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BULLETIN OF THE ROBERT MORRIS ASSOC& TES - DECEMBER 1950 (Summary of K. R. Bopp* s speech at White Sulphur Springs 11/7/50) The Economic and Business O utlook For 1951 By DR. KA RL R . BOPP Vice President and Econom ist, Federal Reserve Bank o f Philadelphia An expert, I take it, is one who speaks confusingly about a subject he doesn’t know anything about, but in such a way as to make the audience feel that it is their fault rather than his. I would like to discuss with you, a little bit, busi ness prospects and economic pros pects as I see them, particularly as they have been affected by the in vasion of South Korea. Before do ing that, I think we should take a very brief, but very long view of this economy. Pre-Korea Review We have had, since prior to the outbreak of the Second World War, an increase in physical output of the general order of magnitude of two-thirds to three-fourths. We have had an increase in prices since that time in the general order of magnitude of two-thirds. As a consequence, our gross national ex penditures, the over-all picture, are up to two and a half times what was pre-World War II, and our money supply is about three times what it was then. In short, we have had virtually ten years of pro longed prosperity and inflation. It is quite true that this infla tion, at least temporarily, seemed to be brought to a halt early in 1949, when the index of industrial production fell from about 195 to 161, but we recovered from that in very rapid order. By the middle of R obert M o r ris A s s o c ia t e s 1949 we were again pulling up, and between June of 1949 and June of 1950 the index of industrial pro duction increased about 40 points. Even prior to the outbreak in Korea, we were again having slight revivals of inflation, and it seemed as though the rest of the year would be a good year with moder ate inflation, but rather acute in some spots, particularly housing and durable consumer goods. Im m ediate Economic Im pact of Korean W ar It is at this point that the in vasion of South Korea took place, and I think perhaps the best thing to do there is to see what was the immediate economic effect. It was not an increase in governmental ex penditures. The government im mediately planned to spend a lot more money, but the increase in governmental expenditures has been very slow in moving forward. I think the expenditures for goods and services in the third quarter of this year were less than a billion dollars, at an annual rate, more than in the second quarter. The immediate impact was in civilian expenditures. You will re call the scare-buying we had on the part of consumers. There was a great increase in expenditures for those things that were scarce dur ing the Second World War, particu 181 larly consumer durable goods, auto mobiles, and housing. In making these expenditures, consumers and business were not only spending their very large in comes, which were at an unpreced ented level, but were cashing in some of their earlier savings, and in addition were going into debt at a rather rapid rate. That is the immediate impact. Economic M agnitudes Confronting U s Let us look into some of the eco nomic magnitudes that seem to con front us. The basic economic mag nitude is that of manpower. In the second quarter of this year, we had a labor force of about 64.8 million people. Of those, three and onethird million were unemployed. A million and a half were in the armed services, and one million seven hundred thousand, roughly, were in defense industries, leaving 58.3 million producing civilian goods and services. Now, if the present estimated expenditures for defense take place as planned, and if we have the increase in the armed forces to 3 million as planned, then what is the nature of our man power problem? Roughly, we will need an additional million and a half for the armed services and an other 3 million to produce defense materials, giving us a requirement of 41/2 million people. Where will they come from? Our labor force can be expected to increase with some people out of it now coming back into it, to the extent of about 1.7 million. Unem ployment might be reduced by a million and a half to one million eight hundred thousand, so we can get from people not now working something like 3i/2 of that 4 %mil 182 lion, and that leaves a million to come from those now producing for civilian purposes. That does not seem an insur mountable economic problem. If we think of it in those real terms, we get a rough idea of the present order of magnitude. We can move next from the man power problem to the real resource problem. We have to do this in terms of dollars, but what I am do ing here is to express it in terms of dollars of constant purchasing power. Whether that is what we have in store or not, I will come to later. We will have to take care of roughly 20 billion dollars of addi tional defense expenditures, which is the annual rate anticipated a year from now. In order to do that, we are going to have to either in crease our output or we will have to do without some of the civilian goods we have. As I have indicat ed, we have some chance of bring ing people into the labor force, em ploying some of the unemployed, using some of our stand-by factor ies, working longer hours, a little more efficiently perhaps. It is pos sible that we can get within a bil lion or 2 billion dollars of this total in these ways alone, and again, the problem in terms of what has to be subtracted from the civilian econ omy, if we work at our best, does not seem to be of such great mag nitude. Why, then, become dis turbed about it? Essentially for one reason. If we produce in the order of 17 or 18 billion dollars more of goods, we will be paid for producing those goods and we will not have the additional