SEASONALLY ADJUSTED ANNUAL RATES)
ACTUAL
FORECAST
19"8:4 19 9:1 19"*9:2 19 9: J 19"~9 :4 1980:1
ueryi w
Executive V.P. & Economist
Harris Trust & Savings Bank
Chicago, IL
60690
YEARS
1980:2
1980: 3 19 80: i
19"
19"8
19-9
1980
2210.8 22"1.6 2319.0 2341. 5 23"2 .9
14."
13.5
8.6
3. 9
5 .5
2 4 1 4 . " 2433.0
".2
11.8
2555. 5 2631. 9
12. 2
12. c
188".2
11.0
2106.6
11.6
2326.3
10.4
2521.3
8.4
CONSTANT DOLLAR 3NP
%CH
1412.2 1422.1 1422." 1408. 4 1400 .4
6.1
2.8
0.2
-4. 0
-2 .2
1398.6 1412.4
4.0
-0.5
1428. 3 1445. 0
4. 8
4. 6
1332/"
4.9
1385.1
3.9
1413.4
2.0
1421.1
0.5
PRICE DEFLATOR
%CH
1.5654 1.59"4 1.6300 1.6625 1 .6944
8.1
8.4
3.4
8.2
".9
1.7265 l."580
".5
".8
1.7892 1.8214
.3
".4
1.4158
5.9
1.5204
7.4
1.6461
8.3
1 .""38
7.8
1402.2 1435.1 1466.9 1495. 0 1521 .9
14.0
9."
9.2
9
.4
1554.0 1593.9
10."
8."
1636. 9 1681. 9
11. 2
11. 5
1206.5
10.7
1339."
1479."
1616.7
10.5
9.3
GROSS NATL
%CH
CONSUMPTION
PRODUCT
EXPENDITURES
%ca
DURABLES
%CH
209.6
21.8
212.4
5.5
NONDURABLES
%CH
550.8
15.2
SERVICES
214.5
4.0
214. 0
-0. 9
212 .1
-3 .5
214."
5.0
222.8
16.0
232.
19. 0
243. 0
18. 9
1"8.4
13.9
19".6
10.8
213.3
".9
228.3
-.1
563.9
9.9
5"6.9
9.5
539. 1
3.
601 .1
8 .4
613.5
3.5
62".1
9.2
641. 2
9. 3
655.
9. 4
4"9.0
8.2
525.8
9.8
53 2.8
10.8
634.4
8.9
641 .8
10.6
658.8
11.0
6"5.5
10.5
691. 9
10. 1
"03
10 .1
"25.8
10.0
"44.0
10.4
"63. 0
10. 6
"83. 2
11. 0
549.1
11.8
616.3
12.2
683."
10.9
754.0
10.3
359.9
11 ."
3-4.7
17.5
3"~."
3.2
361. 8
-15. 3
354 .0
-8 .3
353.6
-0.5
3-1.1
21.3
389. 5
21. 4
404. 6
16. 4
29".8
22.6
344.5
15.7
36".0
6.5
379."
3.4
235.0
13.9
242.4
13.2
248.8
11.0
253.0
6.9
255.8
4.5
256.8
1.6
259.4
4.1
264.6
3.3
2" 1.2
10.4
190.4
15.7
222.1
16.6
250.0
12.6
263.0
5.2
151.0
12.6
155.6
12.8
159.3
9.9
161.6
5.9
162."
2.8
162.8
0.2
164.4
4.0
168.0
9.1
173.0
12.4
126.5
17.9
144.6
14,2
159.8
10.5
16".1
4.5
84.0
16.2
86.8
14.0
39.5
13.0
91.4
8.3
93.1
".6
94.0
3.9
95.0
4.3
96.6
6.9
98.
6.8
63.9
11.5
77.5
21.3
90.2
16.4
96.0
6.4
112.5
13.5
112.3
-0.7
109.5
-9.6
104.8
-16.1
100.2
-16.4
103.3
13.0
109.4
25.8
116.5
28.6
123.6
26.7
91.9
34.8
106.8
16.2
106.7
-0.1
113.2
6.1
12.4
20.0
19.4
4.0
-2.0
-6.5
2.3
8.4
9.8
15.6
15.7
10.3
3.5
-6.9
-2.4
1.4
3.0
3.0
4.0
5.6
".2
10.2
-11.2
-11.8
1.3
6.7
GOVT PURCHASES
%CH
455.6
15.2
464.2
7.3
4~3.O
7.8
481.7
-.6
494.0
10.6
503.1
".6
512.4
7.6
521 9
".6
535.2
. 10.6
393.9
434.2
10.2
478.2
10.1
518.1
8.3
FEDERAL
%CH
MILITARY
%CH
OTHER
%CH
163.4
26.7
102.1
10.4
61.3
60.1
165.3
4.7
104.0
".7
61.3
0.0
16".3
4.9
106.0
".9
61.3
0.0
169.3
4.9
108.0
".8
61.3
0.0
1"4.8
13.6
111.9
15.2
62.9
10.9
1"".3
5.8
113.8
".0
63.5
3.9
1"9.9
6.0
115.8
~.2
64.1
3.8
182.5
5.9
117.8
7.1
64."
3.8
188.8
14.5
122.3
16.2
66.5
11.6
145.1
11.7
94.3
8.6
50.8
154.0
6.2
99.5
5.6
54.5
-.3
169.2
9.8
107.5
8.0
61.7
13.2
182.1
"."
117.4
9.3
64."
4.9
STATE & LOCAL
%CH
292.2
9.3
298.9
9.5
305."
9.*4
312.4
9.1
319.2
9.0
325.8
8.5
332.5
8.5
339.4
8.6
346.4
8.5,
248.9
8.4
280.2
12.6
309.1
10.3
336.0
8."
INVESTMENT
%CH
EXPENDITURES
NONRES FIXED EXPEND
%CH
PRODUCERS DUR EQUIP
%CH
BUSINESS
%CH
STRUCTURES
RES FIXED EXPEND
INVENTORY
CHANGE
NET EXPORTS
NOTE:
PERCENTA3E CHANGES AT ANNUAL RATES;
PRELIMINARY DATA FOR 7 8 : 4
9.6
£>eryx w.
p
Executive V.P. & Economist
Harris Trust & Savings Bank, C h i c g ^ ^ ^ I ^ ^ i s 60690
2/2/79
(BILLIONS OF DOLLARS---SEASONALLY ADJUSTED ANNUAL RATES)
ACTUAL
T9T8T4
1979
1979 : 2
1979:3
FORECAST
1979 :4 1980:1
YEARS
1980 : 2
1980 : 3
1980:4
1977
1978
1979
1980
227 .0
49 . 2
226 .0
-1 .8
222 .0
- 6 .9
208 .6
- 2 2 .0
199 . 2
- 1 6 .8
196.5
-5.3
203 .9
15 .9
213 .5
20 .2
223.CJ
173 . 9
20.1
11 . 5
202 .5
16 . 4
214 .0
5 .7
209 .3
- 2 .2
94 .4
44 . 0
90 .2
-16 .9
88 .6
- 6 .9
83 .2
- 2 2 .0
78 . 9
-19 .3
77,8
-5.3
80 .7
15 .9
84 .5
20 .2
88.5
20.1
71 . 8
11 . 8
83 . 9
16 .8
85 .2
1 .6
82 .9
- 2 .7
132 .6
53 . 0
135 .8
10 .2
133 .4
- 6 .9
125 .4
- 2 2 .0
120 . 3
- 1 5 .2
118.7
-5.3
123 . 2
15 .9
129 .0
20 . 2
135.0
20.1
102 . 1
11 . 4
118 .6
16 .1
128 .7
8 .6
126 .4
- 1 .8
84 .9
33 . 2
89 .8
25 .5
88 .2
84 .4
-16 .4
82 .4
-8 .9
80.9
-7.2
82 .0
5 .4
84 .4
12 . 2
89.4
26.1
72 . 3
—7 .0
15 . 3
76 .2
5 .3
86 .2
13 .1
84 .1
-2 .4
1786 .4
13 . 2
1836 .1
11 .6
1876 .1
9 .0
1911 .2
7 .7
1942 .9
6 .8
1983.8
8.7
2040 .8
12 .0
2099 .4
12 .0
2162.1
12.5
1529 .0
10 .7
1707 . 3
11 .7
1891 .6
10 .8
2071 . 5
9 .5
275 . 0
19 . 2
270 .8
-6 .0
277 .4
10 .1
282 .8
8 .0
288 .6
8 .5
296.6
11.6
308 .5
17 .1
318 .8
14 .1
331.9
17.5
226 .0
15 .0
256 .2
13 .4
279 .9
9 .3
314 .0
12 .2
1511 .4
12 .2
1565 . 3
15
1598 . 7
8 .8
1628 .4
7 .6
1654 .3
6 .5
1687.2
8.2
1732 .3
11 .1
1780 .6
11 .6
1830.2
11.6
1303 .0
10 .0
1451,.2
11,.4
161K7
11.1
1757,.6
9 .1
PERSONAL OUTLAYS
1439 .2
14 .1
1474 .8
10 .3
1508 .9
9 .6
1538 .9
8 .2
1567 .2
7 .6
1600.9
8.9
1642 4
10 .8
1687 .1
11 .3
1733.8
11.5
1236,.1
10,.7
1374. 5
11. .2
1522,.5
10,.8
1666..1
9..4
PERSONAL SAVINGS
%CH
72 .3
-18 1
90 5
145. 8
89. 8
- 3 .1
89 .5
-1 .4
87
-10 [3
86.3
-3.7
89. 9
17, 7
93 .5
16 .9
96.4
13.0
66. .9
-1,, 7
76. 8
14. ,7
89. .2
16..3
91. ,5
2. 5
4 .8
5 8
5 6
5 .5
5 .3
5.1
5. 2
5 »*
5.3
5 . ,1
5. 3
5 . ,5
5. 2
95.616
3.8
96.041
1.8
96.201
0.7
95.944
-1.1
95.859
-0.4
95.859
0.0
96.342
2.0
96.997
2.7
97.675
2.8
90.543
3.5
94.381
4.2
96.011
1.7
96.71 8
0. 7
101.524 102.200 102.800 103.200 103.600 10 4 . 0 0 0 104.400 104.900
2.7
1 .6
1.9
2.4
1.5
1.6
1.6
3.1
105.500
2.3
PRETAX PROFITS*
%CU
TAX LIABILITY
\Ci\
AFTER TAX PROFITS
AFT TAX PROF A D J ^
ten
PERSONAL INCOME
%CH
TAX & NONTAX PAYMENT
DISPOSABLE INCOME
%CH
SAVING RAT£(%)
EMPLOYMENT
LABOR FORCE
%CH
97.37 '5 100.41 7 102.950 104.700
1.7
2.5
2. 8
3. 1
UNEMPLOYMENT RATE(%)
5.833
6.026
6.419
7.031
7.4"'2
7.828
7.718
7.534
7.417
7.025
6.000
6.71 17
7.624
PRODUCTIVITY*
%C\\
1.173
2.4
1.17 7
1. 4
1.1" 7
0. 0
1.1" 0
-2. 4
1.165
-1.7
1.165
0.0
1.172
2.4
1.180
2.8
1.188
2.7
1.159
1.3
1.163
0.4
1.172
0.8
1.176
0.3
INDUSTRIAL PRODUCTION
1.495
7.0
1.507
3.2
1.499
-2.1
1.458
-10.5
1.432
-6.9
1.426
- 1 .7
1.449
6.6
1.477
8.0
1.506
8.1
1.371
5.6
1.450
5.8
1.474
1.6
1.465
-0.6
141.433 144.300 145.800 1 4 7 . 3 0 0 149.200 151 .900 155 000 158.200
8.5
8.4
4.2
4.2
5.3
7.4
8.4
9.9
161.600
8.9
124.850
8.3
136.667
9.5
146.650
7.3
156.675
6.8
16.28"
3.3
15.114
2.4
15.409
2.0
15.862
2.9
16.089
1.4
869.967 880.000 891.000 902.000 918.500 9 4 1 . 7 0 0 967.700 9 9 4 . 4 0 0 1023.000
5.0
4.7
12.0
7.5
5.1
11.5
11 .5
10.5
7.7
779.658
10.7
844.642
8.3
897.875
6.3
981.700
9.3
2.420
0.3
2.493
3.0
2.591
3.9
2.56 8
-0.9
MONETARY BASE-(MB)
iCH
VELOCITY OF rtB
iCU
MONEY SUPPLY- (M2)
VELOCITY OF M2
%C1I
15.631
4.4
2.54 1
6. 6
15.742
2.9
2.581
6.5
15.905
4.2
2.603
3.3
15.896
-0.2
2.596
-1.0
15.9 04
0.2
2.583
-1.9
15.897
-0.2
2.564
-2.9
16.019
3.1
2.566
0.3
16.154
3.4
2.57 0
0. 6
2.573
0.4
NOTE:
PUOFITS FOR " 8 : 4 ARE ESTIMATES; PRODUCTIVITY I S MEASURED AS OUTPUT PEH HOUR--NONFARM BUSINESS
1)
AFTER TAX PROFITS ADJUSTED TO EXCLUDE INVENTORY PROFITS AND ALLOW FOR DEPRECIATION AT REPLACEMENT COST
Beryl W. Sprinkel
Executive V.P. & Economist
Harris Trust & Savings, Chicago, Illinois
2/2/79
60690
ECONOMIC OUTLOOK
ACTUAL
FORECAST
19 78:A 1979:1 1079:2 1979:3 1979:4 1980:1
1980:2 1980:3
1980:4
INTEREST RATES
NEW ISSUE AA INDUS BONDS
9.000
9-200 10.000 10.000
NEW ISSUE AA UTIL BONDS
9.370
9.700
PRIME RATE
COMMERCIAL PAPER 4-6 I10S.
