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\ For Rpl ' ^ ilel^ase on Delivery PProximately 6:30 p,m, Central Standard Time, Thurs day, October 25, 1962) / T l > 0 . t 1 t r ! LIhRAKY THE CHALLENGE OF WORLD MARKETS Remarks of C. Canby Balderston, Vice Chairman, Board of Governors of the Federal Reserve System, At the 15th Annual Oklahoma Bankers Study Conference, The Oklahoma Center for Continuing Education, University of Oklahoma, Norman, Oklahoma, Thursday, October 25, 1962« The United States is in the position of a farmer whose cash crops ar e insufficient to meet: the obligations that he has taken on to help those 0u tsid e his immediate family. kee He has assumed some of these obligations to P his family and farm safe from attack; others he has assumed, in a spirit oi helpfulness, to assist neighbors and friends to get on their feet finan- Cia U y , only to find that those he has helped have become his strongest com- Pet ln itors 0 Like this farmer, our nation has been spending, lending and invest- g more abroad than it has been able to pay for. I shall approach my discussion of our country's current dilemma of ba lancing this foreign outgo against, its domestic needs by recounting briefly how We came t0 assume these burdens. The United States emerged from World War II with an enormously exPonded plant: capacity, with a store of technological improvements that stemmed £r om war research, and with a population that, despite its tragic losses of dead to and disabled, was basically unharmed, Britain, Holland, and Norway, and some extent France and Belgium, had suffered markedly in loss of plant as Vel l as of trained manpower, The s e devastated countries had to rebuild their plants as well as their homes, lu lns Germany, Austria, and Italy had fared even worse, the post-war years, the desire for our goods in such areas was apparently atiable. ml2s The buying power to acquire these goods was augmented under the W& Marshall Plan with such generosity as to enable these countries to get on their feet and become good customers. By now they have become strong com- petitors with plants as good or better than our own. Meanwhile, a long period of operating without foreign competition itl a the post-war sunshine of abundant demand for materials and equipment had softening effect upon our industries. For seme years they received orders Without aggressive marketing, and increases in unit costs could be passed on to the consumer so long as post-war inflation abroad made price increases P°ssible„ a Ppealing„ tha Besides, to American suppliers the preservation of markups was And so our firms got themselves caught in a wage-price spiral t has had unhappy consequences- The heritage from the war of highly mech- an ized production techniques and of the fruits of research was a technological br eakthrough that gave to the United States a great competitive advantage in w ° r ld markets as long as the industries in other countries were engaged in re Plenishing their domestic needs. at Once they had caught up with basic needs home, however, the newly equipped foreign plants, employing labor at a A c t i o n of the comparable rates of this country, entered world markets with mari y products that: were as good as our own and cheaper, too. Although we have exported an unprecedented $20,8 billion worth of 8 °od s during the twelve months ending in August 1962, we must not forget that s °nie of our best customers have been enjoying a boom. Uee c Consequently, they have ded our materials and equipment and have been in a position to buy finished °nsumer goods as well. However, the trade surplus of our exports over im- Ports, which ran about $4.8 billion in the last twelve months, ought not to be counted upon to resist a world-wide recession. Our ability to compete in our own domestic markets is also vulnerable to improved and cheaper products from abroad. Foreign-made glass now comes ship right into Toledo--which had won the name of "The Glass City" of America - 3 - by producing much o£ the glass used in our American autos. Much of the barbed wire, reinforcing bars and wire nails we use are now of: foreign 0ri gin, not to speak of a substantial amount of semi-finished steel. We import Japanese transistor radios and electric parts that are cheaper than 0ur s , and Japanese ball bearings and cameras of as fine quality as can be found anywhere, ot We export, more than enough to pay for these imports; like her industrialized countries our exports and imports have both been increas- ing during recent years, is The essence of our balance of payments difficulties that our trade surplus fails to finance the obligations we have undertaken as leader of the free world together with the current outflow ot private capital. What: has happened is that in the post-war years we have built a high c ost: structure into our economy. Wages and salaries, fringe benefits, taxes, °Verhead--all have risen regularly from year to year, and in most; cases have Exceeded the substantial gains in productivity that have been achieved. In ^ e earlier post-war years, when markets were strong and competition moderate, t; hese higher costs could be passed on through higher prices. But as the most: Ur gent: market demands have been satisfied, and as competition has become more Sev ere at home and abroad, more and more cost advances have had to be absorbed. Cost-price controversy often centers upon the upward trend in wage and pa yroll s „ 0f £ related costs. But certain other costs have risen even more rapidly than Thus, according to a First National City Bank study, the proportion the sales dollar that the 100 largest manufacturing corporations paid out ° r materials, payrolls and fringe benefits fell slightly between 1949 and l96 l, from 82 to 80 per cent. Surprisingly, the proportion of sales taken by Federal income taxes also dropped a bit, from 4.2 to 3.8 per cent. tax But other Payments, including State and local, rose from 2.2 to 4.6 per cent while de Preciat:ion charges rose from 3.6 to 4.7 per cent of sales over the twelve ^ e ar period. It was these cost elements that cut after-tax earnings of the . 