goods to consume because they are to go into the defense effort. In short, we D ecem ber 1950 B u lletin will increase incomes by 17 to 18 billion dollars, but we will not in crease the things we can buy with those incomes by anything. In fact, we will have some subtraction from the present level. That, essentially, it seems to me, is the nature of our problem. Unless something is done, we will clearly be faced with an excessive demand over supply of goods and services at existing prices, and that tends to force prices up. There are two ways that have been proposed to deal with the problem. One is the method of direct control. Direct Controls The method of direct control op erates essentially like this: You look at the economy and see the area in which prices have risen most rapidly, and you say, “We have to stop the price rise in this area.” You clamp on a price ceil ing. It is quickly discovered that, if selling prices are limited, you have to do something about costs. The most important cost item in the economy as a whole is the labor cost. So, price freezes lead to wage freezes. One feels that solves the prob lem ; but does it? Why is it neces sary to put on a price ceiling? Only because not everybody can get all he wants at the existing price, which means that there are some unsatisfied people in the market. What do unsatisfied people in the market do? They say, “Can’t we find some substitutes?” That is human ingenuity at work. So they try to get some substitutes. You greatly increase the demand for these substitutes, and your problem shifts from the first area to the R obekt M o b r js A s s o c ia t e s periphery of the area and out into the economy. So that seems to be the problem. You slap on price ceilings and wage controls, and that shoves the prob lem one step further. You will re call that in the Second World War we had direct controls pretty well all around. If not everybody can get all he wants at the existing established price, somebody has to say who is going to get what is available and who is going to have to be denied. If that is the road we choose to fol low, I think we should not complain that it requires an enormous bureaucracy, and I use it in its best sense. We need people of extreme ly high intellectual capacities and integrity and honesty to administer a system to tell what each price shall be and who shall receive the goods and who shall not. During the World War, we had an elaborate rationing system, which was inevitable under a sys tem of direct controls. We had the red and blue coupons for food stuffs. There are circumstances where that is an appropriate method for dealing with the problem. You will recall that in the Sec ond World War our gross national output was in, the order of 200 bil lion dollars a year, 1942-45. The government's take was 100 billion, or about half. So the government take was half the total. Even though we did not know exactly how long it would last, we were quite sure we would win the war and that we would win it within a limited number of years. In short, in the Second World War, we had an enormous effort for a relatively short time, and under those circum 183 stances direct controls may be the appropriate way of handling the problem. Is that the kind of situation that confronts us today? No, so far as one is able to determine. What seems now to confront us is that we may get involved in World War III, but that is not the immediate pros pect. We are now confronted with the possibility of five, ten, fifteen, twenty years— some even say a couple of generations— of heavy defense expenditures to defend our way of life. The expenditures will be heavy but not anything like onehalf of our total output. The order of magnitude is fifteen or twenty per cent, and does one try to solve the problem of a fifteen or twenty per cent effort for decades in the same way he tries to solve a fifty per cent problem for half a decade ? I think not. I think not, for the reason that we had some experi ence with rent controls, not only during the war but with what hap pens after the war is over. You will remember that when direct controls were lifted in 1946, we had an immediate and rapid increase in prices, and the reason was perfect ly obvious. What we had done via direct controls was to shove the de mand from one field to another field to a third field, and finally we had practically the entire area covered. People couldn’t spend their money for virtually anything, and so we euphemistically said that they saved a lot in the form of govern ment securities and we had an in crease in our money supply. Once controls were removed, these socalled savings began to come in and the demand was still there. All we did by direct controls was to post 184 pone facing the real issue of an ex cessive demand. Direct controls, in short, do not themselves ever solve the problem. They defer it but they do not solve it. Ultimately one must get to some means by which this exces sive demand can be limited or re duced. Other General Methods of Control That brings us to the other gen eral methods of control, the first of which is that if the government is going to spend 20 billion dollars more per year, it should, first of all, do what it advises its citizens to do and do it in good faith, mainly, re duce expenditures where it is pos sible to reduce them, and that ought to be a significant amount. Second, to the extent that ex penditures are necessary and must be made, we should pay for those expenditures exactly as we go. I personally am a little impatient with those who say we should pay as much as possible of the costs of defense out of taxes. I think with the magnitude being 20 per cent of our income, we ought to pay every single penny of it as we go along. Otherwise, we will have an increase in government debt and inflation with us