1977
YEARS
1978
1979
1980
9.750
9.500
9.250
9.000
9.000
7.918
8.735
0.738
9.188
10.300 10.300 10.000
9.900
9.600
9.400
9.400
8.325
9.098
10.075
9.575
10.793 11.750 12.500 11.750 11.000 10.000
9.000
8.000
8.000
6.824
9.052
11.750
8.750
7.000
7.000
5.612
7.994
10.900
7.750
9.897
10.600 12.000 11.000 10.000
9.000
8.000
AUTO SALES 1)
1 1 . 1 0 0
1 0 . 8 0 0
1 0 . 6 7 6
1 0 . 1 0 8
9 . 3 1 7
9 . 3 9 0
9 . 9 9 0
1 0 . 5 9 0
1 1 . 3 1 0
DOMESTIC
9 . 2 0 0
9 . 0 0 0
8 . 9 0 0
8 . 4 0 0
7 . 7 4 0
7 . 8 0 0
8 . 3 0 0
8 . 8 0 0
9 . 4 0 0
9.132
9.305
8.510
IMPORTS
1.900
1.800
1.776
1.708
1.577
1.590
1.690
1.790
1.910
2.066
1.992
1.715 1.745
2 . 1 2 9
1.900
1.H30
1.700
1.500
1.600
1.800
1.900
i
1 . 9 5 0!
1.967
2.009
1.733
HOUSING STARTS 1)
!)«IN MILLIONS OF UN ITS--S EASONAI.LY ADJUSTED ANNUAL
RATES
11 . 184 1 1.293
10.225 10.320
8.575
1.813
?DO<78:2 TO 79:2>PLOT1
HlSKYL W. Sl'HINKEL
ItAHHIS TRUST AND SAVIN OS DANK
MONETARYBASE
%CH6
12.00000
MONEY%CH6
.10.11111
MONEY2%CH6
CURR%CH6
. _ • _ - _ . 8.222222
6.333333
4.444444
2.555556
.6666667
-1.22222
-3.11111
l
•5.00000
FEB
l l I l l
MAR
APR
MAY
JUN
JUL
AUG
SEP
I l
OCT
NOV
DEC
l
JAN
FEB
?LO<71:1 TO 74:6>PLOT1
MONETARYBASE
%CH6
12.00000'
MONEY%CH6
• 10.11111'
MONEY2%CH6
CURR%CH6
• — . — - — - 8.222222*
6.333333'
4.444444'
2.555556'
,6666667'
-1.22222'
-3.11111'
l llllIllIll1llll l
-5.00000"
J
F
M
A
M
J
J
1973
A
S
O
N
D
J
P
M
A
1974
M
J
DO<6-8:12 TO 69:12>PLOTl
BKRYL W. SPRINKBI.
CXCCUTIVC VICE PRCSIDCNT ANO CCONOMIST
HARHIS TRUST A N D BAVINOS D A N E
MONETARYBASE 12.00000
%CH6
MONEY%CH6
.10.11111
MONEY2%CH6
CURR%CH6
. — . — • — . 8.222222
6.333333
4.444444
2.555556
.6666667
-1.22222
-3.11111
—I
-5.00000
DEC
1968
JAN
FEB
MAR
APR
MAY
iJUN
JUL
1969
III I
AUG
SEP
OCT
NOV
DEC
WEEKLY FEDERAL RESERVE REPORT
March 9, 1979
Prices of key industrial commodities have been moving up with explosive force in recent weeks. The 12% annual rate of increase in the producer price index for finished
goods that was reported yesterday by the Bureau of Labor Statistics is, in fact, only
the tip of the iceberg. According to the BLS, the weekly index of sensitive spot
commodity prices averaged 271.1 (1967=100) during the four weeks ended March 6, up at
an 82.6% compound annual rate from the average of 258.85 in the four weeks ended
February 6. Since the beginning of January, this index has advanced at a 50% compound annual rate. Most disturbing in this week f s report were increases of 2.9% (in
one week) in livestock prices, and a 5.2% surge in metals prices (copper, lead, and
steel scrap, as well as tin and zinc).
When combined with the continuing evidence of strong demand for short-term credit,
the explosion in materials prices since the first of the year suggests to us that
some of the economic distortions that normally characterize a cyclical peak in the
economy are now starting to come into view. Total commercial paper outstanding averaged $86.8-billion in the four weeks ended on March 7, up at a 42.8% seasonally
adjusted compound annual rate from the prior four-week period, and up at a 44.1%
annual rate over the past three months. In the week ended February 28, the Morgan
Stanley proxy for total short-term business credit outstanding rose $942-million, and
now stands $3.4-billion higher than at the beginning of the year. Against this
background, it is yery likely that some anticipatory inventory accumulation is now
under way on the part of businessmen trying to hedge expected future price increases.
Certainly it has been profitable to borrow money at an effective cost ranging between 10% and 14% in order to buy materials whose prices have been rising at roughly
triple that rate. Furthermore, the full impact of the tightening of world oil supplies due to the Iranian crisis has yet to hit the American economy.
At the same time, the monetary data reinforce our belief that Federal Reserve policy is belatedly swinging sharply in the
direction of restraint. The annual rate
of increase in the monetary base, which
was 10% from December 1977 through October
1978, dropped to 6.5% from October through
February. Since the public's holdings of
currency have continued to rise at a 10%
annual rate in this period, growth in the
reserve base of the banking system has
been brought to a halt. The slowdown in
bank reserve growth, about which we have
commented repeatedly in recent weeks, is
in our opinion the most important influence
on the overall deceleration in monetary
expansion. Figure 1 on page 3, which depicts the procyclical record of Federal Reserve monetary policy, shows the downturn
in the underlying rate of money growth that
the central bank is now starting to implement. (The underlying rate of expansion
CONTENTS
The Explosion in Commodity Prices
1
A Return to Selective Controls?
3
Targets for Monetary Growth
4
Outlook for Treasury Financing
6
Federal Reserve Action and
Monetary Growth
7
Figures of the Week
Statistical Appendix
12
-2-
in M-l was 7.32% for the 12 months ended February 1979, down s i g n i f i c a n t l y from the
peak rate of 7.99% for the 12 months ended September 1978.) Since this is a measure
of M-l (currency and most demand deposits), i t is indeed distorted by the structural
changes in the banking system that took place last November — the introduction of
the automatic transfer service and the s h i f t in Treasury cash management practices.
However, the more broadly defined aggregates, which are much less affected by these
changes, also have slowed down.
Federal Reserve [Data
(Weekly Averages of Daily Figures; in Millions of Dollars)
Latest Week
Change From
Prev. Week
$356,500
$- 1 ,700
M-l-Plus* (1)
577,400
Money Supply Plus Comm'l
Bank Time Deposits Other
Than Large CDs (M-2)* (1)
876,000
Monetary Base* (2)
144,200
125,400
Money Supply (M-l)* (1)
Rates of Change Over
3 Months 6 Months 1 Year
- 2.3%
+ 1.1%
+ 4.8%
- 1 ,400
- 5.3
- 1.3
+ 2.5
700
+ 1.3
+ 4.7
+ 7.0
+
500
+ 6.4
+ 8.1
+ 8.3
+
200
+ 9.1
+10.7
+ 9.8
600
- 0.7
+ 3.7
+ 5.0
Adjusted Federal Reserve
Credit* (2)
Total Effective Bank
Reserves* (1)
Member Bank Borrowing (2)
44,500
1,026
NA
NA
NA
942
N/AV
N/AV
N/AV
+ 1 ,397
+41.4
+31.3
+31.1
-
58
Wednesday Figures
Short-Term Business
Credit (1) R
Total Commercial Paper
Outstanding* (1)
228,522
87,903
+
Business Loans:
133,949
+
358
N/AV
N/AV
N/AV
New York City Banks* (2)
38,451
+
64
+ 2.2
+12.6
+12.2
Chicago Banks (2) R
13,478
-
27
N/AV
N/AV
N/AV
All Large Banks (1) R
R = Series Revised; Figures are not comparable with those published during 1978.
*Seasonally Adjusted
NA = Not Applicable
N/AV = Not Available
Rates of change are compound annual rates. Short-term business credit includes
commercial and industrial loans at large banks plus loans sold to a f f i l i a t e s less
bankers' acceptances and commercial paper held in p o r t f o l i o plus loans at large banks
to finance companies and nonbank financial i n s t i t u t i o n s plus nonbank commercial
paper.
(1) February 28
(2) March 7
-3-
Figure 1
The Cyclical Record of Federal Reserve Policy
The rate of change in a 12-month moving average of M-1
centered on the sixth month of each period
9.0%
7.0
5.0
?
3.0
1.0
-1.0
1960
1962
1964
1966
1968
1970
1972
1974
1976
1978
Shaded areas represent periods of recession as designated by the National Bureau of Economic Research
except for the mini-recession of 1966-1967.
Sources: Chase Econometric Associates Data Base; Morgan Stanley Research
In our opinion, a confrontation is developing between an apparent surge of aggregate
demand and the belated resolve of the monetary authorities to bring a clearly excessive rate of increase in total spending under control. In time, this will inevitably lead to a deceleration in the growth of final demand (GNP less the change in
inventories). As businessmen perceive the shift in their sales prospects, they will
begin to move to trim their inventories by cutting back production, thus initiating a
contraction in aggregate economic activity. However, we are not yet at that point,
and before the economy reaches its crest, pressures in the financial markets are
likely to intensify. Short-term interest rates should rise above present levels,
thus leading to an even sharper downward slope in the yield curve. We continue to
believe that the Federal funds rate will average between 10.5% and 11.5% over the
next three months, and in individual weeks it could easily reach levels well above
that range.
