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Thursday« MARCH 9, 1978
lp.m. P.S.T. (4 p.m. E.S.T.)


Remarks of
J. Charles Partee
Board of Governors of the Federal Reserve System

at a
Joint Meeting of Reserve Bank and Branch Directors
San Francisco, California
March 9, 1978

Charting the Course of Economic Policy

As one of the principal instruments of national economic policy
the conduct of our monetary affairs plays an important role in shaping
the behavior of the United States economy, both in the short run and
over the longer sweep of time.

If the Federal Reserve makes possible

the provision of too much money and credit, the result will be to
exacerbate the inflationary tendencies already all too evident in our
economic performance.

If, on the other hand, too little money is created

the effect will be to restrict unduly the public's purchasing power and
to risk an inadequate generation of demands compared with our capacity
to produce goods and services; the outcome, in this case, may be a
disappointing rate of growth and, perhaps, economic recession.
Any such simple theoretical statement of the power of monetary
policy, however, grossly exaggerates the range of options that policy­
makers have.

As a practical matter, it usually seems to me that the

position we must take is "in between."

We find ourselves in between

those who would urge maximum economic stimulation, so that material
progress would be achieved and more jobs created for the unemployed,
and those who would urge that purchasing power be limited, so that
inflation may be discouraged and eventually brought under control.
We find ourselves in between those who would advocate stabilizing or
reducing interest rates, so that the cost of credit would not add its
bit to the inflationary burden, and those who believe we must limit and




gradually reduce growth in the monetary aggregates, which provides more
fundamentally the fuel for continued inflation.

And we stand in between

those who would emphasize short-run economic performance, even at the
risk of building problems for the future, as versus those who advocate
seeking always the best conditions for balanced longer-term economic
growth, even though this might mean a less robust short-run outcome.
My point in outlining these opposing views is not to seek
sympathy for the policymaker's plight, but rather to dramatize the very
real and fundamental economic choices involved.

Each position has a

sizeable body of adherents and each is argued forcefully from time to
time in one public forum or another.

Moreover, each approach has some

economic logic behind it and represents a point of view that needs to
be taken carefully into consideration.

It is not surprising, therefore,

that in a democratic society the policy options adopted tend to be

We cannot afford to focus single-mindedly on one economic

objective, no matter how desirable its achievement might be, when the
society has multiple goals.

Instead, it is my observation that the only

real choice policymakers generally have is to seek a reasonable balance
between employment and inflation objectives, between interest rate and
monetary growth considerations, and between short-run and longer-term
economic performance.

The result may well be the optimal one that can

be achieved under the circumstances, taking into account the whole range
of economic objectives to be served, but by its very nature it will not
be fully satisfying to anyone.

-3Another aspect of national economic policy that I would like
to emphasize is that policy choices can only exert a degree of influence
on the performance of the economy— they cannot determine the outcome.
This may seem an obvious truism, but I think that there has been a
strong tendency in recent years to exaggerate the cause and effect
relationship between actions in Washington and developments in the

Policymakers cannot determine the weather, or offset the

effects of a crop failure, or mandate the decisions of economic power
groups— whether they be coal miners or the cartel of oil exporting

And the public's response to policy actions can be quite

variable, depending as it does on the state of confidence, perceptions
as to the desirability of the actions, and rational expectations as to
the probable effects.

In the case of monetary policy, for example, we

have found that the linkages between our actions and their economic effects
are a good deal looser than we used to believe.

A smaller increase in the

money supply can sometimes be associated with stronger expenditures, if
people are becoming more confident, while a larger increase may bring
a less than proportionate rise in spending, if people become more fearful
of inflation and future prospects.
We spend a great deal of effort at the Federal Reserve, therefore,
on detailed analysis of the current economic situation and near-term

Information from many independent sources is gathered and

considered, including the use of econometric models, the analysis of all
the various statistical series on financial and nonfinancial developments,
and a careful monitoring of the comments and views of the Federal Reserve

-4Bank directors and business and community leaders such as are represented
here today.

This close attention to the immediate situation is all to

the good, since it is the economic environment' of the time that will
primarily determine the monetary policy actions to be taken and the
setting of near-term objectives for economic performance that are
practicable and seem achievable.

At present, our analysis would Indicate

that conditions are relatively favorable, once we can shake the temporary
effects of unusually bad winter weather over most of the country and
assuming that the difficult coal strike problem can be resolved before
serious economic damage 1s done.

