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I




Remarks
by
G. William Miller
Chairman of the Board of Governors
Federal Reserve System
before an
Economic Colloquium
Providence, Rhode Island
October 20, 1978

- - - - - --·---- - - - -

I am pleased to return to Providence to share this afternoon
with such distinguished colleagues who will add a great deal to the brief
outline I will present.
world.

Our subject is monetary policy in a changing

It seems to me to be absolutely true that in the post-war era

we've been experiencing a period of rapid and accelerating change.
have been changes in almost everything we do or deal with.
great demographic changes.

There

There have been

Extension of life through modern medicine has

meant more older people in our society, and the baby boom following World
War II has meant more younger people, so that we have a different mix in
population that in turn influences our economic and social environment.
We have also seen tremendous social changes as we've continued to move from
an agrarian society,to an industrial society, to a more urban, metropolitan
society.

This has caused great changes in the structure of families, in

their relationship to work, and in their life experiences.
We've also had tremendous political change since World War II:
new nations created, evolving, trying to find a new world order to deal
with new political realities.

We have a growth in the number of socialist

states; we have less developed countries that feel they have a claim to a
portion of world

progress~

We've seen tremendous economic changes as we've moved from a
world of independence to tremendous interdependence.
has been great technological change.

And, of course, there

As I mentioned, we have moved from

an agrarian society to an industrial society, to a technological society.
We've substituted machines for muscle power in order to achieve a higher
standard of living.




But recently we've run into the finite limitations

-2of what we thought were infinitely available energy resources, and that
has strained the opportunity for further progress.

That brief chronicle will

perhaps, at least make the point that we do live in a world of rapid and
important changes.
The 1970's have been characterized by a series of shocks.

They

have thrown our system into imbalance; they have caught us off guard.

But

the inherent strength of our American system has been demonstrated by our
ability to absorb these shocks and continue to make as much progress and
as we have to enjoy prosperity as we now do.
system has great resilience.

We've demonstrated that our

It has the capacity to absorb these changes.

But now we are going to be tested as to whether we have the will and the
skill to correct the fundamental imbalances and avoid the insurmountable
problems that are inevitable unless we attack the fundamental issues.
Let me summarize some of the shocks and discontinuities that
have characterized the past dozen years.

The war in Viet Nam was divisive.

The state of domestic tranquility was interrupted by civil disorders.
Failure to pay for that war planted the seeds of inflation.

The threat of

inflation lead to imposition of wage and price controls which proved to
be unworkable, inequitable and ineffective.
system broke down.

The international monetary

With wage and price controls holding down the lid,

the U.S. economy was reflated and allowed to build up a high pressured
head of steam.

When the controls were lifted, the steam blew off,

producing double dfgit inflation and double digit interest rates.
to compound the difficulties, the oil boycott ushered in a
five-fold increase in world petroleum prices.

Then the Watergate incident

and its aftermath led to a general public disaffection with all institutions,




-3public and private.

And finally, there was the

~reat

recession of '74-'75

with 9 per cent unempl oyment and the greatest economic distress since the
depressiou of the 1930's.

As an aftermath of these shocks, inflation is

now our most serious domestic problem.
Inflation destroys value~ and income~, . it dries up job-creating
investments, it impairs the prospect for new housing and other construction, and it breeds recessions.

It creates financial strains for

individuals, businesses and governments, accelerates government spending,
causes higher interest rates, and disrupts international .trade and the
stability of the dollar.

It is especially hard on the poor, the elderly,

and those who live on fixed incomes.
disruptive force in our economy today.

In short, inflation is the most
It is the cruelest tax of all.

Perhaps the best way to illustrate the clear and present .danger
of inflation is to consider the consequences over a normal working life of
forty years or so of the present experience of inflation.

If the inflation

that now exists in the United States were allowed to continue at its
present rate over a normal working lifetime, then when young Americans
today reach retirement age they will have a dollar that is worth less than
a dime.

The dollar held by today's young adults will be worth less than

ten cents when they reach age 65.
The international value of the dollar is also
inflation.

r~lated

to

The decline of the dollar in the past year can be traced to

the record U.S. trade and

~urrent

account deficits and to the level and

persistence of U.S. inflation rates.

The decline of the dollar itself

adds to inflationary pressures as the goods we purchase from abroad cost
more and the competitive constraints on domestic producers are reduced.




. .

-4The decline of the dollar in the last year l1as added over one per cent to the
inflation rate this ye ar, and that alone is equivalent to more than a
$20

bil~ion

tax on all Americans.

the world to have a sound dollar.