4 - firms from 7.6 to 6,0 per cent of sales between the roughly comparable ^ears of 1949 and 1961. Increased governmental services entail increased costs, and these costs must: be borne by the public either currently in the form of higher taxes, or over the longer-term, in the form of a debt-servicing burden. w We are a ealthy economy, and can afford the services that are really needed and useful, but we should be very sure to get our money's worth. Wa Taxation, like direct ge and other production costs, adds to the already high cost-structure of our Productive machine. And in our present environment where increasing competi- tion prevents upward price adjustments, even marginal increases in costs, from whatever source, tend to squeeze profit margins and injure investment incenses, In our public affairs, as in private industry, unnecessary frills and ex Penditures add to an already inflated structure of costs and prices. mu st be held in check, and opportunities for the profitable employment of men, m These oney and machines enhanced if we are to be successful in the competitive Str uggle for world markets. The competitive edge given us by the post-war breakthrough in mech- an ization and automation has now been lost in many lines of product, Sophisti- cated foreigners know that if we inflate more--and they less--they can take f °reign markets away from us and make greater inroads into our home market as We U, Pre nch and Japanese costs were decreasing. atld t It would not suffice for us merely to keep our costs steady if German, However, their costs are now rising, if ours hold steady, then time should work for us. But the mere passage of ime will not work in our favor unless we make those hard decisions necessary to keep prices competitive. The real test as to whether we are pricing our workers out of jobs is Whether our products and services will sell in the markets of the world, includes our own. If their design or quality or terms or prices are unattractive, - 5 - American firms lose the chance to sell their wares, and in doing so to provide additional jobs for American workers. It is export and import prices that: count., not alone those offered in the domestic, market by domestic producers; it is world markets that present, the test of American competitiveness. The essential point is that our exports must exceed our imports sufficiently to pay for our new investments abroad, plus the military expenditures and economic aid across the seas that, our world leadership seems to etl tail , This means products of the right design and quality offered at: the ri ght: terms and prices. know-how. Our country is rich in resources and in management But how much it can invest, spend and lend abroad depends basically upon how much more it. exports than it imports, This means that our firms and ^ r m s must, be competitive in the world's market places, which are coldly re alistic 0 The problem of selling enough abroad to pay for the lending, spending and investing we are doing abroad has become accentuated since 1958, In that currency convertibility was virtually achieved by most industrialized nat Ca ions. This permitted funds to flow with alacrity among the financial Pitals of the world,--that, is, from one industrialized country to another. At the same time the Common Market advanced to a new stage under European leadership and with American encouragement, to w A unified Europe began develop the counter-part there of the great, market in the United States hich had long provided to our companies opportunities for mass selling without impediment of trade barriers. The beginning of the Common Market that early proponents had visu- al ized as a step towards a United States of Europe came in 1951 when France, Ge rmany, Italy and the Benelux countries established the European Coal and Ste a el Community, Then France and the Netherlands put forward suggestions for 8Ucultural unification. These countries sought to tap markets in West Germany - an 6 - d elsewhere in. Europe for their agricultural surpluses. its is Western Germany with fragmentation of crop growing areas is a less efficient food producer than France, and as a result has been both a heavy food importer and a follower Protectionist policies for agricultural items. In contrast, France and the Netherlands had long been exporters of farm products, and wished the barriers to the export of these products to be kept low. ot these two countries and that of Germany led to the idea of a still broader c This contrast in the policies ommon market in which concessions on agricultural commodities could be matched ^ t h those on industrial goods, and permit the labor displaced from the moderni 2at ion of agriculture to be absorbed by the expansion of industry. Finally, ° n January 1, 1958, the Treaty of: Rome was signed signifying the birth of the European Economic Community, which is now familiarly known as the Common Market contemplates a period of transition of twelve years or less for the member c °untries to be welded into a single economic unit with freedom for goods, Ca Pital and labor to move within it. The agreement also provides ultimately a common tariff on the external trade of all the member countries * At first England and six other countries, including neutrals like ^stria, Sweden and Switzerland plus the Scandinavian countries, formed a de fensive trade alliance. The unexpectedly rapid success of the Common Market caused these countries to reexamine their positions, Greece has already c °nc.luded an agreement for full economic integration, and England, Ireland, De nmark, and Norway have applied for membership in this growing market whose Po Pulat:ion, if England joins, will be one-fifth larger than that of the United Sta tes„ Sev Cu The countries comprising the Common Market and the so-called outer en absorbed last fiscal year about $1,8 billion of our $5 billion of agri- ltural exports, tlle What concerns me, however, is that, if we look solely at agricultural exports we get paid for, the European share is more than °Ue-half the total. The bulk consists of cotton and tobacco, which will not be much affected by the Common Market, and three categories that will. These are feed grains, wheat including flour, and soybeans. F In the past ^ance has been taking cotton but little else; the United Kingdom, tobacco an d animal fats; the Netherlands, grains and oil seeds; and West Germany, a wide assortment., a The agricultural