Real growth in the economy should

continue this year, albeit at a moderate pace, and the problem of
inflation— though remaining very serious— hopefully will not become more
Admittedly, these prospects are not particularly satisfying
in terms of making good progress toward the nation's twin longer-term
goals of full employment with reasonable price stability.

Even after

another full year of moderate economic growth, the unemployment rate is
likely to remain significantly higher than we had become accustomed to
earlier in the postwar period.

And even if inflation does not intensify,

the basic inflation rate of the past couple of years— one of around
6— 6-1/2 per cent— is likely to persist.

The fact is that both unemploy­

ment and inflation are very difficult, stubborn problems, and that they
will require a great deal of work over a long period of time to correct.
The solution, moreover, requires not just the intelligent use of fiscal
and monetary policies, but also the development of specific programs
directed to the particular structural problems that confront us.



Some of our present difficulties in achieving a good economic
performance stem, no doubt, from inappropriate past public policies.
The minimum wage laws, for example, have the effect of denying employ­
ment opportunities to teenagers possessing only limited skills, while
some of the rulings of the Federal regulatory commissions serve to
constrain competition and raise average prices.

But a sizeable share

of the problems, I believe, have their roots in very long-term changes
in the characteristics of our economy and the behavorial responses of our

Since these changes are so gradual, their influence is often

overlooked in the continuous evaluations and réévaluations of the current
economic scene.

But they are occurring, and their influence can be

There is undoubtedly a long list of such trends, of varying

degrees of importance.

But I have gradually become aware of four major

developments— ground swells, so to speak— that I believe to have importantly
conditioned our economic environment and will continue to do so for many
years to come.
First, I would note the increasing threat of recurrent materials
shortages as world economies continue to expand.
currently, of course, is energy.

The leading example

For the moment, there may be a physical

surplus, as I understand is the case on the West Coast.

But with demand

having grown for many years at rates well in excess of newly discovered
supply, it seems clear that the restricted availability of usable
energy resources will become a serious constraint on the character and
extent of future economic expansion.

At the least, we are subject to

-6sharp increases in energy prices, which will importantly influence
decisions as to the factor inputs in the production process and the
location of new facilities with respect to supplies and markets.


need to begin to alter our ways is clearly recognized in the current
push for energy legislation.
Probable energy shortages, however, are only the most dramatic

There are other potential supply problems that could bring

unexpected economic shocks in the period ahead.

Food is now in relatively

ample supply, following several years of favorable growing conditions.
But we cannot count on continued good crop years, and it is instructive
to remember that the World Food Conference was convened in Rome on an
emergency basis as recently as the fall of 1974.

Limited availability

of other materials--copper, bauxite, nitrates, paper pulp— has threatened
in the past, and probably will do so again, especially with growing world
demands and the recent shortfall in new investment.

The effect of unexpected

shortages, it should be remembered, is almost always to push up sharply
the prices of the commodities in short supply.

This, in turn, tends to

set in train compensating adjustments of an inflationary character, as
we learned in the 1973-74 episode of double-digit inflation.
The second profound change I would bring to your attention is
the major shift that has been taking place in our population mix.


1960, the birth rate in the United States has dropped 40 per cent in
relation to the total population, and there has been a 52 per cent drop
in average family size for women of child-bearing age.

This unprecedented

decline, I believe, has already had vast implications for our economy.
It has brought not only a relative, but in some instances an absolute,

-7decline in the child-oriented market for goods and services, including
schools, some hospital facilities, and the size and character of housing
market demands.

It has freed many women to look for employment opportunities

outside the home, so that the proportion of adult women (ages 25-54) in
the labor force has grown from just 40 per cent as recently as 1955 to
60 per cent currently.

And it will in time be adding to the real cost

of supporting the elderly, as the proportion of people 65 and over
grows from 10 per cent of the population in 1960 to 11 per cent in 1980,
and a projected 12 per cent in 1990.
It seems to me that some of our policy problems have been,
and will continue to be, aggravated by these population trends.


more women have actively sought work, for example, the economy has needed
to generate more and more jobs in order to keep the unemployment rate

Because of the change in market orientation, moreover, some

skills (such as teachers) are in oversupply.

