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The Senate Concurrent Resolution on Monetary Policy

Testimony prepared for the Senate Committee
on Banking, Housing and Urban Affairs
February 25, 1975

Allan H. Meltzer
Maurice Falk Professor of Economics
and Social Science
Carnegie-Mellon University

The resolution under consideration is a forward and far-reaching
step that, if properly interpreted and applied,will contribute to increased
economic stability and lower inflation.

Monetary policy must make a greater

contribution to the maintenance of full employment and stable prices.


resolution expresses the intent of Congress to exercise"more fully than in
the past, the constitutional powers that Congress has delegated to the
Federal Reserve System.

Equally, the resolution replaces the vague and

archaic statement of purpose in the Federal Reserve Act with directions
that commit the Congress and the monetary policy of the country to the
goals of maximum employment and price stability.

These goals have been

neglected increasingly in recent years despite affirmations by Presidents,
many members of Congress, and the recent chairmen of the Board of Governors
of the

Federal Reserve System.

Affirmations of intention and broad statements of purpose are not

The Committee knows that we currently suffer from the largest

peacetime inflation and the most severe postwar recession.

Part of our

current problem is a result of actions taken by the cartel of oil
producing nations known as OPEC, but even if the cartel had not been
formed, or were at this instant dissolved, we would experience high
inflation and deep recession.

Most of the current inflation is a result

of the monetary and fiscal policies of the past decade; the severe current
recession is to a considerable extent a consequence of the sudden,sharp
reversal of monetary policy in the summer of 1974.

This reversal brought

the annual rate of monetary expansion from about 5.5% in the year ending

June 1974 to less than 1% for the most recent six months, and less than 4% in
the year ending January 1975.

During the past six months, the Federal Reserve

maintained a policy of nearly zero monetary growth.

That policy remains in

Continuation of the current policy increases the prospects that the

recession will be deeper, more severe and longer lasting than is now forseen.
Our present difficulties are not the result of malevolence in the
Federal Reserve System.

We do not suffer from high, continuing inflation

and deep, growing recession by design.

Our problems are, to a considerable

extent,the result of a systematic, misinterpretation of monetary policy
by the Federal Reserve that causes them to swing .from excessive expansion
to excessive contraction.
Statements of principal spokesmen for the Federal Reserve System, if
reported correctly, fail to recognize that current policy is inappropriate
under current conditions.

I interpret the rapid decline in market interest

rates on short-term securities as largely the result of a decline in the
demand for credit by businessmen and consumers.

The reduced demand for

credit is itself a result of the recession and the decline in production,
in desired inventory positions and in the financing of durable goods purchases
that are part of the road map recession follows as it moves through the
To describe the monetary system as liquid or to describe current
monetary policy as appropriate to current circumstances is to repeat one
of the principal errors that the Federal Reserve has made throughout
its history.

That error is the misinterpretation of interest rate changes.

A principal corollary is the failure to recognize that changes in interest
rates convey inaccurate information about the direction or thrust of current


monetary policy.

Interest rates and the growth rate of money typically

fall in recession and rise in expansion.

The recent decline in interest

rates is not the result of a more expansive monetary policy but is instead
a consequence of the severe recession.

Statements describing current

monetary policy as "easy" recall the similar statements in the minutes
of the Federal Reserve for the years 1930 to 1932.

Then, as now, the

Federal Reserve systematically misinterpreted its policy, failed to
control the growth rate of money,and permitted the recession to worsen.
There are many differences between the current situation and the
situation in the 1930's.
depression will recur.

There is as yet no reason to


a major

There is, however, an unfortunate parallel between

the excessively contractive monetary policies of the two periods and the
misinterpretation of those policies by spokesmen for the Federal Reserve
Three Benefits
There are three principal benefits to be expected if the resolution
is adopted.

First, the systematic misinterpretation of policy will end.

Congress and the public will receive information useful in formulating
their plans, information that cannot be obtained reliably in any other
way from any other source.

Second, the Federal Reserve will be required

to plan over a longer horizon.

The resolution directs the Federal Reserve

to focus its current attention on both inflation and unemployment and the
longer-term goals of stable prices and maximum employment.