A RETURN TO SELECTIVE CONTROLS?
It is very clear that the monetary authorities -- despite their repeated assertions
that they wish to slow total spending in such a manner to avoid a reduction in aggregate real output -- are now becoming impatient. They are obviously, and correctly,
concerned with the explosive behavior of the price level. But they seem unwilling to
wait for a gradual unwinding of the excess demand that they have helped to create.
In the first instance, the authorities are plainly ignoring the monetary growth targets that Mr. Miller announced just two weeks ago (see Tables 1 and 2 on page 4 ) . The
current levels of both M-1 and M-2 are far below the lower ends of the ranges
-4Table 1
Targets for Monetary Growth:
($ Billions)
Date
7/77
8/77
9/77
10/77
11/77
12/77
1/78
2/78
3/78
4/78
5/78
6/78
7/78
8/78
9/78
10/78
11/78
12/78
1/79
2/79
3/79
4/79
5/79
6/79
7/79
8/79
9/79
10/79
11/79
12/79
M-l
(Actual)
$328.7
330.6
333.1
335.4
336.5
338.7
341.9
342.4
343.2
347.9
350.7
352.5
354.5
357.0
361.1
361.6
361.0
361.5
359.9
358.8
Target #16
Upper
Lower
+4.5%
+1.5%
$361.4
362.7
364.1
365.4
366.8
368.1
369.5
370.9
372.2
373.6
374.9
376.3
377.6
379.0
$361.4
361.8
362.3
362.7
363.2
363.6
364.1
364.5
365.0
365.4
365.9
366.3
366.8
367.2
Target #15
Upper
Lower
+6.0%
+2.0%
$357.5
359.3
361.1
362.9
364.7
366.5
368.3
370.0
371.8
373.6
375.4
377.2
379.0
380.8
$357.5
358.1
358.
359.
359.9
360.5
361.1
361.7
362.3
362.9
363.5
364.1
364.7
365.3
Target #14
Upper
Lower
+6.5%
+4.0%
$350.4
352.3
354.2
356.1
358.0
359.9
361.8
363.7
365.5
367.4
369.3
371.2
373.1
375.0
$350.4
351.5
352.7
353.9
355.0
356.2
357.4
358.5
359.7
360.9
362.0
363.2
364.4
365.5
M-l
Target #13
Upper
Lower
+6.5%
+4.0%
$342.5
344.4
346.2
348.1
349.9
351.8
353.6
355.5
357.3
359.2
361.1
362.9
364.8
366.6
Target #12
Upper
Lower
+6.5%
+4.0%
$342.5
343.6
344.8
345.9
347.1
348.2
349.3
350.5
351.6
352.8
353.9
355.1
356.2
357.3
$336.9
338.7
340.5
342.3
344.2
346.0
347.8
349.6
351.5
353.3
355.1
356.9
358.8
360.6
$336.9
338.0
339.1
340.2
341.4
342.5
343.6
344.7
345.8
347.0
348.1
349.2
350.3
351.5
Target #11
Upper
Lower
+6.5%
+4.0%
$330.8
332.6
334.4
336.2
338.0
339.8
341.6
343.3
345.1
346.9
348.7
350.5
352.3
354.1
$330.8
331.9
333.0
334.1
335.2
336.3
337.4
338.5
339.6
340.7
341.8
342.9
344.0
345.1
Target #11 was established by the Federal Open Market Committee on October 18, 1977; Target #12, on February 28, 1978; Target #13, on
April 18; Target #14, on July 18; Target #15, on October 17; and Target #16, on February 6, 1979.
Sources:
Federal Reserve Board; Morgan Stanley Research
Table 2
Targets
M-2
Date
7/77
8/77
9/77
10/77
11/77
12/77
1/78
2/78
3/78
4/78
5/78
6/78
7/78
3/78
9/78
10/78
11/78
12/78
1/79
2/79
3/79
4/79
5/79
6/79
7/79
8/79
9/79
10/79
11/79
12/79
(Actual)
$783.9
789.6
795.5
801.2
805.2
809.4
816.0
819.4
822.6
830.3
836.7
842.6
848.7
856.9
866.2
870.9
874.3
876.3
875.4
877.0
Target #16
Lower
Upper
+5.0%
+8.0%
$873.8
879.7
885.5
891.3
897.1
903.0
908.8
914.6
920.4
926.3
932.1
937.9
943.7
949.6
$873.8
877.5
881.1
884.8
888.4
892.0
895.7
899.3
903.0
906.6
910.2
913.9
917.5
921.2
Target #15
Upper
Lower
+9.0%
+6.5%
$857.3
863.7
870.1
876.6
383.0
889.4
895.8
902.3
908.7
915.1
921.6
928.0
934.4
940.9
$857.3
861.9
866.6
871.2
875.8
880.5
885.1
889.8
894.4
899.0
903.7
908.3
913.0
917.6
for Monetary Growth: M-2
($ Billions)
Target: #14
Upper
Lower
+9.0%
+6.5%
$836.5
842.8
849.1
855.4
861.6
867.9
874.2
880.5
886.7
893.0
899.3
905.5
911.8
918.1
$836.5
841.1
845.6
850.1
854.7
859.2
863.7
868.3
872.8
877.3
881.8
886.4
890.9
895.4
Target #13
Upper
Lower
+6.5%
+9.0%
$819.3
825.5
831.6
837.8
843.9
850.1
856.2
862.3
868.5
874.6
880.8
886.9
893.1
399.2
$819.
823.
828.
832.
837.
841.
846.
850.
854.
859.
863.
868.
872.
877.
Target #12
Upper
Lower
+9.0%
+6.5S
3
8
2
6
1
5
0
4
8
3
7
2
6
0
$805.3
811.3
817.3
823.4
829.4
835.5
841.5
847.5
853.6
359.6
865.7
871.7
877.7
883.8
$805.3
809.6
814.0
818.4
822.7
827.1
831.4
835.8
840.2
844.5
848.9
853.2
857.6
862.0
m
Target
Lower
Upper
+9.0%
+6.5%
$789.7
795.6
801.5
807.4
813.4
819.3
825.2
831.1
837.0
843.0
848.9
354.8
860.7
866.7
Target ?11 was established by the Federal Open Market Committee on October 18, 1977; Target ?12, on February 28, 1978; Target
April 18; Target #14, on July 18; Target #15, on October 17; and Target ?16, on February 6, 1979.
Sources:
Federal Reserve Board, Morgan Stanley Research
$789.7
793.9
798.2
802.5
806.8
811.1
815.3
819.6
823.9
828.2
832.4
836.7
841.0
845.3
13, on
-5-
Figure 2
The Underlying Rate of Growth in Federal Spending Slows Down
The rate of change in a 12-month moving average of unified Federal budget expenditures
centered on the sixth month of each period
25.0%
"1
3.4
-2.0
1960
1962
1964
1966
1968
1970
1972
1974
1976
1978
Shaded areas represent periods of recession as designated by the National Bureau of Economic Research
except for the mini-recession of 1966-1967.
Sources: Chase Econometric Associates Data Base; Morgan Stanley Research
established by the Federal Open Market Committee, but this has produced no visible
action to rectify the situation.
Moreover, in moving to restrict somewhat the interest that banks and thrift institutions can pay on so-called money market certificates (six-month time deposits whose
interest rates are tied to the rate on six-month Treasury bills), the authorities
have given a strong hint that they are prepared to use selective controls, if necessary, to cool off the economy. All types of deposit institutions have been prohibited from compounding the interest on such instruments (effective March 15), and savings and loan associations will no longer be allowed to pay 25 basis points more than
the six-month bill rate. According to one calculation, these changes would reduce
the effective yield on a certificate issued by a savings and loan association this
week to 9.41% from 10.29%.
The change in the regulations comes at a time when the savings and loan industry, in
particular, is heavily overcommitted. Future lending commitments at the end of
January totaled $32.9-billion, seasonally adjusted, only slightly below the record
peak of $34-billion in November 1978. With the prospect that, at minimum, the inflow
of funds from deposits of this type will slow, managers of thrift institutions are
likely to curtail sharply their willingness to make additional lending commitments
until the present total is worked down to more manageable levels. Then, too, there
is the threat that even more severe restrictions on money market certificates might
be proposed in the future. Since the total of such deposits is now well in excess of
$100-billion, this threat has to be taken seriously. Without debating the theoretical merits or demerits of this approach, there is little question but that in the
short run it will have restrictive and destabilizing impact on the flow of funds into
the housing market.
-6-
THE OUTLOOK FOR TREASURY FINANCING
A key element in the 11Carter Administration's economic strategy for 1979 is a policy
of "fiscal restraint, a marked deceleration in the rate of growth in Federal spending,
with cutbacks in social service programs more than offsetting a modest increase in
defense outlays. An early result of this effort may just possibly be visible in the
drop in the underlying rate of growth in Federal spending that is shown in Figure 2
on page 5. However, we are doubtful that this nascent trend will continue for long,
and we are also highly skeptical that Mr. Carter will come anywhere near his goal of
a Federal budget deficit of less than $30-billion in the fiscal year that ends on
September 30, 1980.
The Administration, of course, has built its projections on the assumption that, to
paraphrase Pierre Rinfret's famous prediction, "there ain't gonna be no recession" in
1979 or 1980. This forecast, in our view, is highly questionable; indeed, it would
be surprising if a business contraction did not occur. With defense expenditures
already programmed on a rising track, a contraction in real activity is likely to
prove troublesome for the Administration's budget planners. Contracyclical domestic
spending will in all probability be increased, as the impact of both inflation and
Table 3
Federal Financinq Requirements - 1978 and Estimated 1979
($ Billions)
Off-Budget
Surplus +
Deficit -
Total
Financing
Required
Change in
Cash Balance
Other
Miscellaneous
Accounts
Borrowing from
the Public
Receipts
Outlays
Surplus +
Deficit -
S 33.2
26.9
25.2
42.5
35.1
47.7
29.2
35.0
42.6
28.7
33.2
37.5
$416.8
$ 36.9
33.9
40.4
35.9
36.8
38.6
36.4
39.6
38.9
42.7
39.1
41.4
$460.3
$- 3.7
- 7.0
-15.1
+ 6.6
- 1.7
+ 9.1
- 7.2
- 4.5
+ 3.7
-13.9
- 5.9
- 3.9
$-43.5
$- 1.2
- 1.3
- 1.2
- 0.6
- 1.0
- 0.7
- 0.8
- 1.6
- 0.8
- 0.8
+ 1.4
- 0.7
$+ 4.9
+ 8.3
+16.3
- 6.0
+ 2.7
- 8.4
+ 8.0
+ 6.1
- 2.9
+14.7
+ 4.5
+ 4.6
$+52.8
$+ 0.2
- 5.2
- 1.0
+ 3.3
- 6.4
+14.1
- 5.8
+ 1.0
+ 9.7
- 7.1
- 3.5
+ 2.3
$+
+
+
+
+
0.9
2.0
5.6
0.4
3.1
0.3
7.0
2.0
4.0
1.2
4.2
3.4
$+ 6.0
+ 5.1
+ 9.7
- 2.3
- 0.6
+ 5.4
+ 3.2
+ 9.0
+ 2.8
+ 6.5
+ 5.2
+ 3.5
$ 53 5
*
S 38.4
30.8
30.7
49.1
31.9
52.8
31.7
37.7
44.8
29.8
34.6
40.0
$452.3
$ 41.1
37.7
41.2
42.6
39.4
40.0
42.3
41.2
40.7
46.2
43.0
44.0
$499.4
$- 2.7
- 6.9
-10.5
+ 6.5
- 7.5
+12.8
-10.6
- 3.5
+ 4.1
-16.4
- 8.4
- 4.0
$-47.1
$- 1.0
- 0.9
- 1.1
- 0.3
- 0.6
- 0.4
- 1.0
- 1.2
- 0.6
- 1.2
- O.i
- 1.1
$ 9 5
" '
$+ 3.7
+ 7.8
+11.6
- 6.2
+ 8.1
-12.4
+11.6
+ 4.7
- 3.5
+17.6
+ 8.5
+ 5.1
$+56.6
$+ 0.2
- 2.2
- 2.0
+ 6.4
- 6.8
+ 7.7
- 7.2
+ 0.2
+ 8.8
- 4.9
- 3.3
+ 3.3
$+ 0.6
- 0.5
+ 1.2
+ 1.1
+ 1.2
- 1.4
- 2.8
- 2.7
+ 2.1
+ 2.3
- 2.4
+ 1.6
$+ 3.3
+ 6.1
+ 8.4
- 0.9
+ 0.1
- 3.3
+ 7.2
+ 7.6
+ 3.2
+10.4
+ 7.6
+ 6.8
$ 56.5
1978
January
February
March
April
May
June
July
August
September
October
November
December
Total
1979
January
February
March
Apri 1
May
June
July
August
September
October
November
December
Total
Sources: United States Treasury; Federal Reserve Board; Morqa n Stanley Research Estimates
-7-
Figure 3
The Steady Downtrend of the Money Multiplier...
