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F o r r e l e a s e on d e l i v e r y 8:30 A M L , E . S . T . F e b r u a r y 2 0 , 1985 Statement by Paul A. V o l c k e r C h a i r m a n , B o a r d of G o v e r n o r s of the F e d e r a l R e s e r v e b e f o r e the C o m m i t t e e on B a n k i n g , H o u s i n g and Urban U.S. Senate F e b r u a r y 2 0 , 1985 Affairs System I a p p r e c i a t e this o p p o r t u n i t y to a p p e a r b e f o r e you present the Federal to Reserve's monetary policy objectives for 1985. In a c c o r d a n c e w i t h t h e H u m p h r e y - H a w k i n s A c t , t h e s e m i - annual r e p o r t of the F e d e r a l R e s e r v e w a s t r a n s m i t t e d to y o u this morning0 T h a t r e p o r t r e v i e w s in d e t a i l e c o n o m i c develop- m e n t s a n d m o n e t a r y p o l i c y in 1 9 8 4 , a n d s e t s f o r t h f o r 1 9 8 5 t h e p l a n s for p o l i c y by t h e F e d e r a l O p e n M a r k e t C o m m i t t e e . morning I would This like to d i s c u s s the C o m m i t t e e ' s d e c i s i o n s t h e o u t l o o k f o r t h e e c o n o m y in t h e c o n t e x t o f s o m e and important u n f i n i s h e d b u s i n e s s f a c i n g all of us r e s p o n s i b l e for economic policy. The Economic Setting T h e f a m i l i a r o b j e c t i v e o f m o n e t a r y p o l i c y is t o foster s u s t a i n e d e c o n o m i c g r o w t h a n d e m p l o y m e n t in a c o n t e x t reasonable price stability. of S t a t e d so g e n e r a l l y , t h a t o b j e c t i v e c a n h a r d l y b e c h a l l e n g e d ; it i n d e e d e n c o m p a s s e s b r o a d g o a l s of e c o n o m i c s t a b i l i z a t i o n p o l i c y the generally. M e a s u r e d in t h o s e t e r m s , t h e r e is c l e a r r e a s o n for s a t i s f a c t i o n in t h e p e r f o r m a n c e o f t h e e c o n o m y l a s t y e a r . In s u m m a r y , w i t h r e a l g r o s s n a t i o n a l p r o d u c t u p by 5-1/2 p e r c e n t o v e r t h e y e a r , a n d by a b o u t 1 2 p e r c e n t in t w o y e a r s , we have enjoyed the strongest expansion since the War period. Korean O n t o p o f t h e g a i n s in j o b s in 1 9 8 3 , e m p l o y m e n t i n c r e a s e d by o v e r 3 m i l l i o n l a s t y e a r . The unemployment rate f e l l o n e f u l l p e r c e n t a g e p o i n t t o 7.2 p e r c e n t a t y e a r - e n d . Real i n c o m e s f o r t h e a v e r a g e A m e r i c a n are up. -2Prospects time rest importantly an e n v i r o n m e n t markets. for sustained inflation of prices and increasing (in c o n t r a s t retail r o s e by l e s s t h a n t h a t . levels growth of e x p e c t a t i o n s of future inflation The b e h a v i o r of actual by s o m e m e a s u r e s demands from Specifically, last prices signs that have been in 1 9 8 4 t h a n pricing and wage decisions. chronic wa|es, which in 1 9 8 3 reflect despite those and w o r k e r s no l o n g e r so p r e o c c u p i e d w i t h a n e e d to a n t i c i p a t e And declines is damped. f o r l a b o r , m a y in s o m e p a r t Businessmen and While the evidence prices and nominal rose more slowly in a t t i t u d e . 1984 to s e r v i c e s ) at t h e w h o l e s a l e less tangible, there are also encouraging midyear contrary from the previous two y e a r s , and of most goods changes financial appreciably l e v e l s of 1982 and 1 9 8 3 . over maintaining price index increased around 4 percent year, little changed expanding and earlier expectations, the strong reduced the consumer in a c h i e v i n g l i g h t , it is e n c o u r a g i n g t h a t , took place without the sharply on s u c c e s s of g r e a t e r s t a b i l i t y In t h a t to widespread growth and productivity inflation in seem their in b o n d y i e l d s after seemed to r e f l e c t , to some d e g r e e , less fear of future inflation. To be s u r e , a n u m b e r of f a c t o r s that may not be have helped to hold price i n c r e a s e s appreciation have placed The continuing of the dollar and strong c o m p e t i t i o n s t r o n g p r e s s u r e s on p r i c e s and w a g e s manufacturing down. and mining industries. Widespread lasting from in imports some declines in -3commodity still that prices persist higher than we would progress potentially wage cannot against indefinitely. like to see. Unemployment But it is a l s o i n f l a t i o n , as it is p r o l o n g e d , feed on i t s e l f by e n c o u r a g i n g is true can restrained price and behavior. As we start reasonably favorable Open Market broadly the Congressional growth to produce in t h e s e Committee members in my t e s t i m o n y economic 1985, the immediate in But we must that stability decline is to b e c o m e appears of Federal be r e v i e w i n g those of the strong later Administration, observers; enough in u n e m p l o y m e n t , in with 1985 little inflation. not be b e g u i l e d potential -- Projections I will to remain into any false sense of comfort enormous outlook Office, and many other is e x p e c t e d some further if any p i c k u p respects. parallel Budget economic by t h o s e t r a n q u i l that all of the American not just is w e l l . economy for 1985 but forecasts If the for growth and for the years beyond r e a l i t y , we need a sense of u r g e n c y , not of relaxati on. For one thing, with the general in t h e n e i g h b o r h o o d of 4 p e r c e n t services account more that today rapidly than that progress against more favorable -- price a year for so m u c h we should inflation with -- still and with rising prices of the economy I noted success. of rising not confuse evidence ultimate price expectations level of Indeed, a few moments ago the -4could prove fragile that public policy inflationary highly That of m o n e t a r y Perhaps more and there credit problems. must some Those will the long-term "pause11 Demand does imbalances What was growth effects goods and since 1982. as well that dealt was that under domestic with effectively, by t h e quarter. That Such a period. inventory production adjustments. the slowing of summer import trend demand increased to deficit -- of that t r e n d , is, to say the l e a s t , was higher about and counting by a b o u t the surge toward than ever before, has deteriorated The sustainabi1ity slowdown in i m p o r t s , m a g n i f y i n g deficit account as e c o n o m i c a l l y , are aggravated of an e x p a n s i o n but the underlying Our trade -- the and are highlighted require by a s u r g e current