And the cost of providing

benefits to the rapidly rising numbers of retired workers was, of course,
a significant consideration in the revamping of the Social Security
system this past year.
A third major trend that cannot be considered an unmixed
blessing is the continuing shift in population to the stinbelt— broadly
defined as the West and the South.

For the United States as a whole,

population growth from 1970 to 1976 totalled 11-1/2 million, of which
all but 1-1/2 million was located in the Western and Southern states.
For the 1970-75 period, aside from the natural increase (births minus
deaths), there was an actual outmigration from the North— a broad band
of states that still account for fully one-half of our total population.




This movement to the sunbelt appears to have slowed 1n the mid-1970's,
perhaps reflecting economic conditions, but I can see no basis for
expecting that the trend will not reassert itself and perhaps intensify.
The rising cost and uncertainty with respect to future energy supplies
is a new factor among many tending to encourage this relocation.
The shift in population represents an important economic
opportunity for the growing regions, but it also imposes substantial
costs on both the developing and the mature areas of the country.


the developing regions, the necessary economic infrastructure— roads,
schools, water, power— must be provided, and the cost and difficulty
of maintaining environmental standards is heightened.

For the mature

areas, the same infrastructure tends to become underutilized.


continue to go up in part because of the characteristics of those left
behind, and the economic tax base tends to level off or contract, adding
to financing problems.

In general, of course, there is a more bullish

tone to the discussions of prospects for those in the sunbelt.


meetings with Federal Reserve Bank directors from around the country, I
have noted in recent years a pronounced difference in comments about
economic conditions that appears to be directly correlated with geographic
The fourth and final trend that I want to bring to your
attention is the intensification that has occurred in inflationary

In nearly 30 years as a practicing economist, this seems to me

to have been the most persistent trend of the postwar period.

It used

to be said that our economy tended to generate higher price levels over
time because there was a ratchet^^qt-^ift’
ices rose during economic
booms but resisted decline duriraif»$$ssiqns.

-9Later it was thought that inflation at a 2 - 3 per cent rate could
hardly be resisted, because of changes in income distribution and the
tendency of wages to rise with past price increases as well as productivity.
Now, as I stated earlier, the basic inflation rate is generally regarded
as being in the 6— 6-1/2 per cent area, with little or no sign of

I would note also that the problem is not ours alone— higher

inflation rates have emerged and continue as major threats in virtually
all developed economies.
What accounts for this ominous and persistent trend? The
cycling upward of wages and prices— where wages rise to reflect past
price increases and thereby force new price increases— is a major
element in the problem.

With compensation rising at about 8-1/2 per

cent per year and productivity at about 2-1/2 per cent, the resulting
6 per cent increase in unit labor costs simply must be reflected in
the price structure.
In addition, it seems to me that almost all institutional
arrangements in the economy are geared to inflationary solutions to
income distribution problems.
keep pace with inflation,

Thus, minimum wage laws are escalated to

Social Security and some other retirement

benefits are indexed to the cost of living, and public employees are
given comparability increases without regard to productivity or value of

Business policies, labor contract bargaining, and government

programs are all set in terms of augmenting money income to maintain
purchasing power, rather than attempting to achieve similar results
in real terms by reducing costs and hence, price pressures.
the problem is social as well as economic.

In part, too,

With better communications



and rising material aspirations, all sectors of the economy have become
less and less willing to lag behind in the income parade.

This means,

as a simple arithmetic proposition, that the lower end of the frequency
distribution of income gains is cut off, so that the average increase
is raised.

In short, losers from inflation tend increasingly to be

protected, while those who profit— except for taxation— keep their gains.
The result must necessarily be a more inflationary outcome for the
economy as a whole.
From what I have said, it must be evident that I believe
inflation has become our major long-run economic problem.

Not only

is the inflationary bias stronger than before, but the other long-term
trends that I have noted contain important inflationary ramifications.
Moreover, I believe that the evidence indicates this to be the situation
not only in the United States, but throughout the modern industrial world.
The question remains as to what macroeconomic policy, including
monetary policy, can do to help correct our inflationary condition?


seems obvious to me that policymakers must give very important weight
to resisting any step-up in inflationary pressures.

The threat that

this could occur is pervasive, and with a public that is now sensitized
to inflation, any significant and sustained step-up in price pressures would
surely lead to decisions— and defenses— that could be seriously destabilizing.
In this environment, it is particularly important that monetary policy
avoid providing excessive financial liquidity which could be used later
on to fund inflationary increases in demand.