Ratio: Money Supply (M-1) to Monetary Base
Long-Term Trend
2.9
•
2.8
•
2.7
•
2.6
-
2.5
•
12/25/74
10/1,75
7/7/76
4/13/77
1/18/78
10/25/78
Sources: Chase Econometric Associates Data Base; Morgan Stanley Research
recession on the rate of increase in transfer payments is likely to be considerable.
For instance, Social Security cost-of-living adjustments in July will add significantly to the bill for transfer payments, while lower levels of employment and income
will lead to rises in unemployment benefits and spending for such programs as food
stamps. In addition, if the economy weakens as we anticipate, a tax cut is likely to
be proposed to take effect early in 1980.
The net result of these considerations is shown in Table 3 on page 6, which tracks
our expectations for the Federal budget month-by-month during calendar year 1979. We
expect that the unified budget deficit this year will be approximately $47.1-billion,
and that the off-budget agencies -- chiefly the Post Office and the Federal Financing
Bank -- will contribute another $9.5-billion or so to a total Federal financing
requirement of $56.5-billion. Because of the uncertainties involved in forecasting
monthly changes in the Treasury cash
balance well into the future - to say nothing of
the highly volatile "miscellaneous11 accounts -- the specific monthly forecasts have
to be treated with considerable caution. However, we are convinced that the overall
pattern conforms closely to the most probable outlook for the Federal budget at the
present time.
FEDERAL RESERVE ACTION AND MONETARY GROWTH
One of the key uncertainties at the present time concerns the relationship between
the policy tools that are under the direct control of the authorities -- of which the
most important is the monetary base — and the rate of monetary expansion, and,
Figure 4
Can be Traced to the Rapid Rise in Public Holdings of Currency...
Ratio: Currency to Demand Deposits
Long-Term Trend
0.40
0.38
0.36
0.34
0.32
0.30
12/25/74
10/1/75
7/7/76
4/13/77
1/18/78
10/25/78
Sources: Chase Econometric Associates Data Base; Morgan Stanley Research
Figure 5
Increased Holdings of Time Deposits...
1
Ratio: Time Deposits to Demand Deposits
' Long-Term Trend
2.4
2.3
•
2.2
2.1
2.0
1.9
12/25/74
10/1/75
7/7/76
4/13/77
1/18/78
Sources: Chase Econometric Associates Data Base; Morgan Stanley Research
10/25/78
-9Figure 6
And a Sharp Jump in Treasury Deposits in Private Commercial Banks...
1
0.051
Ratio: Treasury Deposits to Demand Deposits
Long-Term Trend
i
0.043
0.035
0.027
0.019
0.011
12/25/74
10/1/75
7/7/76
4/13/77
1/18/78
10/25/78
Sources: Chase Econometric Associates Data Base; Morgan Stanley Research
Figure 7
...Partially Offset by a Drop in Effective Reserve Requirements
Ratio: Total Effective Reserves to Total Deposits
Long-Term Trend
0.055
0.054
0.053
0.052 <
0.051
0.050
12/25/74
10/1/75
7/7/76
4/13/77
1/18/78
Sources: Chase Econometric Associates Data Base; Morgan Stanley Research
10/25/78
Table 4
Federal Reserve Action and Monetary Growth
($ Billions)
(2)
(3)
(4)
(5)
(6)
(7)
(8)
(9)
(10)
(11)
Monetary
Base
Currency
Total
Effective
Bank Reserves
(1-2)
Demand
Deposits
Total
Time
Deposits
Treasury
Deposits
Total
Deposits
(4+5+6)
Adjusted
Reserve
Ratio
(3/7)
Currency
Ratio
(2/4)
Time
Deposit
Ratio
(5/4)
Treasury
Deposit
Ratio
(6/4)
Money
Multiplier
(2+4/1)
$136.6
136.6
137.0
137.2
137.2
137.4
137.5
137.7
138.0
138.3
138.6
138.9
139.3
139.7
140.0
140.4
140.6
140.8
141.1
141.2
141.3
141.5
141.7
141.9
142.1
142.2
142.5
142.7
142.9
143.1
143.1
143.5
143.4
143.6
143.6
$92.7
92.9
93.0
93.1
93.2
93.4
93.6
93.8
94.0
94.3
94.6
94.9
95.1
95.3
95.5
95.6
95.7
95.9
96.1
96.3
96.5
96.6
96.8
97.0
97.1
97.3
97.4
97.7
97.9
98.1
98.2
98.5
98.6
98.7
98.9
$43.9
43.8
44.0
44.1
44.0
44.0
43.9
43.9
44.0
44.0
44.0
44.0
44.2
44.4
44.6
44.8
44.9
44.9
45.0
44.9
44.8
44.9
44.8
44.9
45.0
44.9
45.1
45.0
45.0
45.0
44.9
45.0
44.8
44.9
44.8
$260.6
260.9
260.9
261.3
261.2
261.5
262.4
262.9
262.9
263.6
264.2
265.0
266.1
266.2
266.4
266.5
265.9
265.7
265.3
264.7
264.7
264.3
264.1
264.0
264.0
264.0
264.1
263.8
263.4
262.4
261.0
260.6
260.3
260.3
259.9
$577.7
578.8
580.2
581.6
582.7
583.8
585.1
586.3
587.7
589.2
590.7
592.1
593.3
594.2
594.9
595.6
596.8
598.6
601.2
604.1
606.8
608.8
609.9
610.6
611.0
611.2
611.6
612.1
613.2
614.8
616.5
617.9
618.9
619.7
620.4
$ 7.2
7.6
5.4
4.8
3.8
3.6
3.5
3.7
3.6
3.6
3.7
4.9
5.9
7.1
7.3
5.9
4.9
3.7
4.3
4.9
6.7
8.6
8.4
7.8
8.2
9.3
11.7
13.1
12.2
11.5
11.6
12.1
11.8
10.4
8.4
$845.5
847.2
846.5
847.6
847.7
848.9
850.9
852.8
854.2
856.3
858.6
861.9
865.3
867.5
868.6
868.0
867.6
867.9
870.7
873.8
878.2
881.7
882.3
882.4
883.2
884.5
887.4
888.9
888.8
888.8
889.1
890.5
891.0
890.3
888.7
0.0519
0.0517
0.0520
0.0520
0.0518
0.0519
0.0516
0.0515
0.0515
0.0514
0.0512
0.0511
0.0511
0.0512
0.0513
0.0516
0.0518
0.0517
0.0517
0.0513
0.0510
0.0509
0.0508
0.0509
0.0509
0.0507
0.0508
0.0506
0.0507
0.0507
0.0505
0.0505
0.0503
0.0505
0.0504
0.3557
0.3560
0.3563
0.3563
0.3569
0.3571
0.3566
0.3569
0.3577
0.3578
0.3579
0.3580
0.3574
0.3579
0.3584
0.3587
0.3600
0.3611
0.3623
0.3638
0.3647
0.3657
0.3666
0.3674
0.3677
0.3685
0.3690
0.3702
0.3715
0.3736
0.3764
0.3778
0.3788
0.3792
0.3803
2.2167
2.2187
2.2235
2.2262
2.2310
2.2327
2.2298
2.2305
2.2358
2.2352
2.2355
2.2349
2.2293
2.2322
2.2335
2.2348
2.2446
2.2532
2.2664
2.2825
2.2929
2.3036
2.3094
2.3133
2.3144
2.3152
2.3161
2.3207
2.3276
2.3429
2.3625
2.3711
2.3780
2.3810
2.3871
0.0275
0.0289
0.0208
0.0183
0.0145
0.0136
0.0131
0.0140
0.0138
0.0135
0.0138
0.0183
0.0222
0.0268
0.0274
0.0222
0.0184
0.0139
0.0162
0.0187
0.0252
0.0323
0.0316
0.0296
0.0312
0.0352
0.0443
0.0497
0.0462
0.0439
0.0446
0.0464
0.0452
0.0401
0.0322
2.5869
2.5884
2.5837
2.5830
2.5836
2.5828
2.5892
2.5901
2.5861
2.5872
2.5892
2.5904
2.5936
2.5880
2.5838
2.5795
2.5709
2.5675
2.5614
2.5574
2.5565
2.5509
2.5480
2.5444
2.5419
2.5415
2.5361
2.5335
2.5282
2.5190
2.5100
2.5028
2.5022
2.4995
2.4978
(1)
Date
Four Weeks
Ended
Jul
Aug
Sep
Oct
Nov
Dec
Jan
Feb
5 '78
12
19
26
2
9
16
23
30
6
13
20
27
4
11
18
25
1
8
15
22
29
6
13
20
27
3 '79
10
17
24
31
7
14
21
28
Sources: Chase Econometric Associates Data Base; Morgan Stanley Research
(12)
Table 5
Federal Reserve Action and Monetary Growth
Compound annual rates of change to the average of the four weeks ended on the dates shown in the table from the four-week average ended four
weeks earlier.