Acceptance of

these goals means that monetary policy will be more stabilizing in
the future than in the past.

I believe the resolution should make clear,

however, that maximum employment means the amount of employment consistent
with stable prices.

Third, the resolution replaces the outmoded statement

of purpose in the Federal Reserve Act with a clear statement of Congressional
intent that is in accord with the role that monetary policy can be made
to take in the future.
By instructing the Federal Reserve to control the stock of money, the
Congress recognizes a point that is now well established by careful
research conducted both within and outside the Federal Reserve System.
There is much that is unknown, or in dispute, about the working of a
complex, modern, monetary economy.

There is, however, a substantial body of

research showing that sustained expansion of money produces inflation and
that intermittent, sporadic attempts to control inflation by sharp, sudden
reductions in the growth of money bring recession.
The members of this committee, and other


of the Congress,

have had difficulty obtaining clear statements of policy from spokesmen
for the Federal Reserve System.

The measures used to represent the posture

of current or past monetary policy differ from period to period and from
meeting to meeting.
It is an unfortunate fact, but nevertheless a fact, that the measures
used by Federal Reserve spokesmen are subject to shifts that are no less
erratic than the policies they purport to describe.

Interest rates, reserves,

money, credit and ever-chqnging combinations of financial assets and
liabilities are used by the Federal Reserve "to describe their actions.
To make matters worse, the rates of change of the various assets and
liabilities are stated in different ways at different times.



quarterly and annual growth rates are reported to Congress in so many
different ways that it is unlikely that the public, members of Congress
or other non-specialists are able to properly judge or interpret the
information they are given.
Part of the resolution before the Committee would be unnecessary if
the Federal Reserve had reported to the public and the Congress in a more
reliable and more consistent way.

I believe the resolution should be

amended to define money as currency and demand deposits of the public
and to specify the precise way in which the growth rate is to be measured.
The specific measures of money and of the growth- rate of money that are
chosen, -though important, are less important than the decision to choose
one of the widely used measures and to describe policy action in a
consistent way.
Recent actions by the central banks of the German Federal Republic
and the

Swiss Confederation make clear that central banks, concerned

about proper policy, and the proper interpretation of policy, have chosen
voluntarily to report publicly on their plans.

In recent months, the

German and Swiss central banks have announced the growth rates of money
they expect to maintain during 1975 to achieve their goals of reducing
inflation and reducing unemployment.
Reasons for Requiring Control of Money
We will not be rid of our present set of economic problems easily or

The consequences of a decade of inflation will remain with us

for some time.

The return to full employment at a rate of inflation lower

than the average of the past few years requires policies that look ahead

years, not months.

The return to stable prices, if it is to be achieved

at minimum loss of output and employment, requires time and more stabilizing
monetary and fiscal policies than we have had in the past or have presently.
A rapid reduction in the rate of price change from nearly 12% in 1974 to the
lower rate that I expect in 1975 would have occurred in the absence of any
monetary contraction.

The restrictive monetary policy of the past six months

is, I believe, working against the inherited, continuing inflation of 6 or 7%
per annum.

I applaud the attempt to end inflation but deplore the increase in

cost arising from the sudden shift to an anti-inflation policy.
The inflation we now have is the product of more than a decade of
rising money growth rates.

In Table 1, I have listed the average rates of

growth of money -- currency and demand deposits -- for overlapping five
year periods.

Alongside the growth rates of money, I have listed the

average rates of inflation -- shown by the consumer price index -- for
identical periods.

In column three, I have listed the average growth rates

of real output computed in the same way.
eliminating short-term fluctuations.

These data have the advantage of

The long-term movements show through

The data show that higher average rates of monetary expansion and
higher average rates of inflation are closely associated.

The average

rate of inflation in the U.S. remains between one and two percentage
points above the average rate of monetary expansion in each period.


is, however, no evidence that the growth of real output has increased with
Data for the United Kingdom, cover a wider range of money growth
rates and consequently a wider range of average rates of inflation.

Again, there is a clear, strong association between higher rates of
money growth and higher rates of inflation.