services international and occasional in 1 9 8 4 , far h i g h e r external in of of the e c o n o m y in t h e t h i r d producers. by y e a r - e n d , is c l e a r . was feature summer accompanied $110 billion entire develop on d o m e s t i c concern the strength and pressures unless smoothly, last to outlook. imbalances grow unusual reversed imports not will was that, an u n u s u a l areas recurrent we experienced is not despite strains imbalances in G N P g r o w t h and accommodate be of p a r t i c u l a r important have been One of those indications policy. by u n d e r l y i n g undercut to any to accept immediately, expansion, strain vulnerable is p r e p a r e d forces. the conduct overall -- $100 the both billion politically questionable. -5The rising trade deficit of a n u m b e r of i m p o r t a n t in t h e e x p a n s i o n . further problems pressed historically sectors Agriculture* d u c e r s , and the metals structural helps account for the to p a r t i c i p a t e heavy capital industry., all at all of w h i c h face pro- difficult They are rates t h a t , as you k n o w , h i g h , b o t h in n o m i n a l fully equipment in a n y e v e n t , a r e e x a m p l e s . by i n t e r e s t failure remain terms and relative to recent inflation. Looking remains abroad, growth sluggish and depreciation amid continuing Important developing stability and maintain burdens. In t h i s countries and continued high large federal budget absence of d e c i s i v e Government of r e c e s s i o n vis-a-vis unemployment, the dollar are still policies. struggling laboring to restore under heavy world, these debt difficulties prospects. that the record external interest only deepen corrective incomes imbalance rates have been accompanied deficits deficits in b o o s t i n g are weak. levels of -- deficits of both the A d m i n i s t r a t i o n Office will countries more expansionary growth while It is no c o i n c i d e n c e useful high inhibiting interdependent f e e d b a c k on our own Budget industrial of their c u r r e n c i e s seems to be one f a c t o r projections in m a n y that according and the to Congressional in t h e y e a r s a h e a d in the action. can be r e l a t i v e l y and purchasing and when private by investment benign power and in t h e and credit It is a l s o t r u e t h a t o u r g r o w i n g v o l u m e of even slough demands imports -6over the last two years has provided an i m p e t u s other countries when other expansionary M o r e o v e r , the kind of o b v i o u s of, domestic has developed forces were imports, and strong has not been investment we have been able to attract from abroad to s u p p l e m e n t approached to be still $100 billion mainly l a s t y e a r , and it w i l l Domestic That dollar. net savings -- by governments generated same inflow of funds has e n c o u r a g e d from -- are abroad internally. welcome the capital a yery d o l l a r , in t u r n , c o n t r i b u t e s The half inflow from abroad plain about the trade deficit strong importantly Our policy dilemma simple but perhaps not fully understood. We cannot in t h e n e x t . logically They are two comsides coin. and investment and maintain e x p e n d i t u r e s with the help of to is in o n e b r e a t h a n d We are m a n a g i n g to finance the deficit need last year to more than the huge and growing trade deficit. housing inflow deficit. The strong of the same savings probably $325 b i l l i o n , so the s u p p l e m e n t inflow was equivalent of the budget of reason: The net capital adds close to a third to net savings net capital sharply for one amount i n d i v i d u a l s , b u s i n e s s e s , and state and local r u n n i n g at a b o u t as apparent. an e n o r m o u s our own. larger this year. out" that many anticipated We have been able to r e c o n c i l e high d e f i c i t s , rising in weak. s q u e e z e on, or " c r o w d i n g housing and investment the expansion for growth imported capital. At the same t i m e , the e x p o r t e r , imports, and the farmer Looking markets ahead, to c o n t i n u e our markets. to do so* to place So far, they of our capital before growing have been B u t w e a r e in a real and money on t h e w i l l i n g n e s s amounts of m o n e y not only willing sense with living of in but eager on b o r r o w e d money time. It is u p t o all the money all a s ueyer competing out.11 "crowded the stability is n o w d e p e n d e n t foreigners and are being those and the time. o f u s -- other of us to m a k e c o n s t r u c t i v e In e s s e n c e , t h a t for monetary policies that and fiscal can contribute use of both is t h e c h a l l e n g e policy, and for all to a p r o d u c t i v e , for the growing economy. Monetary Policy in As you will rapidly during and credit -- recall, the economy the early By e a r l y Ml i n c r e a s i n g its range part and for bank were also strong. showed 1984 of 1 9 8 4 , and d e m a n d s reserves spring, at r a t e s well for the year, which was expanding to support targeted growth by t h e f i n a n c i n g rising spending of private money monetary the upper At the same t i m e , driven levels for data available into particularly at t h e portion at 4-8 needs growth time of percent.* generated and by t h e F e d e r a l by Government, * T h e d a t a in t h i s t e s t i m o n y f o r t h e m o n e t a r y a g g r e g a t e s reflect recent seasonal and benchmark revisions* While the c h a n g e s for the y e a r as a w h o l e w e r e s m a l l , the r e v i s e d data for Ml for the f i r s t h a l f of the y e a r are l o w e r , and the s e c o n d half higher, than reported earlier. -• -8M3 and non-financial upper end of t h e i r credit were expanding long-term in s o m e l i m i t e d February supplied tory through open market at t h e d i s c o u n t demands strong expansion higher its discount demands themselves interest In A p r i l rate 1/2 of a p e r c e n t a g e rate into better alignment discourage reserve adjustment In M a y , a l i q u i d i t y concerns banks to expand crisis developed functioning continuing concerns of the i n s t i t u t i o n international to rates and The largest Federal of the b a n k , t o g e t h e r to while more the support permanent solution incident, together debt to continuing of a l o n g - t e r m Nonetheless, that about increased in o n e of t h e supervisor the orderly be d e v e l o p e d . of window. out of of the C u r r e n c y , worked closely could infla- noticeably Reserve in i t s l o a n p o r t f o l i o . and