Date
Four Weeks
Ended
Jul
Aug
Sep
Oct
Nov
Dec
Jan
Feb
Monetary Growth
(M-l)
5 '78
12
19
26
2
9
16
23
30
6
13
20
27
4
11
18
25
1
8
15
22
29
6
13
20
27
3 '79
10
17
24
31
7
14
21
28
7.36%
6.17
5.00
5.86
4.12
4.41
7.80
8.87
9.47
11.56
10.92
12.11
17.06
13.90
11.43
8.64
1.36
0.36
- 1.60
- 3.96
- 1.52
- 2.22
- 1.52
- 0.18
- 0.36
1.18
2.18
1.72
0.72
- 2.84
- 8.13
- 8.21
- 8.30
- 5.45
- 1.53
Federal Reserve
Actions
(less) (Monetary Base)
14.61%
11.88
11.05
10.77
5.86
7.37
4.85
5.09
8.11
9.11
10.92
11.94
12.70
13.46
14.49
14.72
13.62
11.25
10.20
7.42
5.93
6.41
5.43
6.64
7.37
6.14
8.58
7.58
8.06
9.05
5.13
7.54
4.88
4.64
4.88
Contribution
of the
(equals) Money Multiplier
-
7.25%
5.71
6.05
4.90
1.74
2.97
2.95
3.78
1.36
2.45
0.01
0.17
4.36
0.44
- 3.06
- 6.08
-12.26
-10.89
-11.80
-11.38
- 7.45
- 8.64
- 6.95
- 6.82
- 7.73
- 4.96
- 6.40
- 5.86
- 7.34
-11.89
-13.26
-15.76
-13.18
-10.09
- 6.40
Sources: Chase Econometric Associates Data Base; Morgan Stanley Research
This is accounted for by changes in the:
Adjusted
Time
Treasury
Reserve Ratio Currency Ratio Deposit Ratio Deposit Ratio
-4.78%
-2.12
-3.27
-3.38
0.40
-1.37
3.26
4.70
3.11
3.91
0.32
2.40
4.00
2.00
-0.66
-4.28
-6.30
-4.74
-2.83
2.19
7.68
8.02
7.93
4.20
0.32
1.16
-0.18
2.05
2.03
0.39
3.00
0.77
3.24
1.94
0.75
-
0.18%
0.86
1.52
0.80
2.00
1.83
0.50
0.93
1.21
1.13
0.22
1.36
0.63
- 0.21
- 0.74
- 1.25
- 4.37
- 5.08
- 6.15
- 7.88
- 7.64
- 7.40
- 6.99
- 5.55
- 4.54
- 4.25
- 3.70
- 4.37
- 5.72
- 7.68
-10.58
-10.82
-10.50
- 7.89
- 5.70
-0.45%
-0.71
-1.35
-1.45
-1.96
-1.92
-0.84
-0.56
-0.64
-0.34
-0.08
-0.44
0.93
0.41
0.29
0.01
-2.12
-2.85
-4.35
-6.17
-6.55
-6.75
-5.78
-4.02
-2.75
-1.50
-0.88
-0.96
-1.71
-3.49
-5.64
-6.11
-6.05
-4.61
-3.01
-1.84%
-2.03
0.09
0.73
1.82
2.15
1.02
0.57
0.10
0.01
-0.01
-0.43
-1.19
-1.75
-1.95
-0.57
0.52
1.78
1.52
0.47
-0.94
-2.50
-2.10
-1.44
-0.77
-0.37
-1.65
-2.58
-1.95
-1.11
-0.04
0.40
0.12
0.48
1.56
-12-
hence, the movements of the overall economy. In particular, there is concern about
the quantitative impact of the structural changes in the banking system that were
introduced on November 1 and the reported rate of change, for example, in M-l. In
Figures 3, 4, 5, 6, and 7 on pages 7, 8, and 9 and Tables 4 and 5 on pages 10 and 11,
we attempt to answer this question.
The figures show clearly that the money multiplier (the ratio of M-l to the monetary
base) dropped decisively below its trendline for this business cycle last fall. This
slippage was the result (1) of a significant increase in the public's holdings of
currency relative to demand deposits, (2) an even sharper rise in time deposits relative to demand deopsits, and (3) a spectacular jump in the Treasury1s cash balances
in private commercial banks. These moves were only partially offset by a continuing,
long-term drop in the level of effective reserve requirements in the banking system,
reflecting the growth of time deposits relative to demand deposits.
In quantitative terms the largest contribution to the reported slowdown in the reported
rate of growth of M-l came from the Federal Reserve policy actions in reducing the
rate of growth of the monetary base. Of the four other factors -- the currency ratio,
the time deposit ratio, the Treasury deposit ratio, and reserve ratio — by far the
dominant influence was the increase in holdings of currency. This reflects the fact
that currency growth has held steady at a high level, while the growth of demand deposits and most time deposits has slowed down in response to the sharp tightening of
monetary policy by the Federal Reserve.
The interest rates regularly monitored by the Federal Reserve were as follows:
Rate
Daily Average Week Ended
February 28
March 7
Change in
Basis Points
10.06%
10.07%
+
1
90-Day Treasury Bills
9.45
9.41
-
4
90- to 119-Day Commercial Paper
9.96
9.96
—
90-Day CDs (Secondary Market)
10.26
10.14
- 12
90-Day Eurodollars
10.84
10.61
- 23
20-Year Governments
9.12
9.10
- 2
Federal Funds
H. Erich Heinemann
(212) 974-4410
March 9, 1979
— "I —
STATISTICAL APPENDIX - CAPITAL MARKET ACTIVITY
Table 1
Bond Market Volume 1971-1979*
Publicly Offered Nonconvertible Oebt
($ Mil l i o n s )
:L971
]L972
1973
1974
1975
:L976
:L977
1L978
1979
$ 1,960
$ 2,483
$ 1,130
$ 2,521
$ 2,964
$ 1,370
2,071
2,300
2,323
3^267
1,371
2,652
1,212
2 A 740
$1,891
1,862
JU891
602
1^662
$ 3,680
3,759
_3^684
$ 2,670
1,846
$ 7,999
$ 6,220
$ 3,394
$ 6,892
$11,123
$ 8,260
$ 6,987
$ 5,322
April
May
June
$ 1,797
$ 1,876
$ 1,558
$ 2,149
$ 2,263
$ 2,591
1,563
1,316
910
1,502
2,288
1,917
$ 2,866
3,844
4,150
$ 2,713
1,968
1,814
2,425
3,610
1,496
2,890
2,328
1,867
Total 2nd Quarter
$ 5,579
$ 4,755
$ 3,970
$ 6,354
$10,860
$ 8,748
$ 6,649
$ 6,786
July
August
September
$ 1,547
$ 1,759
$ 1,200
$ 2,065
$ 3,053
$ 2,067
1,420
1,296
937
671
2,018
1,025
$ 3,112
1,287
1,569
$ 1,681
1,458
2,154
1,746
2,264
1,825
2,104
1,471
1,574
Total 3rd Quarter
$ 5,159
$ 4,475
$ 2,808
$ 5,108
$ 5,968
$ 5,691
$ 6,982
$ 5,112
October
November
December
$ 1,980
$ 1,940
$ 1,699
$ 3,565
JLJ90
1,935
2,118
3,111
2,376
2,478
1,712
$ 2,363
1,951
$ 2,345
2,292
$ 2,857
1,882
_11423
Total 4th Quarter
$ 5,285
$ 5,281
$ 5,752
Total
$24,022
$20,731
$15,924
January
February
March
Total
1st Quarter
2,115
jy>24
j
1,712
1,094
SJSk
_2,53J
2,423
2,687
$ 9,377
$ 7,174
$ 7,967
$
6,566
$ 5,169
$27,731
$35,125
$30,666
$27,184
$22,389
^Excludes Federal, s t a t e , and local i s s u e s as well as tax-exempt pollution control financings; includes
limited rlumber of underwritten o f f e r s by Federal aqencies
Source: Morgan Stanley & Co. Incorporated
a
-11-
Table 2
Public Bond Sales;; 1977, 1978 , and 1979
By Type of Issuer
{$ Millions)
1977
January
February
March
Total 1st Quarter
Banks
& Fin.
For. &
Provinc.
IndusTrials
S
800
265
475
$
300
433
125
S
S 1,540
$
858
$ 1,660
22.0%
Percent
April
May
June
$
Total 2nd Quarter
$ 2,226
Percent
750
561
915
12.3%
260
800
$ 1,060
33.5%
Trans-
S
50
280
755
S
$ 1,085
S
$
15.9%
Utility
15.5%
23.8%
$
$
825
200
635
Telejahone
580
150
5
S
735
$
$
780
$
11.7%
11.1%
Total
379
46
142
S
610
87
420
s
60
100
$ 2,,964
1, 371
2, ,652
567
S 1,117
$
160
S 6, 987
2.3%
16.0%
8.1%
275
135
370
Mi sc.
IOC).0%
98
40
118
$
560
250
682
$
100
$ 2,,263
1,,496
2, ,890
256
$ 1,492
$
100
$ 6,,649
1.5%
22.4%
3.9%
10().0%
July
August
September
$ 1,180
682
375
$
185
150
475
$
860
400
141
$
42
45
315
$
331
208
190
$
395
340
563
$
60
45
$ 3,,053
1,,825
2, ,104
Total 3rd Quarter
$ 2,237
$
810
$ 1,401
s
402
$
729
$ 1,298
$
105
$ 6,,982
32.0%
Percent
October
November
December
$
Total 4th Quarter
$ 1,898
Percent
Total 1977
Total 1st Quarter
11.6%
20.1%
300
425
300
$
S 1,025
$
$
$
282
35
967
$
317
28.9%
15.6%
14.7%
$ 3,753
$ 4,763
29.1%
13.8%
17.5%
$
150
650
675
$
500
$ 1,475
$ 1,450
27.7%
27.2%
Percent
$
75
337
200
$
612
$
11.5%
s
$ 1,126
$
16.7%
$ 1,952
28.8%
$
350
25
$ 2,,376
2, ,478
1,,712
$
333
$ 1,615
$
375
$ 6,,566
300
575
35
$
$
$
322
$
6.1%
$
$
4.2%
518
$ 1,370
s
20.2%
258
353
569
$
360
450
185
$
39
18
55
Total 3rd Quarter
$
970
$
550
$ 1,180
$
995
$
112
October
November
December
$
Total 4th Quarter
$ 1,213
Total Year-to-Date
Percent
$
$ 1,000
s
$
939
$
$
825
$
19.3%
18.2%
16.0%
$ 3,857
$ 2,680
25.1%
20.0%
17.2%
12.0%
$
$
500
225
s
575
610
s
725
$ 1,185
$
19.3%
31.6%
325
58
s
383
s
10.2%
$27, ,184
10C).0%
20
$ 1.,370
1.,212
2, ,740
20
$ 5,,322
0.4%
100.0%
15
50
$ 2,,591
2, ,328
1,,867
65
S 6 ,786
100.0%
525
375
405
—
$ 2 ,067
1,,471
1 ,574
$ 1,305
—
$ 5 ,112
25.5%
—
$
42
15
775
120
120
s
57
$ 1,015
$
$
1.1%
$ 1,009
IOC).0%
740
1.0%
2.2%
275
400
150
$ 4,470
Source: Morgan Stanley & Co. Incorporated
180