Obviously, we have an obligation to
In our own self-interest, we · need a .

stable dollar to avoid disruptions in our patterns of international trade
and to

damp~n

the inflationary pressures at home.

One additional important factor in all these considerations
is energy.

America was fortunate to be able to develop as

a nation by

utilizing the seemingly boundless resources of a vast, almost unpopulated,
continent.

The availability of abundant and inexpensive energy fueled the

growth of a great industrial society.

But with 6 per cent of the world's

population consuming 30 per cent of its energy, it was inevitable that the
day of reckoning would come.

The forces of supply and demand came into

play with a ven geance. · In 1973, the United States paid about $8-1/2 billion
for imported oil products.
$40 billion.

This year the import bill for oil will be over

This enormous shift contributed to the large U.S. trade

deficit and the pressure on the dollar.

The task ahead is to convert our

industrial, commercial, residential, transportation and public infrastructures
into more energy-efficient systems.

We need to conserve present energy

reserves, to reduce dependence on foreign petroleum, and to change over
to alternate, more economic energy sources.

This process will certainly

take a decade or longer.
Given all these changes and the present circumstances, what is
the role of monetary policy in combating inflation?
First, let me make a couple of observations on the limits of
what monetary policy can achieve.
do the job alone.




In my opinion, monetary policy cannot

Nor is there an automatic pilot to guide monetary

-5'I

•

policy.

It is just not possible to solve our problems by setting a dial

for monetary policy and going home.

If monetary policy is left to do the

job alone, the consequences are very unattractive.

If the Federal Reserve,

as the central bank, should be left alone to restrain inflation by
tightening up the money supply, that tightening would inevitably have to go
so far as to bring on an unwelcome recession that would not solve the fundamental
problem.

But should the Federal Reserve accommodate inflation by making

money available to validate it, then inflation would accelerate to double
digit levels and we would be headed for a delayed, but . much more severe,
economic decline

a decline which would be very disastrous to our national

goals and to our individual and collective well-being.
Nor can monetary policy be set on automatic pilot without serious
danger.

If oil prices increased four-fold, an effort to hold money at a

predetermined level would restrain the ability to pay for that oil and the
economic aftermath would be very disastrous.

Nor can a fixed monetary

policy deal with the crop failures in India or Brazil or the Soviet Union
which limit the availability of food supplies.

Nor can monetary policy

deal with Federal deficits that escalate in the face of declining economic
activity.

Over the last five years, the federal deficit totaled to more than

$300 billion; withdrawing that much out of our economy through monetary
policy would bring very severe consequences.
What, then, is the current objective for monetary policy?
Since March_ 8, when I wa s sworn into office, we have had a series of
objectives for monetary policy.

One is to recognize the clear and present

danger of -inflation and to exercise restraint, endeavoring to bring about
a lower growth in the rate of money supply and a lower growth in the real




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-6 ·-

growth rate o{ the economy.

On March 8, the projection was for the U.S.

economy to grow during this calendar year at a real rate of about 4-3/4 per
cent.

It now appears that this year the economy will grow at about 3-3/4

per cent -- a significant decline in the growth rate as part of the effort
to restrain inflationary forces.
Second, we have endeavored to exercise monetary policy so as to
slow the growth rate on a smooth basis, so as to avoid the shocks and
disruptions and swings that have characterized our economic policies for
the last dozen years·.

In my opinion, this policy increases the prospect for

reducing inflation without tripping us into recession.
A third objective has been to restrain the economy while
~aintaining

sector.

balance and avoiding too great a

butd~n

falling on any one

An example was our decision, in the spring, to authorize new kinds

of savings instruments so that we would avoid the disintermediation that
created a depression in the housing industry in '74-'75.

So far, this new

policy has been working, with flows of funds to thrift institutions that
housing continuing while the whole economy was restrained.
We can, at this moment, be somewhat pleased with the results.
·The economy is in remarkable balance.

Consumer spending continues, but

at a lower pace, more consistent with the growth of personal income.
Inventories held by businesses are in excellent balance.

Business fixed

investment has not bubbled up to a point where it would be expected to
decline suddenly.

Our position in housing has been maintained.

And through-

out the economy, generally with few exceptions, there is the ability to
continue to progress at the current rate without any shortages or bottlenecks.




-7A fourth objective has been to coordinate monetary policy with
other economic policies so as to curb inflation without triggering a
recession.

In March, the plan for the fiscal year which began to the

Federal government on October 1 -- fY 79 -- was for spending and taxing
that would result in a federal deficit of $60.5 billion -- a rising
deficit when we would be entering the fourth and fifth years 6f economic
expansion.