other elements With strongly, that with market Comptroller recapitalization borrowing as t h e p e r i o d at t h e d i s c o u n t Reserve, the FDIC, and the primary deposi- p o i n t to 9 p e r c e n t in t h e c o u n t r y , g r o w i n g over weaknesses being on rates moved in Reserve for reserves. the Federal bring this commercial increasingly continuing reassert in t h e s p r i n g . re- Consequently, about the possibility lengthened, the rates on r e s e r v e s operations. and the economy forces might in i n t e r e s t restraint forced to rely concerned were in t h e s p r i n g t h e F e d e r a l window to satisfy and with markets tionary were in t h e e c o n o m y upward movements some additional institutions credit forces and March, and early began to exert or above ranges. The strong expansionary flected around problems, for with a -9time contributed to uneasiness rates on s h o r t - t e r m above those on g o v e r n m e n t Demands expansion slowed. levels moderated. With contained of some rate remained with reached expansion slowing some evidence that Reserve to ease began That at t h e d i s c o u n t January. began Late to grow between 2-1/2 reduced since 1978. ^Attachments and the Federal the and range to t h e s e them, the Federal the M3 with Federal positions. borrowing declined over the declines, Reserve through reserves rates rate to 8 p e r c e n t , I & II s u m m a r i z e t h e s e Reserve response, more and range, and nonborrowed points whole September, from September percentage the discount and debts as a fall, and and facilitating markets had slowed, interest extent Illinois of its Short-term Reacting concerns interest on r e s e r v e total from the abnormal rapidly. of the y e a r . to drop the end of its steadily economic restructuring the midpoint through fell as the began By late A u g u s t growth in t h e y e a r , 3-1/2 interest appreciably as i n f l a t i o n but the money pressures window spring the upper continued months steps toward economic process rates countries, pressure. toward after midyear made toward to narrow, moving and rose of the C o n t i n e n t a l developing some Ml growth in t h e progress began instruments interest the problems and under slackened Long-term important spreads credit markets, securities,* for money the higher Bank private in b a n k i n g last and to in t w o the and related fully. four dn half-point lowest level developments, -10Several additional the appropriate the fall. factors among The dollar remained of the A m e r i c a n favorable concerns incoming actual supported without inflation of r e s e r v e s inflationary commodities relatively allay pressures. were falling could be In appre- provided supply more of some i n c r e a s e s revival ranges. at a r e l a t i v e l y c a m e to an actively rise in rapidly than the income velocity in l i n e w i t h in e c o n o m i c of Ml and M2 growth relatively As m o n e t a r y provision activity around close to the and credit year- mid-points growth rapid pace into January, the easing end. Unlike the pattern concern depreciating a basis for a destructive both aggregates respective grew more some rates and the more generous in t h e c o n t e x t end, bringing continued foreign on At the same t i m e , in t h e m o n e y in i n t e r e s t led to a rather strong of their in prices and wages tended to sensitive providing during expectations. The fall broadly experiencing and potential and growth strong pressures In t h e s e c i r c u m s t a n c e s , r e s e r v e s more liberally, about and a s o u r c e of g r o w i n g partners data about fact, prices of many process increasing vis-a-vis the dollar. about ciably. exceptionally economy some of our t r a d i n g currencies judgments d e g r e e of easing of reserve p o s i t i o n s exchange markets, potentially sectors influenced during much of 1982 and nominal 6NP (that of Ml rose 4 percent cyclical experience 1983, when is " v e l o c i t y 1 1 last year. in t h e p a s t , Ml slowed), That is taking -11into account both the pattern income growth. 1-1/2 percent M2 velocity following velocity trends provide some support over t i m e , as well the l i n e s of e a r l i e r e x p e r i e n c e . deposit those earlier for the view changes to patterns more In c o n t r a s t , rates and substantial patterns around as c y c l i c a l a period of rapid t r a n s i t i o n interest rising and declines. for t h e s e a g g r e g a t e s , m a y be r e t u r n i n g 1983, during rate movements also increased, two yearly These developments that of interest in 19 8 2 and to deregulation economic had been disrupted along of uncertainty, and velocity had decli ned appreci ably. T h e r i s e in M 3 a n d c r e d i t t i o n s at t h e s t a r t a considerable margin and It r e f l e c t s exceeded by ranges over In f a c t , c r e d i t at its most increased post-Wo rid War r e l a t i v e to nominal this magnitude would expecta- the upper limits of their rapid pace over the entire with the long-run 1984 exceeded of the y e a r , and both m e a s u r e s the y e a r as a w h o l e . absolute terms during GNP. a p p e a r to be m u c h health II p e r i o d , Debt of consistent and financial to some d e g r e e the i m b a l a n c e s in growth faster than of our e c o n o m y both system. in o u r e c o n o m y I emphasi zed earli er . For example, the budget federal debt deficit of 16 p e r c e n t , an u n p r e c e d e n t e d in t h e s e c o n d y e a r o f a b u s i n e s s debt of n o n - f e d e r a l led to expansion cycle. s e c t o r s , at n e a r l y rate of The growth 13 p e r c e n t , of growth of also the was -12high r e l a t i v e to past e x p e r i e n c e . i n p r i v a t e d e b t -- A p o r t i o n of t h i s perhaps around 1-1/2 growth percentage points - can be a t t r i b u t e d to a huge v o l u m e of m e r g e r s , leveraged b u y o u t s , and s t o c k r e p u r c h a s e s by b u s i n e s s e s w h i c h h a d e f f e c t of s u b s t i t u t i n g debt for e q u i t y . sales of new s t o c k , n o n - f i n a n c i a l the Despite some c o r p o r a t i o n s on sizable balance r e t i r e d a b o u t $70 b i l l i o n of stock last y e a r . W h a t e v e r the c i r c u m s t a n c e s and j u s t i f i c a t i o n for particular companies involved, a financial tends toward more debt structure that (and s h o r t e r d e b t ) r e l a t i v e to becomes more vulnerable over time. developments are reduced, adverse These are lending institutions should take into a c c o u n