400
359
23.5%
Percent
1979
January
February
750
250
$
$ 5,610
Percent
Total 1978
363
500
350
S
7.6%
$
19.5%
868
16.3%
$
100
125
325
23.1%
S
330
500
540
$
10.8%
315
165
388
$
785
150
35
5.7%
2.7%
174
196
148
$
19.0%
$
20.5%
30
60
232
July
August
September
Percent
25.2%
$ 5,558
6.9%
250
285
18.6%
5.1%
$ 1,885
10.8%
21.7%
Total 2nd Quarter
550
650
270
815
496
340
275
$ 1,470
$
IOC).0%
$
9.5%
$
S 1,071
530
351
1.5%
48
124
161
4.8%
s 2,584
431
437
258
April
May
June
Percent
$
950
10.4%
$
5.8%
170
636
161
$ 7,901
Percent
1978
January
February
March
693
515
690
19.6%
$ 4,558
4.5%
100
120
$ 5 ,169
2.3%
$
20.3%
100.0%
$ 2 ,363
1 ,712
1 T094
20
100.0%
205
$22 ,389
0.9%
100.0%
150
550
$
21
44
$
220
375
s
100
$ 1 ,891
1 ,862
700
$
65
$
595
s
100
$ 3 ,753
18.7%
17.3%
15.9%
2.7%
100.0%
-Ill-
Table 3
Public EJond Sales; 1977, 1978 , and 1979
By Rating of Issuer
(S Millions)
Moody's Rating
Aa
A
Aaa
1977
January
February
March
Total 1st Quarter
S 1,709
713
1,181
$
s 3,603
S
Percent
51.6%
655
173
83
S
475
300
912
S
911
s 1,687
S
13.0%
S
425
$
6.1%
278
230
255
S
140
280
182
$
$ 2,930
$ 1,486
$
763
5
602
$
44.1%
22.3%
Total 2nd Quarter
Percent
1,175
505
1,250
$
July
August
September
$ 1,550
S
250
917
629
371
481
Total 3rd Quarter
$ 2,717
$ 1,481
Percent
38.9%
October
November
December
$
Total 4th Quarter
s 2,216
Percent
800
1,097
319
11.5%
$
283
593
660
$ 1,536
s
1,846
27.2%
July
August
September
$
Total 3rd Quarter
$ 1,528
29.9%
Percent
October
November
December
s
Total 4th Quarter
460
693
375
100.0%
S 6,982
16.5%
s
4.3%
19.1%
100.0%
405
509
275
$
400
26
165
$
488
253
293
S 2,376
2,478
1,712
$ 1,189
$
591
$ 1,034
S 6,566
9.0%
I J,918
15.7%
100.0%
$_l_rj>93
$27*184
13.2%
100.0%
7.1%
620
566
203
$
200
140
702
$
225
150
288
$
25
37
248
S 1,370
1,212
2,740
$ 1,389
s
1,042
$
663
s
310
S 5,322
$
36.0%
Percent
$ 6,649
S 1,330
17.6%
Total 2nd Quarter
868
13.0%
300
19.9%
745
675
426
$ 2,263
1,496
2,890
S
42.2%
S
124
271
473
$ 1,154
18.1%
Percent
100.0%
$ 3,053
1,825
2,104
-4*793
April
May
June
$ 6,987
424
494
412
23.4%
$ 1,918
361
5.2%
$
$_ 5,414
300
319
1,299
$ 2,964
1,371
2,652
50
190
60
33.8%
$
135
226
$
21.2%
$
9.1%
Total
400
520
234
$11,466
Percent
Total 1st Quarter
125
50
250
s
s
1978
January
February
March
24.1%
Unrated
Lower
01*
546
210
730
April
May
June
Total 1977
Baa
26.1%
19.6%
$
12.5%
470
407
495
$
$ 1,820
s 1,372
S
26.8%
20.2%
$
597
671
552
100.0%
754
355
304
$ 2,591
2,328
1,867
s 1,413
$ 6,786
s
335
4.9%
20.8%
585
175
419
s
200
$
$ 1,509
$ 1,179
$
200
$
29.5%
23.1%
$
664
400
445
$
5.8%
25
220
90
3.9%
100.0%
158
203
335
S 2,067
1,471
1,574
696
$ 5,112
13.6%
100.0%
375
692
210
$
225
230
285
$
235
100
75
$
253
40
124
$ 2,363
1,712
1,094
s 2,325
s 1,277
$
740
$
410
s
417
S 5,169
45.0%
24.7%
14.3%
s 7,617
$ 5,995
$ 4,333
Percent
34.0%
26.8%
19.4%
1979
January
February
$ 1,071
Percent
Total 1978
Total Year-to-Oate
Percent
1,275
650
400
$
$
1,059
s 2,130
56.8%
$
530
170
$
700
s
18.7%
Source: Morgan Stanley & Co. Incorporated
7.9%
$ 1,608
$
600
s
12.7%
100.0%
140
100
$
240
s
6.4%
100.0%
522,389
7.2%
125
475
16.0%
8.1%
s 2,836
25
58
S 1,891
1,862
83
$ 3,753
2.2%
100.0%
-TV-
Table 4
Public Bond Sales; 1977, 1978,
By Maturity
($ Millions)
Over Ten Years
Total
625
478
225
$ 2,339
893
2,427
$ 2,964
1,371
2,652
$ 1,328
S 5,659
$ 6,987
19.0%
81.0%
100.0%
Five to Ten Years
1977
January
February
March
Total 1st Quarter
anci 1979
$
Percent
April
May
June
$
575
360
890
$ 1,688
1,136
2,000
$ 2,263
1,496
2,890
Total 2nd Quarter
$ 1,825
$ 4,824
$ 6,649
72.6%
100.0%
July
August
September
$
925
150
300
$ 2,128
1,675
1,804
$ 3,053
1,825
2,104
Total 3rd Quarter
$ 1,375
$ 5,607
$ 6,982
19.7%
80.3%
100.0%
368
515
50
$ 2,008
1,963
1,662
$ 2,376
2,478
1,712
933
s
S 6,566
27.4%
Percent
Percent
October
November
December
$
Total 4th Quarter
$
5,633
14.2%
85.8%
100.0%
$ 5,461
$21,723
$27,184
20.1%
79.9%
100.0%
175
350
900
$ 1,195
862
1,840
$ 1,370
1,212
2,740
$ 1,425
$ 3,897
$ 5,322
26.8%
73.2%
100.0%
April
May
June
$ 1,070
450
487
$ 1,521
1,878
1,380
$ 2,591
2,328
1,867
Total 2nd Quarter
$ 2,007
$ 4,779
$ 6,786
Percent
Total 1977
Percent
1978
January
February
March
Total 1st Quarter
$
Percent
70.4%
100.0%
July
August
September
$
560
175
406
$ 1,507
1,296
1,168
$ 2,067
1,471
1,574
Total 3rd Quarter
$ 1,141
$ 3,971
$ 5,112
22.3%
77.7%
100.0%
29.6%
Percent
Percent
October
November
December
$
550
450
475
$ 1,813
1,262
619
$ 2,363
1,712
1,094
Total 4th Quarter
$ 1,475
S 3,694
$ 5,169
Percent
Total 1978
28.5%
71.5%
100.0%
$ 6,048
$16,341
$22,389
27.0%
73.0%
100.0%
Percent
1979
January
February
Total Year-to-Date
Percent
$
480
300
$ 1,411
1,562
$ 1,891
1,862
$
780
$ 2,973
$ 3,753
79.2%
100.0%
20.8%
Source: Morgan Stanley & Co. Incorporated
-V-
Table 5
Publicly Offered Convertible; Debt
1977, 1978, and 1979
($ Millions)
Banks
& Ins.
Industrials
Transportation
Total
Misc.
1977
Total 1st Quarter
April
May
June
$
56
Total 2nd Quarter
$
56
$
--
July
August
September
$
Total 3rd Quarter
$
Percent
$
21
258
20
—
—
299
—
—
85.7%
—
—
14.3%
—
—
15
11
$
4
Total 4th Quarter
$
26
S
4
86.7%
$
Percent
381
$
78.6%
0.8%
Total 2nd Quarter
..
12
50
$
50
—
21
258
70
$
349
100.0%
$
19
11
$
30
100.0%
$
50
$
10.3%
50
$
485
100.0%
10.3%
..
__
$
—
$
12
—
$
$
Percent
70
82
50
$
50
37.9%
62.1%
July
August
September
$
85
Total 3rd Quarter
$
85
—
1L00.0%
—
120
—
—
—
—
—
—
$
132
100.0%
—
Percent
October
November
December
$
Total 4th Quarter
$
Percent
Total 197?
$
106
$
—
4
50
100.0%
—
13.3%
1978
Total 1st Quarter
April
May
June
$
50
47.2%
$
Total 197:7
$
56
—
October
November
December
Percent
—
...
52.8%
Percent
50
$
4
—
$
10
118
$
4
—
$
10
285
Percent
81.7%
1979
January
February
—
3.0%
$
85
$
85
100.0%
—
100
12
6
89.4%
$
—
—
$
54
—
—
100
26
6
$
132
7.6%
$
10
15.5%
—
2.9%
—
—
—
Source: Morgan Stanley & Co. Incorporated
$
100.0%
$
349
100.0%
—
-VITable 6
Underwritten i Public Common Stock Sales; 1977, 1978,
By Type of Issuer and Issue
($ Millions)
IndusTrials
Banks
& Fin.
1977
January
February
March
Total 1st Quarter
S
36
5
$
41
$
Percent
$
Total 2nd Quarter
$
Percent
114
3
103
$
220
$
July
August
September
$
Total 3rd Quarter
S
$
Percent
105
216
321
$
—
Percent
$
Percent
Total 1st Quarter
$
582
432
$
$
1.2%
$
$
Total 2nd Quarter
$
213
$
16.8%
July
August
September
$
718
718
$ 1,329
Total 3rd Quarter
$
Percent
$
910
133
$
8.4%
October
November
December
$
Total 4th Quarter
s
19
$
Percent
$
Percent
24
$
$
5
$
31
$
2.0%
-
237
—
384
$ 1,032
6.9%
18.6%
$
$
714
$
36
289
389
646
15
$ 1,324
1. 2%
100.0%
-
370
907
716
160
--
$ 1,993
8.0%
--
100.0%
38
46
-
S
s
4
$
144
—
$
—
$
$
-
769
354
258
228
2
2
$
$
0. 2%
840
100.0%
--
$
37
--
$ 2,149
1.6%
--
100.0%
22
6
9
592
71
$
72
$
$
$
259
1,468
422
17
$ 6,306
0. 3%
100.0%
$
3
$
$
3
$ 1,134
423
147
564
$
—
$
3
$
0.2%
22
$
104
$
$
—
$
266
167
12
10
$
189
S
$ 1,267
100.0%
-
414
515
652
-
$ 1,581
--
100.0%
$
$
13
10
$
23
S
2.4%
8
138
500
629
$
11.4%
S
$
0. 6%
52
144
70
631
8
-
12.0%
0.4%
-
$
16.8%
3
100.0%
0. 3%
39
6
59
8.2%
$
335
434
81.5%
84
$
1.5%
588
61.9%
42
102
19
~
$ 3,439
S
89
9
62
6.3%
19
28
217
343
$
$
Source: Morgan Stanley & Co. Incorporated
$
9.4%
—
60
420
234
71.1%
4
15.3%
96
7
9
-
1
—
$ 1,120
$
0.4%
349
147
521
$
0.6%
$
0.0%
583
394
143
-
2
$
37.2%
$
$
-
56.4%
24
7
177
3
57
15.0%
$
0.4%
$
—
$ 1,017
5
563
$
-
89.7%
$
$
1.5%
$
10.0%
-
59.1%
$
35.6%
5
$ 3,726
-
268
139
156
$
61.9%
—
16.1%
42
8
83
$
$
287
206
736
387
12
34
158
204
2
—
34.2%
14.4%
2.5%
$
2
0.1%
228
59
10
9
77
7.2%
$
56.9%
33.4%
7.6%
28
Percent
$ 1,134
$
S
28
$
-
45
-
65
$
—
$
—
$
$
976
$
Total
Misc
$
31
8
26
14
—
74
868
192
$
146
14
257
182
537
45
-
Secondary
Offers
Trans.