output of Western Europe has increased bout one-third during the last decade and is growing faster than consumption. To achieve a common agricultural policy has been particularly diffi- Cu lt for the Common Market countries and is still the principal barrier to the participation of Great Britain. of The pattern being negotiated now consists Price ceilings and floors, together with national targets that will be Welded gradually to form a community wide target price. are In case market prices below the target prices, support purchases will be made at so-called "inter- action prices"; if they are above the national targets, levies will be imposed ° n trade that is within the Common Market. du The Common Market agreed recently U n g the tariff negotiations in Geneva that its common external tariff for hides and skins should be zero; for inedible tallow, 2 per cent ad valorem; ari d for variety meats, 20 per cent. If the Common Market countries were to at tempt; to tighten trade controls over these products, these GATT negotiations w ° u ld have to be reopened and trade concessions made to compensate the injured c °untries. Consequently, the prospect for continued export of livestock by- products from the United States would seem to be good. American cattlemen, however, must expect certain adverse forces to af fect the profitability of their operations. Wit For one thing, cattle raised h i n the British Empire would, if Britain joins the Common Market, no longer ^ V e preferential treatment in the English market over cattle raised in the ^ r gentine or in the United States. Whatever business they lose in Great Britain, they will seek to make up elsewhere. are Moreover, feed grain prices likely to decline and affect the profit to be made from cattle feeding adversely. The situation may be the reverse of that obtaining when feed grain prices are increasing. Then the farmer can secure for his beef a higher price per pound, say 30 cents, than he paid for the steers, say 25 cents. He gets the additional 5 cents on the entire 1,000 pound weight the fattened steer and so makes 5 cents per pound profit on the 600 Pounds that the steer weighed when acquired. On the other hand, if feed grain prices are falling, this profit opportunity is lost. It is clear that the maturing of the Common Market will bring our country face to face with some reallocation of labor and other resources. What we lose in our agricultural exports, which amount to about one-fourth °f total exports, we must strive to make up in the marketing of industrial goods abroad. This is important if we are to provide job opportunities for surplus farm labor, As my colleague, Governor Shepardson, has observed "we can be sure that it will involve reallocation of resources and markets both here and abroad, some of which will doubtless be painful to the areas °r segments of our economy most directly affected." It is not fitting to discuss the challenge of world markets before an Oklahoma audience without some reference to the petroleum industry. On the other hand, my observations must be the superficial ones of a person whose work does not involve the marketing of either crude oil or of petroleum U Products. I understand that the advent of new sources of crude significant changes in both crude sources and prices. , . . bringing The most significant change apparently is coming from the acquisition of Russian crude by European refineries. Italy, for instance, is taking in Russian crude up to 20 per cent of her requirements on a barter basis. Entering Europe through the Italian door, this oil, when refined, can of course move anywhere within the Common Market area. - 9 - Russia has already surpassed Venezuela as the world's second largest oil producer and Russia's exportable surplus of petroleum is apparently growing. Consequently, she will probably continue to sell at Prices below the prevailing prices in world markets in order to expand her share. The very newest development, however, is that Libya and cer- tain former French territories in North Africa have now appeared on the horizon as a significant source of crude. A market for Saharan oil has been provided by the French government by requiring refineries of metropolitan France to take 80 per cent of their crude oil requirements from sources within the franc bloc, but as these immense reserves are developed further North African crudes will press into other Western European markets. In this effort, they will enjoy a transportation advantage over the oils of the Middle East. In short, the impact of these new foreign sources and of growing consumption of petroleum products abroad tend in opposite directions Turning from the production of petroleum to its refining, American refiners that have been enjoying foreign markets for specialty oils, such as high-quality lubricants, cable, refrigeration and electrical oils, will doubtless continue to sell to Western Europe and to other countries of the world, as long as they can make these high-quality specialties better than °ther refiners. One would suppose, however, that this technical advantage Would disappear as refineries beyond our borders are improved. To recapitulate, the current challenge of world markets will test not only our American inventiveness, but our willingness to venture by supPorting new ideas with investments made possible by saving. Such venturing, however, will turn upon profit expectations and these are weakened by ineffi oiency and waste. One source of waste is the misapplication of resources, human and other, that happens when bad investments are made in the private - 10 - sector, or useless expenditures in the public one. Moreover, featherbedding, whether in the private or public sector, makes jobs for some people only by destroying job opportunities for others, What destroys trade among ourselves and others kills jobs, but if this country can retain its vaunted efficiency and if its exporting is not inhibited by trade barriers, then the emerging Common Market, with its promise of accelerated economic growth, presents enlarged export opportunities; on the other hand, failure to meet this new challenge will cause our country to lose out to sterner competition not only in foreign markets but at home.
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