t in e v a l u a t i n g n e w c r e d i t s , a n d r e p o r t s s u g g e s t s o m e b a n k s d i d in f a c t r e v i e w t h e i r p o l i c i e s t o w a r d and l e v e r a g e d b u y o u t f i n a n c i n g as the y e a r w o r e on. of debt r e l a t i v e to 6NP may also reflect the fact for i n s t a n c e , will A new domestic machine, require financing, whether purchased home or a b r o a d , and s h a r p l y i n c r e a s i n g a m o u n t s of e q u i p m e n t h a v e in f a c t b e e n i m p o r t e d . growth that faster than p r o d u c t i o n , w h i c h is w h a t t h e 6 N P m e a s u r e s . that mergers W h i l e the e f f e c t c a n n o t be i s o l a t e d , the rapid domestic spending increased appreciably be increases in i n t e r e s t r a t e s is m a g n i f i e d , a n d c u s h i o n s a g a i n s t factors that prudent equity More cash flow must d e d i c a t e d to debt s e r v i c i n g , e x p o s u r e to s h o r t - r u n e c o n o m i c or financial the at capital As I i n d i c a t e d earlier, -13d i r e c t l y o r i n d i r e c t l y , t h a t f i n a n c i n g m a y be s u p p l i e d a b r o a d , a l l e v i a t i n g t h e p r e s s u r e s on o u r m a r k e t . burden inevitably rests with the M o n e t a r y P o l i c y in from But the debt borrower. 1985 At i t s m e e t i n g l a s t w e e k t h e F O M C a g r e e d t o s o m e c h a n g e s in s o m e o f t h e r a n g e s f o r t h e m o n e t a r y a n d aggregates tentatively set o u t l a s t J u l y . The small debt modifications a r e in r e s p o n s e t o a n a l y s i s of i n f o r m a t i o n n o w a v a i l a b l e do n o t r e p r e s e n t a n y c h a n g e in p o l i c y i n t e n t i o n s . the attached t a b l e , for M l , the C o m m i t t e e and As s h o w n on reaffirmed the t e n t a t i v e r a n g e it a d o p t e d l a s t J u l y of 4 to 7 p e r c e n t lower growth f r o m t h e f o u r t h q u a r t e r of 1 9 8 4 t o t h e f o u r t h q u a r t e r of 1 9 8 5 . M 2 is t a r g e t e d t o g r o w b e t w e e n 6 a n d 9 p e r c e n t , t h e s a m e as u s e d in 1 9 8 4 . range T h e u p p e r e n d of t h a t r a n g e w a s i n c r e a s e d by 1/2 p e r c e n t f r o m t h e t e n t a t i v e r a n g e f o r 1 9 8 5 set in J u l y . That small a d j u s t m e n t reflects a technical judgment -- b a s e d a s s e s s m e n t of r e c e n t d e v e l o p m e n t s -- t h a t M 2 c o u l d e x p a n d in l i n e w i t h i n c o m e g r o w t h t h i s y e a r , in k e e p i n g w i t h h i s t o r i c r e c o r d o f l i t t l e t r e n d g r o w t h in i t s more the velocity. T h e u p p e r e n d of t h e n e w M 3 r a n g e of 6 - 9 1/2 percent w a s a l s o s e t 1/2 p e r c e n t h i g h e r t h a n t e n t a t i v e l y a g r e e d July. on in T h e a s s o c i a t e d m o n i t o r i n g r a n g e f o r c r e d i t w a s set at 9 to 12 p e r c e n t , a p e r c e n t a g e p o i n t a b o v e t h e 1 9 8 4 range. A d j u s t m e n t s in b o t h t a r g e t r a n g e s s t i l l c o n t e m p l a t e a c o n s i d e r a b l e s l o w i n g in t h e s e t w o a g g r e g a t e s f r o m w h a t a c t u a l l y occurred -14in 1 9 8 4 . E v e n s o , c r e d i t g r o w t h , f u e l e d in p a r t by t h e budget d e f i c i t , is e x p e c t e d t o b e q u i t e s t r o n g , s i g n i f i c a n t l y exceeding t h e r a t e of e x p a n s i o n of 6NP for t h e t h i r d c o n s e c u t i v e year. The C o m m i t t e e d o e s not a n t i c i p a t e that g r o w t h of debt within the targeted range would necessarily pose n e w r i s k s for t h e e c o n o m y or the f i n a n c i a l immediately ahead. will significant s y s t e m in t h e y e a r However, a healthy financial structure in t i m e r e q u i r e m o r e r e s t r a i n t on b o r r o w i n g r e l a t i v e to t h e e c o n o m i c g r o w t h t h a t , in t h e l a s t a n a l y s i s , p r o v i d e s the w h e r e w i t h a l to s e r v i c e the debt. in One c o n t i n u i n g p r o b l e m t h a t r e s p e c t is t h e e x t e n t t o w h i c h t h e c u r r e n t t a x structure t e n d s to f a v o r debt r a t h e r than e q u i t y f i n a n c i n g , a p o i n t a d d r e s s e d in t h e A d m i n i s t r a t i o n ' s reform proposals. T h e r a n g e s f o r g r o w t h in m o n e y a n d c r e d i t a r e expected by F O M C m e m b e r s a n d n o n - v o t i n g R e s e r v e B a n k P r e s i d e n t s to s u p p o r t a n o t h e r y e a r of s a t i s f a c t o r y e c o n o m i c e x p a n s i o n an a c c e l e r a t i o n of i n f l a t i o n . without F o r e c a s t s of r e a l G N P growth c e n t e r e d a r o u n d r a t e s of 3-1/2 to 4 p e r c e n t f r o m t h e fourth q u a r t e r o f 1 9 8 4 t o t h e f o u r t h q u a r t e r of 1 9 8 5 -p a t e d to be s u f f i c i e n t to r e d u c e t h e u n e m p l o y m e n t a r o u n d 6 - 3 / 4 t o 7 p e r c e n t by y e a r - e n d . rates antici- rate to I n f l a t i o n , as measured by t h e G N P d e f l a t o r , w a s e x p e c t e d m o s t f r e q u e n t l y t o b e in a r a n g e of 3 - 1 / 2 to 4 p e r c e n t o v e r t h e y e a r , a b o u t t h e s a m e rate as p r e v a i l e d in 1 9 8 4 . * * T h e s e p r o j e c t i o n s , n o w r e g u l a r l y s e t o u t in o u r H u m p h r e y H a w k i n s R e p o r t s , s h o u l d n o t be i n t e r p r e t e d a s i n d i c a t i n g " t a r g e t s 1 1 f o r r e a l g r o w t h o r i n f l a t i o n in t h e s h o r t o r l o n g e r r u n . A s d i s c u s s e d in A t t a c h m e n t I I I , t h e C o m m i t t e e d o e s n o t target a s p e c i f i c l o n g - r a n g e growth path for the e c o n o m y . -15In v i e w of t h e n e c e s s a r i l y t e n u o u s n a t u r e of a n y about the outlook for exchange rates, FOMC members their projections its level of recent m o n t h s . assumed that the federal in f i s c a l development preparing also b u d g e t d e f i c i t w o u l d be r e d u c e d that would help damp both interest sig- rate and Obviously, those assumptions s o m e of the i m p o r t a n t As I i n d i c a t e d They in 1986 relative to base line p r o j e c t i o n s , a tionary expectations. risks inherent in d i s c u s s i n g ed 1985 with the v a r i o u s m o n e t a r y rapidly. in assumed that the dollar would fluctuate a range encompassing nificantly judgment in t h e infla- suggest outlook. 