73.7%
2.3%
88
48
10
$
$
$
$
$
40
173
Percent
147
11.1%
93
27
312
477
147
__
$
Total Year-to-Date
$
9.2%
Percent
1979
January
February
$
3.0%
April
May
June
Total 1978
49
17.4%
October
November
December
1978
January
February
March
$
38.2%
Total 4th Quarter
$
21.7%
11.0%
Utility
$
13
15
21
3.7%
3.1%
April
May
June
Total 1977
$
Telejhone
and 1979
2
946
414
215
2
$ 1,575
0. 1%
100.0%
13
$ 5,557
0. 2%
100.0%
4
S
398
546
4
$
944
0. 4%
100.0%
-vnTable 7
Pub 1 i c Preferred Stock Sales; 1977, 1978, and 1979
By Type of Issuer
(;$
Utility
1977
January
February
March
Total 1st Quarter
95
42
S
407
$
Total 2nd Quarter
$
Percent
$
Total 3rd Quarter
$
Percent
$
Total 4th Quarter
s
Percent
$
253
49.8%
22
50
264
s
336
$
100*
145
170
50
99
$
100*
37
319
$
137
110
177
105
$
392
s
797
Percent
$
Total 4th Quarter
s
Percent
16*
$
$
16
679
100.0%
65
218
225
2*
25*
27
$
508
100.0%
$
138
150
309
100*
100
$
168
$
$
60.8%
58*
75
$
228
225
136
—
s
133
$
589
$
16
$
22.6%
100.0%
270
S 2,373
11.4%
100.0%
—
--
435
—
116
127
102
$
345
100.0%
$
—
S
185
222
487
67
$
894
7.5%
$
12*
20*
100.0%
$
52
111
98
$
—
35.6%
--
$
-
$
35
—
s
16.4%
--
563
--
32
$
$
10
S
109
$ 1,713
100.0%
--
--
$
347
—
—
213
100.0%
-
-
37
176
4.7%
6.4%
121
226
261
100.0%
10
32.9%
$
$
12.3%
7
28*
Source: Morgan Stanley & Co. Incorporated
$
10
57*
93
•Includes convertible preferred stock
597
100.0%
s
--
100.0%
$
16.8%
—
75
35
325*
40*
$
2.7%
--
$
78.9%
Percent
10
53*
20
148<Ir
$ 1,041
$
10
5.3%
-
$
52.1%
October
November
December
s
0.7%
91
45
136
—
33.5%
48.7%
43.8%
s
S
$
23.2%
s
100.0%
Total 3rd Quarter
-
-
24.2%
—
$
95
117
467
45*
345
July
August
September
Percent
228
$
$
S
1.5%
--
53
200
--
Percent
S
Total
$
$
116
127
102
Total 2nd Quarter
Ins. £
Banks
S
38.6%
$
$
Total Year-to-Date
—
54.4%
Percent
1979
January
February
262
54.2%
April
May
June
Total 1978
S
65
163
s 1,290
Percent
1st Quarter
—
56.3%
October
November
December
Total
75
187*
44.9%
July
August
September
Telephone
$
59.9%
April
May
June
1978
January
February
March
Trans. &
Industrials
270
$
Percent
Total 1977
Millions)
$
121
226
$
347
100.0%
-vmTable 8
Private Placements by Type of Issuer*; 1977 , 1978, and 1979
(S Millions)
Banks
1977
January
February
March
Total 1st Quarter
Foreign
Industrial Tele phone
Transportation
S
51
147
101
S
363
160
161
S 1,174
476
657
s
1
9
17
$
63
$
299
$
684
$ 2,307
S
27
S
63
19.7%
8.6%
Percent
S
57
26
15
$
98
Mi sc.
—
--
2.8%
1.8%
0.8%
66.3%
Utility
Total
$ 1,646
818
1,014
$ 3,478
100.0%
April
May
June
$
43
210
299
$
45
248
$
961
703
657
$
28
21
89
$
147
64
34
s
392
40
112
S 1,616
1,286
1,191
Total 2nd Quarter
$
552
$
293
$ 2,321
$
138
$
245
$
544
$ 4,093
7.1%
13.5%
Percent
56.7%
$
97
10
27
s
70
150
246
$
889
722
295
$
203
Total 3rd Quarter
s
134
s
466
S 1,906
$
278
15.1%
61.6%
s
213
124
341
$
146
375
67
$ 1,039
1,591
1,512
$
100
Total 4th Quarter
s
678
$
588
S 4,142
S
100
4.3%
Percent
Total 1977
10.3%
8.9%
62.6%
s 1,663
$ 2,031
$10,676
9.6%
11.8%
61.8%
Percent
1978
January
February
March
Total 1st Quarter
$
s
Percent
42
153
101
296
10.8%
April
May
June
s
Total 2nd Quarter
$
Percent
36
175
109
$
319
$
7.0%
70
$ 1,853
$
2.6%
67.9%
$
513
840
333
s
$
36.8%
75
$ 1,482
969
645
$
126
$
111
$
75
5 3,096
543
13.3%
376
18
71
S
238
68
295
s
465
s
601
$
10
25
$
35
$
7.0%
9.1%
899
$ 1,354
5.2%
7.8%
17
35
228
$
280
$
10.3%
18
150
100
$
268
s
5.9%
2.4%
100.0%
S
40
$ 2,012
2,176
2,426
s
40
$ 6,614
3.6%
4.0%
$
1.3%
120
30
60
$ 1,686
$
3.1%
$
210
111
1.5%
$
657
402
794
4.6%
$
9.0%
70
$
$
$
100.0%
37
87
2
6.0%
75
October
November
December
Percent
--
$
3.4%
July
August
September
$
35
50
94
s
179
$
0.6%
100.0%
115
$17,281
0.7%
100.0%
10
6
$
761
675
1,293
16
$ 2,729
6.6%
0.6%
100.0%
38
121
258
$
177
569
935
—
S
417
$ 1,681
—
$ 4,581
9.1%
36.7%
--
100.0%
901
1,885
1,795
July
August
September
$
92
108
120
$
255
125
60
$ 1,320
544
417
$
15
19
$
44
38
172
$
69
344
36
s
115
$ 1,910
1,178
805
Total 3rd Quarter
$
320
s
440
$ 2,281
$
34
s
254
$
449
$
115
$ 3,893
Percent
8.2%
October
November
December
$
Total 4th Quarter
$
Percent
Total 1978
Total Year-to-Date
Percent
$
284
$
8.2%
$ 1,219
Percent
1979
January (Revised)
February
11.3%
99
32
153
$
8.3%
$
$
27
35
86
148
58.6%
0.9%
534
209
961
$
S 1,704
$
S
4.3%
49.4%
868
S 7,524
5.9%
51.4%
30
3.0%
100.0%
s
6.5%
147
6
143
$
286
65
388
--
$ 1,123
347
1,976
s
296
s
739
—
$ 3,446
245
$
275
11.5%
8.0%
8.6%
21.4%
612
s 1,247
$ 3,048
4.2%
8.5%
20.8%
—
$
100.0%
131
$14,649
0.9%
100.0%
78
69
$
180
4
S
758
497
s
5
2
$
86
75
$
95
142
--
$ 1,202
789
147
$
184
S 1,255
s
7
s
161
$
237
—
$ 1,991
9.2%
63.0%
7.4%
0.4%
8.1%
11.9%
*Data prior to 1979 includes publicly announced private placements done on an agency basis only.
Source: Morgan Stanley & Co. Incorporated
100.0%
The Exchange Rate and Inflation
by Wilson E. Schmidt
Recently,in an unpublished paper, Peter Hooper and Barbara Lowery
of the Fed staff reviewed the main papers on the question of the relationship between the foreign exchange value of the dollar and the price level.
Hooper and Lowery standardized the results of all of the papers to the
Fedfs multilaterally weighted index of the exchange rate covering ten
countries. We do about half of our trade with those countries and they account
for about two-thirds of world trade. They drew a consensus from the
papers that a 10% depreciation in the real effective rate, which is the
average change in the rate adjusted for changes in consumer prices here
and abroad, leads to a 1.5% to 1,75% increase in the U.S. consumer price
index within 2-3 years with about half of the impact coming in the first
year.
The real effective exchange rate fell from an index of 95.4 at the
end of 1976 to 88.5 at the end of 1977 and to 81.9 at the end of 1978.
A provisional estimate for February 1979 is 81.8. Hence, according to
the Hooper-Lowery rule of thumb, the 14.5% slide in the dollar from the
end of 1976 contributed about 1.1 to 1.3 percentage points to the annual
rate of inflation. Hence, something on the order of 1.25% percentage
points should be removed from recent inflation rates to calculate the underlying rate of inflation.
What about 1979? Which way will the real;effective rate go? Obviously
the question is extremely difficult to answer. Let us focus on events abroad,
excluding developments in the United States which is the concern of the
committee.
Weighting the money stock growth rates of the ten countries according
to the Fed's multilateral weights, we find that the stock of money grew
at the same rate in 1977 and 1978 in the ten countries. The weighted index
of CPIs grew at a point lower in 1977, namely 6.5%, than in 1978. This
suggests that if the monetary stance of the ten countries were to remain
unchanged there would be a further decline in inflation abroad. Last
November the OECD forecast a slight decline to 5.9%. On the other hand,
in seven countries for which I have reasonably recent data, industrial
production on a multilaterally weighted basis has been growing at a rate
of 8.2% for the last three available months compared with 6.6% for the
last 12 available months, suggesting a heating up and possibly greater
inflation. Current discussion leaves little doubt about higher inflation
rates in Gennany and the United Kingdom.
Looking at the forward premia and discounts of the dollar, the
foreign exchange market seems to be predicting a 3-4% fall in the effective
rate for the dollar. But at the end of last year, and the beginning of
this year, the foreign exchange market was very - probably too - pessimistic
about the dollar. Since the end of last year, the effective rate for the
dollar has risen about 1.5%. Furthermore, the forward discounts on the
dollar have, save for the guilder, been declining, indicating that
the market is revising its views. Furthermore, two recent forecasts by
commercial banks in the United States imply a rise in the rate of inflation,
using the multilateral weights, in the Big Six from 6.5% to 7.2% and 7.4%.
All things considered, chiefly because of the expansion of economic activity
abroad and the outlook for Germany and the U.K. price levels, I am inclined
to accept the view that, on a multilaterally weighted basis, inflation is
likely to increase abroad, which taken by itself is likely to strengthen
the dollar. Whether it will rise by more than the increase in the rate
of inflation abroad determines what happens to the real effective rate.
Here I am inclined to believe it'will rise by more than the rate of inflation
abroad because the market probably was too pessimistic about the dollar
and seems to be gradually revising its expectations. In short, the real
effective exchange rate is likely to move in a manner which will provide
a modest reduction in the measured rate of U.S. inflation. Obviously,
this outcome depends on events in the United States, which have not been
addressed here.
A Report on Fiscal Policy for the Shadow Open Market
Committee
Rudolph G. Penner
American Enterprise Institute
A.
The Presidents 1980 Budget
After adding substantially to outlays in the budgets of 1978 and
1979, the President has undertaken a dramatic shift of policy and
recommended 1980 outlays $12.5 billion below the level required to
provide for current entitlement programs and to maintain the real
value of other programs.
Total outlays rise 0.7 percent in real terms
between 1979 and 1980 entirely because of a real increase in defense
outlays.
Non-defense programs remain exactly constant in real terms
with automatic increases in entitlement programs under current law
being exactly offset by recommended real cuts in both entitlement and
non-entitlement programs.
The resultant deficit of $29 billion certainly does not imply an
economically conservative policy at this stage of the business cycle, .
but when a Democratic President suggests major outlay cuts from current
policy levels in the face of an Administration forecast of an unemployment rate rising above 6.0 percent, it qualifies as something of a
political, if not an economic, revolution.
Despite the conservative
rhetoric of the last election, a later section of this report will argue
that the swing toward spending constraint in the President's budget is
probably slightly more than the Congress will swallow.
The $29 billion
deficit estimate also rests heavily on relatively optimistic assumptions
regarding the future course of the economy and the spendout rate for
certain entitlement programs.
The following table summarizes the President's recommendations,
given his assumptions.
The table includes both budget and off-budget
credit activities of the government for 1979 and 1980.
Selected Budget and Off-Budget Aggregates, Fiscal 1979 and 1980
1979
Billions of
dollars
Budget Outlays
493.4
Budget Receipts
456.0
*
37.4
Budget Deficit
1980
% of GNP
Billions of
dollars
% of GNP
Off-budget Deficit
12.0
Federal debt held
by the public
650.9
28.4
689.9
27.5
20.8
0.9
25.5
1.0
213.9
9.3
239.4
9.6
Net change in
guarantees
Outstanding
guarantees
A further note on the 1979 budget - In one of those unfortunate accidents
that has
plagued the history of fiscal policy, the 1979 budget is
turning expansionary at a very bad time.
On an
NIA basis, OMB expects the deficit to rise from about $20 billion in the
fourth calendar quarter of 1978 to $30 billion in the first quarter of
1979.
The rise is the result of the tax cut effective January 1.