Moreover, reductions in the

average rate of monetary growth appear in the British data.

The reductions

are followed by lower rates of inflation or slower increases in the
average rate of inflation.

The British data, like the U.S. data, show

no evidence that higher rates of inflation are accompanied or followed
by higher rates of real growth.

The contrary proposition appears better

Spokesmen for the Federal Reserve have often described inflation,
or the effects of monetary policy on inflation as new, and totally
different from the past.
are false.

These data demonstrate that such statements

Furthermore, I believe the recent period and the longer

historical record show that the main lessons of monetary experience
are as valid today as in the past.
I have included the

British data not only to show that the steady,

long-term rate of inflation here lags only a few percentage points behind
the British inflation rate but also to show that the policies that some
now advocate -- 8%, 10%, or 12% rates of monetary expansion -- would
produce a higher average growth rate of money and would be followed by
a higher average rate of inflation.

The prospects for higher inflation

in 1976, 1977 and later years depend very much on how much money
is issued to finance the large budget deficit in 1975.

We have before

us, as an example, the miserable performance of the British economy and
the failure of stop and go policies there to maintain full employment and
stable prices.



Money, Prices and Output
United States and United Kingdom
Five Year Average Rates of Change
(in percent)
United Kingdom

United States
Five Years



Real Growth




Real Growth

















. 1.6






















































• for FRASER


Some Suggested Changes in the Resolution
One of the most prevalent myths of our time is that we can treat
the problem of recession now and the problem of inflation later.


based on this incorrect presumption have produced higher rates of
inflation and slower growth of capital stocks in Britain and the United
We will not achieve full employment, more stable growth, and stable
prices unless we stop shifting from one set of concerns to another.


place of stop and go, we must have policies that treat both the problem
of recession and the problem of inflation.

This requires. monetary and

fiscal policies to be directed toward both goals.

The resolution you

have before you begins to recognize this important truth.
However, the resolution leaves to the Federal Reserve the power to
choose the growth rate of money.

I believe that this continued grant of

discretion by the Congress is much too great.

The resolution should be

amended to specify the range of 2% to 4% as the appropriate range within

which the annual growth rate of money

measured as the percentage change

of currency and demand deposits from the same month in the preceding year
shou1d be kept . . Experience in the recent and more distant past indicates
that once full employment and stable prices are achieved, the Federal
Reserve will retain ample flexibility but will lack the power and discretion to produce a major depression or a sustained inflation.
Congress has recently established new procedures for controlling the

This step cannot prevent inflation or depression unless it is

accompanied by some action that prevents the financing of. budget deficits

by excessive monetary expansion and prevents future budget surpluses
from being accompanied by sharp contraction in the growth rate of money.
The concurrent resolution should be amended to include a statement
of the rate of long-term money growth that Congress regards as appropriate,
and by a restriction on the maximum and minimum growth rates of money
during the current recession and the period of adjustment to long-term

I recommend that the annual growth rate of money from March 1974

to March 1975 be brought to the 5-1/2% range recommended by the Shadow
Open Market Committee, a group of business and academic economists.


reach the 5-1/2% annual growth rate requires a $290 billion stock of money,
currency and demand deposits, at the end of March and based on available
data an $8.5 billion increase from the average for the four weeks ending
February 5 to the average for the four weeks ending March 28.


large increase should be accompanied by a clear unequivocal statement
that the

Federal Reserve intends to maintain a 5% to 6% rate of monetary

expansion for the'rest of the year.

Monetary expansion should gradually

be reduced toward the long-term growth rate of approximately 3% that
is consistent with stable prices and full use of resources.
Furthermore, Congress should require the Federal Reserve to establish
procedures that will improve control of money.

These include the simplifi-

cation of reserve requirements and the elimination of regulation Q.
Congress cannot and should not direct monetary policy.


Congress has responsibility for setting guidelines that provide much
needed stability of prices and the growth of output and income.


years of experience with the Federal Reserve System has shown, repeatedly,


that the broad grant of discretionary power has brought instability.
believe it is time for Congress to change the rules.


I support the

resolution and urge that it be strengthened in the ways I have suggested.