1984 d e v e l o p m e n t s , we aggregates growing enter- relatively T h e t a r g e t s for t h i s y e a r t a k e , as u s u a l , the actual a v e r a g e for the f o u r t h q u a r t e r of the p r e v i o u s y e a r as a (or " b a s e 1 1 ) . ing point C o n s e q u e n t l y , we are starting the w i t h the l e v e l s of t h e a g g r e g a t e s they have been conventionally called "cones" starting above the target illustrated arbitrary. Interpreted I to as so- rigidly (and w r o n g l y ) , the a t t a c h p o l i c y i m p o r t a n c e to l e v e l s or m o v e m e n t s a g g r e g a t e s t h a t in f a c t h a v e n o essentially narrowness literally in t h e m o n e y s u p p l y -- and IV0) a n d w i d e l y u s e d " p i c t u r e " is than some weekly fluctuations narrower would in t h e various significance. We have sometimes c o n s i d e r e d , and others have ranges -- t h a t i s b y (See Charts o f a c o n e i n t h e e a r l y p a r t o f t h e y e a r -- a better year at a p o i n t l a t e t h e p r e v i o u s y e a r widening through the current year. That conventional start- suggested, " p i c t o r i a l " a p p r o a c h w o u l d be to i l l u s t r a t e the targets -16by a d i f f e r e n t parallel (but also n e c e s s a r i l y a r b i t r a r y ) c o n v e n t i o n l i n e s d r a w n b a c k f r o m t h e o u t e r b o u n d s of t h e -• specified f o u r t h q u a r t e r t a r g e t r a n g e s to t h e b a s e p e r i o d , as s h o w n the charts attached. The target r a n g e is t h e n p o r t r a y e d maintaining the same width throughout the year. The as current l e v e l s of t h e a g g r e g a t e s , as y o u c a n s e e on t h e c h a r t s , within such parallel are lines.* As a m a t t e r of e c o n o m i c s and p o l i c y , r a t h e r than the Committee graphics, i s n o t d i s t u r b e d by t h e p r e s e n t l e v e l o f M l M2 r e l a t i v e to its i n t e n t i o n s for the y e a r . t h a t , as t h e y e a r p r o g r e s s e s , g r o w t h will the target in It and contemplates slow consistent with ranges. C o n s i s t e n t w i t h t h a t a p p r o a c h , as I i n d i c a t e d earlier, the p r o g r e s s i v e p r o c e s s of e a s i n g r e s e r v e p o s i t i o n s undertaken in t h e l a t t e r p a r t o f 1 9 8 4 e n d e d . reserves The p r o v i s i o n of t h r o u g h o p e n m a r k e t o p e r a t i o n s is c u r r e n t l y b e i n g a bit m o r e c a u t i o u s l y to guard a g a i n s t i n a d v e r t e n t in s u p p l y i n g reserves. conducted "overshoots11 A n y f u r t h e r c h a n g e in a p p r o a c h as a l w a y s , d e p e n d upon a s s e s s m e n t s of the t r e n d of g r o w t h in t h e p e r i o d a h e a d , e v a l u a t e d monetary in t h e c o n t e x t o f f l o w of i n f o r m a t i o n on t h e e c o n o m y , on p r i c e s , and on credit and exchange The annual will, the domestic markets. target ranges for Ml and M2 a s s u m e that in v e l o c i t y a r e r e t u r n i n g t o a m o r e n o r m a l and trends predictable ^ A t t a c h m e n t IV a d d r e s s e s t h e d i f f e r e n t b u t r e l a t e d q u e s t i o n s o f t h e a p p r o p r i a t e " b a s e " u s e d in s e t t i n g a n d i l l u s t r a t i n g targeted growth ranges. -17pattern. H o w e v e r , t h e r e is s o m e a n a l y s i s t h a t s u g g e s t s the t r e n d o f v e l o c i t y o v e r t i m e m a y be a l i t t l e l o w e r t h a n the t r e n d of 3 p e r c e n t or so c h a r a c t e r i s t i c of m u c h of t h e postwar period when interest rates were trending higher. Should devel- o p m e n t s d u r i n g 1985 tend to c o n f i r m that s o m e w h a t lower velocity g r o w t h , and p r o v i d e d that i n f l a t i o n a r y p r e s s u r e s remain subdued, the C o m m i t t e e a n t i c i p a t e s that those a g g r e g a t e s might end y e a r in t h e u p p e r p a r t o f t h e i r r a n g e s . The l o w e r part of the Ml r a n g e w o u l d be c o n s i s t e n t w i t h g r e a t e r c y c l i c a l velocity than now thought likely. growth in As u s u a l , t h e s e r a n g e s b e r e v i e w e d at m i d - y e a r , in a c c o r d a n c e w i t h Act the will Humphrey-Hawkins procedures. The Challenge Ahead The approach toward monetary policy that I have f o r 1 9 8 5 is d e s i g n e d t o p r o m o t e , as b e s t w e c a n , o u r o b j e c t i v e s of s u s t a i n e d g r o w t h and s t a b i l i t y . t h e s t r o n g p r o g r e s s of 1 9 8 3 a n d 1 9 8 4 . in t h e e c o n o m y . d e g r e e of c o n t r o l outlined common We c a n b u i l d T h e r e is f o r w a r d on momentum T h e p u b l i c at l a r g e s e e m s t o s e n s e a g r e a t e r o v e r i n f l a t i o n t h a n f o r m a n y a y e a r -- a n d I s e n s e some c h a n c e of f u r t h e r p r o g r e s s t o w a r d p r i c e t h i s y e a r e v e n as t h e e c o n o m y stability grows. H a p p i l y , d e s p i t e the s t r e n g t h of the e c o n o m i c advance and the f i n a n c i n g of a huge d e f i c i t , i n t e r e s t rates are t o d a y l i t t l e a b o v e t h o s e of two y e a r s a g o . The t h r e a t s of financial d i s l o c a t i o n g r o w i n g out of the debt p r o b l e m s of m u c h of t h e -18d e v e l o p i n g w o r l d , or from m o r e p u r e l y d o m e s t i c f i n a n c i a l pres- sures, have been well contained. with- Points of s t r a i n w i l l , out doubt, require continuing attention this y e a r . But, the c o n t e x t of a h e a l t h y e c o n o m y , they are c a p a b l e of ti o n in resolu- # B y e n c o u r a g i n g a p p r o p r i a t e g r o w t h in m o n e y a n d in d i s c h a r g i n g o u r s u p e r v i s o r y when necessary the essential a n d in o u r g e n e r a l Federal credit, r e s p o n s i b i l i t i e s , in performing f u n c t i o n s of l e n d e r of last s u r v e i l l a n c e of t h e f i n a n c i a l resort, system, R e s e r v e c a n h e l p b u i l d on t h a t p r o g r e s s . the We a i m t o do so. B u t it is e q u a l l y i m p o r t a n t t o u n d e r s t a n d c l e a r l y monetary policy and the Federal Reserve cannot what do. The p r o g r e s s a g a i n s t i n f l a t i o n , the s t r e n g t h of the and the competition from abroad, and some m a r g i n s (if diminish- ing) of c a p a c i t y and m a n p o w e r have p r o v i d e d a c e r t a i n of f l e x i b i l i t y in t h e c o n d u c t of m o n e t a r y p o l i c y . dollar degree But that l i m i t e d f l e x i b i l i t y w o u l d be a b u s e d at o u r c o