In seven months, that plan has been changed.

Today, we are ·

looking at a planned deficit of only $38 billion -- a $22 billion change
in fiscal policy in a few short months.

I cannot find any time in history

when the U.S. changed a fiscal plan already submitted by the President by
anything like this amoun.t.

hThile we can and do argue that more needs to

be done, at least the trend is encouraging.
A fifth aspect of monetary policy has been to look for and get
temporary help from other policies, including the President's deceleration
program, so that we could gain the time for monetary and fiscal disciplines
to have an effect as they work with a lag through the economy.
All of these are short-term appr 0 aches to dealing with inflation,
and they are only the prologue.

Inflation has built up for too long and has

become increasingly structural for us to believe that we can control it in
three months, six months, or a year.
eradicate this virulent disease.

It will take considerable time to

We must be willing to commit ourselves

to an anti-inflation fight of five to seven years if we are to succeed
in returning to price stability on a permanent basis.

- --------------- ----- 


-8Let me suggest some of the longer range policies we must pursue
if we are to succeed in the long rµn.
First, we must move progressively to a balanced federal budget
with full employment.

Now that we have reversed the trend of an escalating

federal deficit, we must continue our efforts.

FY 1980 offers the

opportunity for further fiscal discipline to bring the deficit below $30
billion and, by 1981 or 1982, to balance the budet.

This is essential if

we are to take the pressure off 6f monetary policy and create a more balanced
coordination of policies to deal with this very serious difficulty.
Second, it is imperative that we reduce the federal government's
role in our economy.

Government has grown too big.

The Federal government

alone represents over 22 per cent of our gross national product.
to reduce the role of the Federal

gov~rnment

essential to our long-term success.

A program

over five to seven years is

What is needed is to bring it down

gradually, avoiding shocks and disruptions in the economy, so that within
five or six years the Federal government will represent only 20 per cent of
our gross national product.

Thi~

means a slower rate of growth in federal

spending -- not immediate reduction, but a rate of growth slower than the
rate of growth of the economy.

It also means that in several years some

$75 billion could be shifted from the public sector to the private sector
where the individual decisions of people and businesses would be far
more efficient.
A third important long-term element is to expand our capital
investment.

For a long time the United States has been a leader in

technology and in production, but we are falling behind rapidly.

Germany

spends 15 per cent of its GNP to improve its capital ·base; Japan, over 20




-~--=

-- -- - -- -

-9per cent.

We have been spending 8 to 9 per cent.

Over a dozen years such

a lag accumulates to place us in a very poor competitive position.

It is

essential that the United States create the incentives for business investment that will bring us to a level of 12 per cent of GNP.

We need

modernization, expansion of our productive capacity, lowering of the
unit cost of production, improvement in the energy efficiency of our
production, and improvement in our competitive position in the world so that
we can re-establish our technical and technological superiority.
A fourth

import~nt

plank in the program is to promote exports.

As we transform our own production and transportation stocks to energy
efficient systems, we will be dependent upon large supplies of imported
petroleum.

The best way to off set that requirement -- until we build up

indigenous sources of energy -- is to expand our exports.

As a nation,

we have not been oriented to exports; we have not even tried very hard to
export.

Currently, we export about 6-1/2 per cent of our GNP.

We should

have a goal -- over the next five, six or seven years, -- of building our
exports to ten per cent of GNP. ·
A fifth element is a sound energy program, which would provide
the basis for conserving our existing energy and for shifting to more
economical and indigenous sources.
A sixth element is regulatory reform to remove the burden of
regulations on our economy without compromising our social objectives.
Much of our regulation. is not cost-effective.

Much of it involves a burden

that is not proportionate to the public benefit.
effort in regulatory reform.




We need a far more dedicated

-10Seventh, we must continue

~onetary

discipline, despite the

temptations that may present themselves, so that we maintain a continuing
responsible program to reduce the rate of growth of the money supply until
we have squeezed . inflation out of the economy.
Finally, all of our efforts must add up a a concerted effort
to reduce inflation at a reasonable rate.

It is not possible to eliminate

inflation in six months or a year, but it is possible, if we pursue all
of the programs I mentioned, to set as our target a reduction in inflation
of 1/2 or 3/4 of one per cent per year until we return to full price
stability.
This is a difficult task.
our

patien~e,

It will test our will, our determination,

our persistence, our constancy.

It will test our skills, but

it is the only and best choice we have for achieving the economic goals
we all desire:

full.employment, price stability, and a sound dollar.

We can achieve those goals and, when we do, we will have created the best
prospect for peace and prosperity throughout the world.