View PDF

The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.

Notes in Preparation for a Meeting of the
Balance of Payments Committee
of the Business Council
September 19* 1963*

1* The baslo problem remains much as It has been, although the
published figures for the seoond quarter of 1963# shoving a
deficit at an annual rate of §5*2 billion gave the problem
an alarming and presumably exaggerated tinge*
2* Nevertheless it was the knowledge of this kind of o second
ouarter reoord, and of the step-up in U. 3. portfolio In*
vestment in foreign securities whloh was the Imitdkat® cause
of the worsenljjg figures, that triggered th# hasty proposal
of an "Interest equalization tax" to try to gheefc BUOh in­
vestment*
3* Whil© this tax 1§ in the no-man18 land between exeoutlve pro­
posal and Congressional action, this type of capital flow Is
in a state of suspended animation* I doubt If It Is possible
to produce figures which would accurately lndioate what Its
effect on the movement of portfolio capital* over time# f f y be If
ti
and when It Is In actual operation. Nor has three been time
and opportunity to see what Its ultimate effects mftftlibabQjAon
foreign confidence in o&r maintenance of freedom from' control
of other dollar movements. In principle* however, I tee no
reason to revise earlier views that the proposal of an interest
equalization tax was a mistaken departure from a gtntral polley
of non-interference with the International movtsmtrits ©f privatt
capital* The proposal attempts to zero in on on® Beotor Of a
market which is notably fluid In character, and whieh wllX find
ways to function, abetted by the variety of extractions from th®
tax which have been found necessary to make it tven partially
workable* In effect. It Is a proposal for a capital issues
experiment, the mechanics of which involve the arbitrary die*
tlnotlon between developed and less developed countries» the
difficult distinctions in equity between direct end portfolio
investment abroad, and the plAofeng of the power in the hands
of the President, by executive order, to i j f n exemptions In
ipct
the "interest of international monetary stability". (The Canada
escape hatch - and maybe others*) If our situation had reached
the point at which freedom of international access to our cap­
ital market had to be curtailed, It would be less confusing and
more directly effective to have a capital issues committee,4* I do not think we have reached that extremity. The relative
strength of our economy and Its ability to compete In the mar­
kets of the world is still unquestioned* We are a most solvent
nation. It is our liquidity position whloh has been Jeopardized
by a succession of years of large deficits In our balance of
payments and by the apparent check to Improvement in our posi­
tion during the past year* But we Btill have the resources to
protect our liquidity position, if we adopt a program of imp­
rovement in our balance of payments which carries within Itself
the seed of success* Our domestic reserves are still large, and
can be further enlarged If we find It neoeasary to reduoe our

- 2 -

gold reserve requirements. Our access to drawing righto ?nd
credits at the International Monetary Fund and our bl-lat©ral
currency arrangements with the principal countries of western
Europe are a substantial defense against sudden adverse devel­
opments. We still have time to finish putting together a pro«*
gram which will attack a basic weakness Instead of fluttering
around the edges of the problem*
5* Such a program, of course* Is the one we have been recommend**
ing, which transfers to fiscal policy (tax reduotlon) more of
the task of promoting economic growth at home and releaea
monetary policy to deal more actively with International capital
movements by way of Impersonal and pervasive changes in the
availability of credit and In Interest rate!*
6* It Is noteworthy,I think, what muffled emphasis has feten nlaaod
on tax reduction as an Important factor In Improving our bal&ne©
of payments# It has been mentioned, but fearfully
if It
would stir up too much opposition, from those wHo want e»eitr^
not tighter^ money and lower^ not higher#, interest rates# if
the connection were stressed* It would stir up opposition# Of
course, but we can’t lick this problem with gifts for everyone*
If the fiscal-monetary policy mix is to work, there has to be
room for a further Increase in short term fcatea, if necessary#
and for some increase in long term rates also# if necessary*
The dangers of this prescription for the domestic economy have
been over-stated, parWiiyularly as it relates to long tfffn rates*
An economy stimulated Dy the Increased demand and the inereaeed
retention of profits by the private sector# inheriflt in a re*
duction of individual and corporate income taxes, Qguli stand
an Increase in long term rates without faltering, n&rtiiuiirly
as lmportantllong term markets - mortgage, coneiym§f»
and
municipals - have their own forms of insulation .from iPdinary
market effects foi higher rates* C'? A**
rti'etk b.< < y T
m v4.
7* We 3hould again press for the combination of tax reduction snd
a less easy credit policy to be Justified, in an important way
oa a major means of Improving our balance of payments position*
And we shouldn't, at this stage, encumber our advocacy with
reservations demanding some specific reduction of estimated
federal expenditures in fiscal 1964, There is too much spending
already built in to fiscal '64 to (»njke this a practloal approaoh*
The time to curb federal expenditures will be in subsequent
fiscal years, to prevent their rising with the increase in gov­
ernment revenues which is the hope of tax reduction, ultimately*

The study of the balance of payments made by six economists
for the Brookings Institution, at the request of the President
through the Council of Eoonomic Advisers, does little to help
us in our present situation. The estimates of the balance of
payments In 1968, biased on a variety of assumptions (the quality
of which is admittedly speculative) showing a "basic balance"
somewhere between a surplus of $1*9 billion and a deficit of
&500 million, does little to meet the doubts of 1963# 1964 and

3

1965* And the counsel to avoid nre-occupatlon with the Immediate
discipline of the balance of payments, because It may interred
with more Important goals of national and International policy,
is positively misohievous* The integrity of the dollar and other
goals of national and International polloy are one and Indivis­
ible. Finally, the diversion of attention, In the policy raeom«*
mendatlons of the report, to the asserted need for tneasuroa to
improve International liquidity Is an excursion Into a realm
beloved of scholars and the British, who have been beating this
drum for years* To adopt the major policy recommendation of the
report that the U. 3. should Immediately b e < j l n to press for g i j *
Lll
agreement to strengthen Infc&matlonal liquidity, and that Its
major effort should be directed toward achieving an adequate
international liquidity mechanism, would be the equivalent of
saying the present mechanism has broken down, or is about to break
do«rn, which could not help but harm the position of the dollar
in terms of fears of ultimate devaluation*
’Further study” by the International Monetary Fund is
’
indicated here; not pressure by the U. S. to retrieve British
chestnuts.

The Freeman proposal of a tax incentive to promote ©*pert@f
wMSthh was distributed on July 29, 1963# seems to me to be wrong;
in principle and wrong In practice. In principle, it wouldi b© an
attempt to subsidise exports which Is the kind of export oompeil*
tlon between the leading industrial countries which has already
sone pretty far, and which we should be seeking to abate* not
promote* In practice,
Mr. Freeman describes It, a tax reduction
related to an increase in exports over some base period would
lead to a variety of inequities between competing firms whleh have
.
developed their export lines and those which have not#
companies which have made larje direct investments Abroad §n| thQig
which have not, and between large and small firms. And a te*
credit which would enable some firms to export at © "msdtsi profit
or eteen at cost" 'because an increase in exports would rtdus® the
tax on its income from domestic buBlnesfl, sounds like f poeket*
t
full of flfch hooks*
*««**#««*»# ***#


Federal Reserve Bank of St. Louis, One Federal Reserve Bank Plaza, St. Louis, MO 63102