After falling slightly to $28 billion in the second quarter, it is
expected to again rise to $37 billion in the third quarter and to
finish the year at $39 billion, i.e., at approximately twice the
level attained a year earlier.
The spurt in the third quarter is in
large part due to cost-of-living increases for social security while
the continued high deficit in the fourth quarter appears to be the
result of an assumed slowdown in economic growth in the last half of
the year.
(The Administration does not publish forecasts on a
quarterly basis.)
Given the Presidents budget and economic assumptions, the NIA
deficit declines rapidly in 1980 reaching $17 billion in the third
quarter.
B.
Political Risks to 1980 Budget
Much has been written about the conservative mood of the public
and of the new Congress.
Obviously, something important is going on,
but there is little evidence that there will be massive budget cutting
over the next year.
It is, of course, as difficult to forecast the
actions of Congress as it is to forecast the Dow-Jones average, but it
is my guess that the Congress will be conservative in the sense that
many programs are allowed to be eroded by inflation and there will be
great reluctance to take on new programs or program reforms that add
significantly to outlays.
the courage
But, at the same time, there will not be
to adopt many of the President's explicit program cuts.
On balance I expect the Congressional and Presidential deficits to be
similar after adjustments for estimating differences.
The problem of cutting the spending side is well illustrated
by the reaction to the Administration's recommended cuts in social
security.
The President recommended ten marginal reforms which would
save $609 million 1980, but $2.9 billion by 1982. The most important
reforms are directed at areas where social security benefits overlap
with SSI, educational assistance, or civil service pensions.
It is
hard to argue that truly needy individuals would be significantly
harmed by the reforms except that they would have to make applications
for income-conditioned assistance.
In my view, all of the
recommendations are eminently rational and, at least, deserving of
serious debate.
The reforms were immediately opposed by a coalition of over one
hundred interest groups headed by Wilbur Cohen.
Hearings by the House
Select Committee on Aging will hear 9 or 10 opponents of the reforms,
but only the Administration was invited to testify on their behalf.
This is an extreme case illustrating the immense power of interest
groups, but variants of this story will be repeated again and again for
other programs as the year progresses.
However, it was previously noted
that some of the President's deficit increasing proposals will also face
severe difficulties.
The following table lists Presidential proposals on both sides of
the ledger that appear to be headed for trouble.
Because of the
difficulty of predicting the actions of Congress, I do not wish to claim
that the list is complete or that all proposals on the list will be
rejected, but it does illustrate the difficulties that the President will
face over the next year.
I should also note that some of the
proposals deserve all of the political difficulties that they will
encounter.
Politically difficult, deficit-reducing proposals
Hospital cost containment
$1.7 B.
Veteran's medical care
0.3
School lunches
0.4
Social security £ railroad retirement 0.7
Agricultural price supports
0.7
National forests
0.3
Impact aid
0.2
Total
$4.3 B.
Politically difficult, deficit-increasing proposals
Real wage insurance*
Targeted fiscal assistance
International aid
National Development Bank
$2.5 B.
0.2
0.3
0.2
Total
$3.2 B.
*This ill-conceived program refuses to die and Ways and Means may go
into markup.
C.
Economic and Other Estimating Risks
The Administration's budget estimates are based on a relatively
optimistic economic forecast.
On a fourth quarter over fourth quarter
basis, real GNP is expected to grow 2.2 percent during 1979 and 3.2
percent during 1980. The GNP deflator is expected to rise 7.4 percent
in 1979 and 6.4 percent in 1980.
the deficit will be increased.
If real growth is lower than forecast,
If inflation is higher, the positive
impact on receipts will be greater than the positive impact on indexed
outlay programs and the deficit will therefore be reduced.
Many forecasters foresee a recession toward the end of 1979.
For example, the Congressional Budget Office expects negative real
growth in the last two quarters of 1979 followed by a mild economic
recovery during 1980. Their fourth quarter over fourth quarter real
growth rate is about 1 percent for 1979 and 4 percent for 1980. They
also expect somewhat higher inflation rates than in the Administration
forecast with the GNP deflator rising 8 percent during 1979 and about
7 1/2 percent in 1980. On the receipts side of the budget, CBO's
lower growth rate and higher inflation rate offset each other, and
their receipts estimate, given Administration policy, is only slightly
lower then the Administration's.
CBOfs outlay estimate is, however,
considerably higher than the Administration's.
In addition to the
outlay impact of lower real growth and higher inflation, the CBO believes
that the Administration has converted the famous ffshortfall11 into a
"longfall" and that for a given set of economic assumptions, outlays
will be almost $4 billion higher thain predicted by the Administration.
CBO's adjustments, given Presidential policy, are as follows:
Administration receipts estimate
Differing economic assumptions
CBO receipts
$502.6
-3.2
499.4
Administration outlay estimate
Differing economic assumptions
Other estimating differences
CBO outlays
$531.6
+4.6
+3.8
540.0
CBO deficit
$ 40.6
The CBO also adjusts the Administration's 1979 deficit estimate,
but raises it only from $37.4 to $40.5 billion, assuming the policy
stance in the Second Budget Resolution.
The CBO does not make estimates for off-budget items but it
predicts lower interest rates than are predicted by the Administration.
One might expect this to lower off-budget financing, but the effect is
unlikely to be very large. Therefore, even if one accepts the CBO
economic scenario, I do not believe it necessary to alter the administration
estimate of off-budget activity (although that activity can be quite
volatile for reasons unrelated to changes in the economic aggregates.)
Combining off-budget estimates of $12 billion in both 1979 and 1980
with CBO on-budget deficits of $40.5 and $40.6 billion yields almost
identical total deficit figures of $52.5 billion in 1979 and $52.6
billion in 1980.
The Iranian Factor - Both the Administration and the CBO
completed their forecasts before the extent of the turmoil in Iran
was fully recognized.
The consequent impact on world oil supplies
will have a negative impact on both the U.S. economy and on the budget
deficit, butit is far too early to say how much of a negative impact.
The nature of the impact will depend on the extent to which Iranian
oil production is restored (if at all) by the end of 1979; on the supply
response of other producing countries; and on the U.S. policy response.
(Will the Fed. finance any !!price shockn?
response such as gas rationing?)
Will we use a non-market
The array of plausible scenarios is
enormous, but it is hard to imagine any that cause a recession as severe
as that of 1974-75.
8
However, a 15 percent world price increase above the levels
already-scheduled by OPEC is easy to imagine, and depending on a
multitude of other variables, that could be sufficient to extend a
two quarter recession into a three-quarter recession.
the U.S. nearly $7 billion over the following year.)
(It would cost
But the difference
between this scenario and the CBO scenario is likely to be very
much less than the difference between the CBO and administration
scenarios with respect to its impact on the 1980 budget. My guess
is that the impact on the deficit of a 15 percent world oil increase
is very likely to be less than $5 billion.
It must be emphasized that
I do not wish to imply that this is the most likely scenario. The
example is used only to outline the quantitative impact of one plausible
series of events.
The tax cut factor - All of the above assumes that policies are not
changed in response to a recession.
The Congress may be conservative
enough to avoid the spending binges provoked by the 1974-75 recession
and the Carter "stimulus" package of 1977, but there will be intense
pressures for a major tax cut. Those pressures result from a number of
different forces.
First, 1980 is an election year.
Second, there is
a growing consensus that there should be some relief from the burden
that inflation is imposing on the taxation of capital and it is hard
to give capital relief without providing cuts for individuals. Third,
growing money incomes and social security tax increases will push 1980
and 1981 total tax burdens to unprecedented peacetime levels. The
following table shows the ratio of total Federal receipts to GNP for
selected years. This is far from a perfect measure of tax burdens,
but it is all that is provided in the budget.
Ratio of Federal Receipts to GNP, Selected Years
Fiscal Year
Ratio in percent
1960
1965
1970
1975
1978
1979 estimate
1980 estimate
1981 estimate
18.6
17.8
20.2*
19.3
19.7
19.9
20.1
20.9
^Impacted by Vietnam surtax. The highest ratio since WWII, 20.8
percent, was reached in 1969.
The difference between 1978fs 19.7 percent and 1980fs 20.1 percent
may not seem like much, but at 1980 levels of GNP it amounts to a
$10 billion tax increase which grows to a $28 billion increase by
1981.
Consequently, some sort of major tax action seems likely before
the 1980 election.
It probably would not take effect until 1981, but
in the face of a recession it could possibly apply retroactively to
1980 even if it is not passed before the end of 1979. However, it need
not have a big impact on fiscal 1980 receipts.
Nevertheless something
of the order of $5 to $10 billion cannot be totally ruled out.
MICHIGAN STATE UNIVERSITY
DEPARTMENT OF HCONOV.iCS • MARSHALL HALL
EAST LANSING * MICHIGAN • 48824
April 16, 1979
TO:
Karl Brunner, Al Burger, Erich Heinemann, Allan Meltzer
FROM:
Bob Rasche and Jim Johannes
SUBJECT:
Money Multiplier Forecast Errors
We now have data for two months of our forecast period, and some indication of
how March will come in based on the weekly data. It appears that after our
adjustments for the ATS that our forecasts for the M multiplier are very
precise for the whole three month period. The observed forecast errors are in
the third digit to the right of the decimal.
The M ? multiplier forecasts, on the other hand, appear to have an almost constant
error of the magnitude of .045, something less than one percent. We have
investigated this error for January and February, and have discovered that it
t^. The sum of the forecasts for the two components is almost exactly equal
to the sum of the observed values (January: forecast = 2.3072, actual = 2.2941;
February: forecast = 2.4385, actual = 2.4328; all n.s.a.). Hence the common
denominator of the two multipliers is forecast almost perfectly, while the numerator
of the M^ multiplier is overestimated. We feel that there is reason to believe
that the errors may be in the reported figures. In all the ATS confusion, it is
easy to overlook the fact that the sample for the weekly reporting banks was
changed effective January 1, 1979. The large CD series represents large negotiable
CD's at the old sample of weekly reporting banks. Therefore the series has to be
continued on an estimated basis, since neither the old weekly reporting series nor
the new weekly reporting series are subsets of the other. If the splice has not
been made correctly, then the t ratio will be consistently overestimated by our
model, but the error in the sum of t- plus t should fluctuate around zero,
exactly as we have observed for three months. We are indebted to Carl Gambs of
the Kansas City Fed for calling this change to our attention. Just another
ingredient in an already messy situation.
Regardless, we feel that the forecasts have correctly laid out the recent trends
in the multipliers, and support the proposition that multipliers such as these,
regardless of the definition of monetary aggregate that is settled on, can be
forecast over some intermediate horizon with a great deal of precision. When the
March data are available, we hope to construct a new set of forecasts, based on
an updated sample, to determine if our current forecast for the remainder of the
year should be modified.
MEANS OF FINANCING OF U.S. BUDGET
DEFICIT 1976-78
(BILLIONS OF DOLLARS)
1976
1977
1978
Total Financing Required
(Unified Budget Plus Off-Budget Agencies)
59.138
61.431
48.242
I. Net Change in Privately Held Debt
49.569
(.84)
19.390
(.32)
20.530
(.43)
II. Change in Net Source Base
6.462
(.11)
11.396
(.19)
12.162
(.26)
III. Change in Foreign Transaction Accounts
7.023
(.12)
29.381
(.48)
24.710
(.51)
-3.916
(-.07)
1.264
(.02)
-9.760
(-.20)
IV. Other Sources—
—
Include Changes in Treasury Cash Balances (-) , Change in Federal Reserve Float(-),
Interest Accurals (+), Excess of Misc: F.R. Liability Accounts or Misc. Asset
Accounts (+), Change in Misc. Treasury Accounts (+), Change in Deposit Funds (+) .
—
Jan.-Nov.
@FedFRASER