forever. We will never solve the problem unless we tackle it there. Even if we tackle this, there is one thing that needs to be done, and all history of monetary systems demonstrate it, the most recent illustration being our experi ence since the Second World War. That is, we must limit private credit expansion as well. It seems so long ago now and such a unique sort of case that we may forget that the Federal Gov ernment did operate for two years D ecem ber 1950 B u l l e t in at a substantial cash surplus. There goods we have had a third incarna were only two, but they were sub tion of Regulation W and the ap stantial. Yet, this substantial cash pearance of Regulation X. surplus of the Federal Government The point I want to emphasize is did not do much more than tap off that in projecting you can do as a little bit the inflation which con good a job of it as I can. I have tinued to develop. Why not? Pri tried to give you some of the eco marily, for the reason that the pri nomic magnitudes involved, but vate sector of the economy was ex where we go in a democracy always panding. Consumers were buying depends upon where we, as citizens, durable goods, buying houses on insist that our government shall go. long-term mortgages, on easy In my judgment, the most import credit, fostered and stimulated by ant single factor, particularly in the government, and business went this crucial period, in determining into debt as fast as the government where our economic system is go came out. So, the net of that in ing, is the matter of public policy. crease in debt replaced the pay If we think we can solve the prob ments by the government, and we lem with direct controls, I think we went merrily on our way. shall end up in illusion. On the other hand, if we are determined Restriction on Private Credit Needed to see to it that we pay as we go In view of this experience, after and we limit the extension of pri the Second World War, with priv vate credit, we can do this job ate credit, and, as I say, the ex in real terms. It is of managable perience throughout history with proportions, but your guess as to credit, in addition to having a bal what Congress will do with respect anced budget, we need a restriction to expenditures and taxation is as in private credit. The Federal Re good and, probably in most cases, serve has done something in mov better than mine, and that is the ing in that direction. It realizes key to the future. that banks, in order to expand, must have excess reserves or ac cess to reserves. The Fed, there SU G G E ST E D R EA D IN G S fore, has made the acquisition of HOW TO ORGANIZE AND OPERATE reserves more expensive, not be A SMALL BUSINESS by Pearce Kelley cause they want to see them more and Kenneth Lawyer, Prentice-Hall, New expensive as such. That isn’t the York 11, 803 pp., $6.64, covers retail, wholesale, manufacture and service. objective. The quarrel isn’t about Early in 1951 a Work-book and a Teach one-eighth of one per cent, but it is er’s Manual will be issued to go along about whether we will control the with this text. volume of reserves and let the mar Peaks and Valleys in WHOLESALE ket determine what the amount of PRICES and BUSINESS FAILURES by reserves shall be or not. The Fed Roy A. Foulke, Dun & Bradstreet, 1950, has moved by permitting short also includes the ratios for years 1944-48 inclusive. term interest rates to rise. on INVOICE DATINGS and They are also looking at the STUDY DISCOUNTS by the Credit Research areas of private credit which have Foundation, representing the present expanded most; namely, real estate thinking and practices o f some 200 rep credit, and on consumer durable resentative companies. R o bert M o r r is A s s o c ia t e s 185 ROBERT MORRIS ASSOCIATES ANNUAL CONFERENCE November 7, 1950 THE GREENBRIER White Sulphur Springs, W. Va. "The Economic and Business Outlook for 1951" by Karl R. Bopp Vice President, Federal Reserve Bank of Philadelphia I. THE ECONOMY IN JUNE 1950 A, Long-tern - relative to pre-war 1« Money supply $60 billion — > $170 2. Government securities - Ind. & Corp. widely distributed / $100 billion 3• Physical production / 3/4 4. Prices / 2/3 5. G.N.P. = 3 times 2^ times pre-war B . Immediate 1. The 1949 readjustment Industrial production 2. Recovery = = 195 161 June 1950 = 200 a. Labor market tightening b. Personal income at new high, especially wage payments c. Consumption expenditures at new high especially durables - autos housing Loans expanding Prices rising d. 3. Nov. 1948 June 1949 Prospect: moderate over-all inflation strong area inflation e.g. housing - 2 - II. III. IV. IMPACT OF KOREA - JUNE 25, 1950 1. Initial economic impact was on civilian expenditures 2. Increase in planned Government expenditures ORDER OF MAGNITUDES 1. Manpower 2. Real Resources 3. Dollar magnitudes THE METHOD OF DIRECT CONTROLS Manpower Projected (Millions of persons) 1950 2nd Quarter 1951 2nd Quarter 66.5 Unemployed ....... Employed Armed Force . • . Change 1.5 / 1.7 - 1.8 3.0 4.7 57.3 / 1.5 / 3.0 - 1.0 Expansion in Output - Projected (Annual rates in billions of dollars at 3rd quarter 1950 prices) 1950 3rd Quarter Gross National Product . • • Defense................. 1951 2nd Quarter Change 301 / 17 284.0 14 32/ 18 Civilian Regular Government . . • 29 Private....... ........241 240 Estimated 3rd Quarter 1950 Government purchases of goods and services - total ......... F ederal Gross Private Domestic Investment . 29 1 Projected 3rd Quarter 1951 Model Model A* B* 284.0 333.1 318.7 42.5 23.5 19.0 67.9 47.7 20.2 65.8 46.0 19.8 49.0 55.7 51.1 -3.0 195.5 31.5 164.0 -1.5 211.0 26.0 185.0 204.0 25.0 179.0 224.0 259.1 250.2 204.0 232.7 222.2 Ô.5 21.7 18.2 o• ow 1 Personal Consumption Expenditures • Durable Goods • . . . . • Nondurable Goods & Services -
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