l l e c t i v e peril. Credibility precious thing. in t h e e f f o r t t o d e a l w i t h i n f l a t i o n is a The lesson here and abroad, now and through is t h a t , o n c e a s e n s e o f p r i c e s t a b i l i t y restored only with pain and The Federal history, i s l o s t , it c a n be suffering. Reserve can theoretically run the modern e q u i v a l e n t o f t h e p r i n t i n g p r e s s -- w e c a n c r e a t e m o r e money. But m o r e m o n e y is not t h e s a m e as c o r r e c t i n g t h e g r o s s imbalance -19b e t w e e n our a b i l i t y to g e n e r a t e real savings and the f o r t h o s e s a v i n g s p o s e d by h o u s i n g , by i n v e s t m e n t federal demands and by the deficit. To create money beyond that needed to sustain g r o w t h w o u l d be to i n v i t e r e n e w e d i n f l a t i o n t i v e s t o s a v e in t h e p r o c e s s . -- orderly damaging incen- In c o n t r a s t , t o e n c o u r a g e savings from i n c o m e w o u l d be to p r o v i d e m o r e of the real resources need for future growth productivity -- a n d it w o u l d h e l p s p u r and reduce price pressures in t h e process. I f t h a t r o u t e i s n ' t o p e n t o u s -- and as a practical m a t t e r we p r o b a b l y c a n ' t do m u c h right now to c h a n g e s a v i n g s b e h a v i o r -- then the only constructive ingrained alternative to a t t a c k the p r o b l e m from the o t h e r side of the l e d g e r reducing the federal is by deficit. For the time being, capital from abroad has been readily a v a i l a b l e to close the growing gap between our d o m e s t i c and the demands upon them, moderating rates. we p r e s s u r e s on savings interest I n d e e d , t h e m o n e y a t t r a c t e d p a r t l y by p e r c e p t i o n s o u r s t r e n g t h h a s c o m e so f r e e l y w e h a v e an e x c e p t i o n a l l y dollar. agriculture, aggravating structural No doubt bad monetary a monetary our problems. policy could drive the policy that aroused inflationary t i o n s , u n d e r m i n e d c o n f i d e n c e , and drove away foreign strong But that same strong dollar c o n t r i b u t e s to a m a s s i v e t r a d e d e f i c i t that s t r a i n s key s e c t o r s of i n d u s t r y and d o w n -- of dollar expectacapital. -20But then, how would we finance our investment and our budget deficit? N o r is t h e p r o c e s s of m o n e y c r e a t i o n a d a p t e d to particular sectoral strains within our economy. w i l l , in o u r a d m i n i s t r a t i o n relieving We can and of t h e d i s c o u n t w i n d o w a n d in a c t i o n s as l e n d e r of last r e s o r t , p r o t e c t the e s s e n t i a l cial f a b r i c by s u p p o r t i n g faced with extraordinary But the evident credit-worthy depository finan- institutions needs. p r o b l e m s of p a r t i c u l a r s e c t o r s , in last a n a l y s i s , will y i e l d only to m e a s u r e s that s u p p o r t efficiency and broaden their m a r k e t s . large agenda, for government the process will the their T h a t in i t s e l f i s a and those involved a l i k e . And be m u c h e a s i e r if w e at t h e s a m e t i m e the basic imbalance our address between our c a p a c i t y to save and our to invest and to f i n a n c e the g o v e r n m e n t that I have need emphasized today. Conclusion I fully appreciate the difficulties b e f o r e you as y o u c o l l e c t i v e l y budgetary choices. approach those excruciating r e d u c t i o n of the That, indeed, would provide the most kind of r e a s s u r a n c e that g r o w t h can be s u s t a i n e d r o n m e n t of g r e a t e r decisions As y o u do s o , I k n o w t h a t y o u are of the p r i o r i t y that p r o g r e s s i v e deserves. of the stability. aware deficit fundamental in an envi- -21For our p a r t , in the conduct of m o n e t a r y p o l i c y , we in the Federal R e s e r v e will be s e n s i t i v e to both the o p p o r t u n i t i e s and the d a n g e r s b e f o r e u s . We b e l i e v e the approach I have out- lined with respect to the m o n e t a r y t a r g e t s and our i m p l e m e n t a tion of policy s e n s i b l y reflects and b a l a n c e s the c o n c e r n s I am sure we s h a r e . ******* Chart 1 M1 Target Ranges and Actual Billions of dollars 600 7% 580 560 Actual M1 / y 540 i O N D 1983 J F M A M J J 1984 A S O N D I i J 520 F M A M J J 1985 A S O N D Chart 2 M2 Target Ranges and Actual Billions of dollars g 2600 9%' H 2550 2500 H2450 -H2400 H 2350 I O N 1983 D J F M A M J J A I S I O I N I D I J I F I M I A M I J I I J I A 1 S I O I N D Chart 3 M3 Target Ranges and Actual Billions of dollars 3300 91/2% 3200 3100 3000 2900 6% 2800 2700 I O N 1983 D J F M A M J I 1 J 1984 I A S I O I N I D J F M A M J J I J 1985 2600 A S O N D Chart 4 Debt Monitoring Ranges and Actual Billions of dollars 6800 12% 6600 6400 6200 6000 5800 Actual Debt \ 8% 5600 5400 5200 I O I N 1983 I D J 1 1 F M I A M J J 1984 A S O N D J I 8 F I M A 1 1 I M J J 1985 J A S O N I 5000 D Attachment I The I m p l i c a t i o n s for M o n e t a r y P o j j c y of t h e N e a r of t h e C o n t i n e n t a l I l l i n o i s B a n k T h e c o n d i t i o n of t h e C o n t i n e n t a l Failure I l l i n o i s B a n k -- t h e s e v e n t h l a r g e s t in t h e U n i t e d S t a t e s at t h e b e g i n n i n g of 1 9 8 4 -- had b e e n a m a t t e r of c o n c e r n to r e g u l a t o r y authorities and m a r k e t p a r t i c i p a n t s for s o m e t i m e , p a r t i c u l a r l y a f t e r t h e f a i l u r e of the Penn S q u a r e B a n k in t h e m i d d l e of 1 9 8 2 b r o u g h t to l i g h t l a r g e loan l o s s e s and w e a k n e s s e s in c r e d i t policy. C o n t i n u i n g p r o f i t and loan p r o b l e m s c u l m i n a t e d in r u m o r s of p o s s i b l e i m p e n d i n g f a i l u r e and a l i q u i d i t y c r i s i s in May 1 9 8 4 , i n v o l v i n g w i t h d r a w a l or f a i l u r e to r e n e w b i l l i o n s of d o l l a r s of d e p o s i t s in t h e bank o v e r a few d a y s . T h e F D I C , t h e F e d e r a l R e s e r v e , and t h e C o m p t r o l l e r of t h e C u r r e n c y , w i t h t h e c o o p e r a t i o n of a g r o u p of m a j o r b a n k s , d e v e l o p e d a r r a n g e m e n t s to p r o v i d e t e m p o r a r y c a p i t a l and s u p p o r t p e n d i n g m o r e p e r m a n e n t s o l u t i o n s and liquidity reorganization. T h e F e d e r a l R e s e r v e -- a c t i n g as l e n d e r of last r e s o r t -- p r o v i d e d l a r g e a m o u n t s of f u n d s t h r o u g h t h e d i s c o u n t w i n d o w to maintain the bank's liquidity. That lending rose irregularly f r o m a r o u n d $3 b i l l i o n d u r i n g m o s t of May to a peak of m o r e than $7 b i l l i o n in A u g u s t . D u r i n g t h e a u t u m n t h e a m o u n t of o u t s t a n d i n g l o a n s d e c l i n e d to m u c h r e d u c e d l e v e l s . P r o v i s i o n of f u n d s t h r o u g h t h e d i s c o u n t w i n d o w has t h e e f f e c t of e x p a n d i n g t o t a l b a n k r e s e r v e s , and u n l e s s otherwise o f f s e t , t h e l e n d i n g to t h e b a n k w o u l d h a v e had t h e e f f e c t of 1-2 e x p a n d i n g the money supply well beyond targeted ranges* m a i n t a i n c o n s i s t e n c y of r e s e r v e p r o v i s i o n w i t h F O M C essentially equivalent open market operations. To intentions, a m o u n t s of r e s e r v e s w e r e a b s o r b e d While the large borrowings involved some added technical by necessarily d i f f i c u l t i e s and u n c e r t a i n t i e s t h e c o n d u c t of open m a r k e t o p e r a t i o n s , the C o m m i t t e e was to a c h i e v e its r e s e r v e Illinois Bank, particularly which international able objectives. At t h e s a m e t i m e , h o w e v e r , the l i q u i d i t y c r i s i s Continental in of in an e n v i r o n m e n t debt and other credit p r o b l e m s w e r e in attract- ing a t t e n t i o n , g e n e r a t e d c o n c e r n about p o s s i b l e t h r e a t s to the s t a b i l i t y of o t h e r f i n a n c i a l institutions. As a r e s u l t , e s t r a t e s on b a n k i n g l i a b i l i t i e s r o s e a p p r e c i a b l y interest inter- relative to r a t e s on T r e a s u r y s e c u r i t i e s d u r i n g t h e s p r i n g . c a u t i o u s f u n d i n g a n d l e n d i n g p o l i c i e s by a n u m b e r o f a p p e a r e d t o h a v e s o m e e f f e c t on m a i n t a i n i n g banks short-term r a t e s at h i g h e r l e v e l s t h a n m i g h t o t h e r w i s e h a v e b e e n More interest the case. T h e e x t r a o r d i n a r y c o n c e r n s in t h e m a r k e t p l a c e dissipated a s t h e y e a r w o r e o n , r e f l e c t i n g s o m e s e n s e o f p r o g r e s s in d e a l ing with both the international domestic financial strain. debt situation and points S t r o n g l i q u i d i t y p r e s s u r e s at of t h e l a r g e s t s a v i n g s and l o a n o r g a n i z a t i o n s d u r i n g t h e of one late s u m m e r a n d f a l l , r e q u i r i n g s i z a b l e l i q u i d i t y s u p p o r t by t h e Federal H o m e L o a n B a n k S y s t e m , h a d l e s s e r e f f e c t s on attitudes. market 1-3 The experience the strong of 1 9 8 4 , t o g e t h e r continuing pressures have underscored for depository adequate and prudent capital of a s s e s s i n g and controlling been m a d e by m a n y crease capital in t h e e n v i r o n m e n t be r e f l e c t e d system. institutions risk. in s t r o n g e r efforts of the the importance Substantial economy, institutions standards. these efforts and a reinforced of means efforts organizations credit and economy policies, and other banking and to review of a g r o w i n g supervisory on s o m e s e c t o r s lending of the larger ratios with have to in- In time, should banking A t t a c h m e n t II T h e I n t e r n a t i o n a l D e b t S i t u a t i o n in 1984 At t i m e s d u r i n g 1 9 8 4 , c o n c e r n s a b o u t t h e e x t e r n a l debt p r o b l e m s of key b o r r o w i n g c o u n t r i e s c o n t i n u e d to be an impor- t a n t f a c t o r a f f e c t i n g a t t i t u d e s in f i n a n c i a l m a r k e t s . As t h e y e a r b e g a n , m a r k e t s had substantial doubts about the viability of the B r a z i l i a n a d j u s t m e n t p r o g r a m , the p r o g r a m s of the V e n e z u e l a n and A r g e n t i n e g o v e r n m e n t s were u n k n o w n , and new there w a s s o m e s e n s e of w e a r i n e s s a m o n g t h e b o r r o w i n g c o u n t r i e s their creditors. T e n s i o n s w e r e a g g r a v a t e d by i n c r e a s e s d o l l a r i n t e r e s t r a t e s in t h e s p r i n g a n d e a r l y in summer. S u b s e q u e n t l y , c o n c e r n s in f i n a n c i a l m a r k e t s r e c e d e d w h a t as i n t e r e s t r a t e s m o v e d l o w e r , c l e a r p r o g r e s s w a s in n a r r o w i n g s o m e c o u n t r i e s 1 e x t e r n a l and some- recorded i m b a l a n c e s , and plans for l o n g - t e r m debt r e s t r u c t u r i n g w e r e d e v e l o p e d for s o m e of the 1argest borrowers. T h e i m p r o v e m e n t s in e x t e r n a l a c c o u n t s in M e x i c o and V e n e z u e l a in L a t i n A m e r i c a , a n d in Y u g o s l a v i a a n d H u n g a r y Eastern Europe, produced current account surpluses last Brazil's current account deficit was essentially and a number of other c o u n t r i e s had reduced in year. eliminated, deficits. T h i s p r o g r e s s w a s f a c i l i a t e d in m a n y c a s e s b y significant i n c r e a s e s in e x p o r t s , p a r t i c u l a r l y t o t h e U n i t e d S t a t e s , a n d in m o s t c a s e s w a s a c c o m p a n i e d b y a r e c o v e r y -- o r a t a s l o w e r r a t e o f d e c l i n e -- of i m p o r t s . Such least developments, 11-2 coupled with continued sizable increases countries moderate capital in t h e i n t e r n a t i o n a l and to the p r o s p e c t s nary external financing inflows, contributed r e s e r v e s of m a n y of of r e d u c e d in t h e f u t u r e . demands this background, several adjustment and financing when warranted longer-term terms that by p r o g r e s s or m u l t i - y e a r reflect have been agreed contains serious negotiations and the financing some longer-term of p r o g r e s s markets will or the lack t h e r e o f . countries, commercial imaginative by i n d i v i d u a l Cooperation countries solutions is n o t over. for in 1 9 8 4 on t h e and which internal indications among borrowing institutions, c o n t i n u e to be r e q u i r e d . and c o n s t r u c t i v e and with of a d j u s t m e n t s e n s i t i v e to banks, multilateral creditor countries will banks package prepared from developments remain plann- arrangements have begun in 1 9 8 2 is f a r f r o m c o m p l e t e , p a r t i c u l a r l y Financial on elements. the first m o n t h s of 1985 that the p r o c e s s side. Such for debts and permit between the commercial H o w e v e r , it i s a l s o e v i d e n t began iniative, of o u t s t a n d i n g basis for the f u t u r e . and Y u g o s l a v i a ; their has been planning creditworthiness in p r i n c i p l e M e x i c o and V e n e z u e l a ; Argentina restructuring borrowing p h a s e in One important in a d j u s t m e n t , stronger ing on a m o r e a s s u r e d Brazil programs. most growth. of the m a j o r c o u n t r i e s w e r e a b l e to m o v e on to a s e c o n d these extraordi- At t h e s a m e t i m e , of t h o s e c o u n t r i e s m a n a g e d to a c h i e v e d o m e s t i c Against for to and The need to the problems for faced A t t a c h m e n t III T a r g e t i n g Real G r o w t h Questions forecasts sometimes for real a r i s e as to w h e t h e r t h e G N P g r o w t h or p r i c e s a r e in t h e n a t u r e short-run targets toward which the Federal p o l i c y , or w h e t h e r the C o m m i t t e e how rapidly the economy longer Committee's Reserve "fine has preconceptions can and should of tunes" about just grow over the medium or run. The answer to those questions is n o . is, of c o u r s e , b r o a d l y d i r e c t e d t o w a r d process in a n o n - i n f l a t i o n a r y sustaining environment. as a g r o u p has no p r e c o n c e i v e d Monetary policy the But the growth Committee n o t i o n as to j u s t how rapid g r o w t h can or s h o u l d be o v e r a p a r t i c u l a r p e r i o d of t i m e , out straining our r e s o u r c e s or g i v i n g and i m b a l a n c e s rise to price t h a t w o u l d m a k e it u l t i m a t e l y Our capacity pressures unsustainable. for g r o w t h o v e r t i m e d e p e n d s on s u c h a b l e s as t h e t r e n d s in p r o d u c t i v i t y , vari- in t h e l a b o r f o r c e , i n c e n t i v e s t o s a v e a n d i n v e s t , a n d in o t h e r f a c t o r s o v e r monetary policy has essentially with- no d i r e c t or l o n g - r u n in which influence, There are other p o l i c i e s , public and p r i v a t e , quite outside p u r v i e w of m o n e t a r y potential and actual policy that will growth paths over time. in a n d o u t s i d e t h e F e d e r a l that affect economic operational both our There are R e s e r v e as to s o m e of t h e s e g r o w t h , but annual monetary targets d e c i s i o n s do n o t , and n e e d n o t , rest on s u c h tions for the long influence run. the growth debates factors and assump- III-2 For faster instance, the Committee growth than with moderating than predicted inflationary would presumably f o r 1 9 8 5 if t h a t sistent with our monetary greater targets. Indeed, the between money and economic sufficiently proved forces, and indeed, a n t i c i p a t e d would tend to e n c o u r a g e growth at any p o i n t loose that many other factors welcome consistent less inflation growth, con- relationship in t i m e bear upon is actual performance. In s u m , p o l i c i e s incoming information are periodically about prices, output, exchange other variables bearing for inflation. In p r a c t i c e t h e r e our targeting suggest on o u r g r o w t h procedures g r e a t e r or lesser reassessed potential is s u f f i c i e n t to a c c o m m o d a t e growth and over rates of and prospects flexibility information potential in l i g h t that time. in might A t t a c h m e n t IV The Base for Monetary Target Some questions have been raised concerning u s e d by t h e O p e n M a r k e t C o m m i t t e e the monetary and credit the "base" in d e c i d i n g on t a r g e t s aggregates for the calendar Consistent with the Humphrey-Hawkins Committee's target Ranges year. Act p r o c e d u r e s , the ranges are specified each February range of g r o w t h from the f o u r t h q u a r t e r of the for as a previous c a l e n d a r y e a r to the f o u r t h q u a r t e r of the c u r r e n t calendar year. The convention that ing point -- is u s u a l l y u s e d , is t h a t t h e or " b a s e " from w h i c h g r o w t h is m e a s u r e d t a k e n to be the f o u r t h q u a r t e r a v e r a g e g r o w t h of a m o n e t a r y or c r e d i t a g g r e g a t e . and occasionally period Other have been used is s e r i o u s l y d i s t o r t e d , -- beginn- -- is particular " b a s e s " c o u l d be used if t h e c o n v e n t i o n a l by i n s t i t u t i o n a l change -• base or otherwi se. During i t s r e c e n t m e e t i n g t h e C o m m i t t e e , as it h a s from t i m e to t i m e , d i s c u s s e d the issue of the d e s i r a b i l i t y of ing a b a s e for 1985 for one or m o r e of the a g g r e g a t e s other than the conventional the one. fourth quarter averages torted tions. for the targeted aggregates were in a m a n n e r t h a t s t r o n g l y departing might It c o n c l u d e d t h a t n o n e o f from the usual choos- dis- suggested the desirability c o n v e n t i o n , and that such a indeed confuse communication of t h e C o m m i t t e e ' s It a l s o n o t e d t h a t t h e a v e r a g e l e v e l of departure inten- of both Ml and M2 IV-2 d u r i n g t h e f o u r t h q u a r t e r of 1 9 8 4 w a s r e a s o n a b l y c l o s e to m i d - p o i n t of t h e p r e v i o u s y e a r ' s r a n g e , an a l t e r n a t i v e s u g g e s t e d by s o m e , the base M 3 a n d c r e d i t rd.n s i g n i f i c a n t l y a b o v e the 1 9 8 4 r a n g e s . R e b a s i n g t h o s e a g g r e g a t e s at t h e m i d - p o i n t of t h e 1984 ranges would thus have implied a wrenching adjustment t h e l e v e l s of t h o s e a g g r e g a t e s , a r e s u l t t h a t w o u l d be to the C o m m i t t e e ' s i n t e n t i o n s . in contrary Essentially, such a change would have implied a substantial t i g h t e n i n g to b r i n g the growth of t h o s e a g g r e g a t e s into the new r a n g e s , o r , a l t e r n a t i v e l y , a s p e c i f i c a t i o n of r a n g e s of g r o w t h for 1 9 8 5 t h a t w o u l d h a v e extraordinarily high and q u i t e out of k e e p i n g with 1 o n g e r been range intentions. More b r o a d l y , a decision to regularly target growth the m i d - p o i n t of a p r e v i o u s y e a r ' s range w o u l d seem to from imply t h e c o n t i n u i n g v a l i d i t y of a j u d g m e n t m a d e a y e a r e a r l i e r that t h e m i d - p o i n t of a p r e v i o u s r a n g e is in s o m e s e n s e a u n i q u e l y " c o r r e c t " level of a m o n e t a r y a g g r e g a t e . not share such a c o n v i c t i o n . The Committee I n s t e a d , it b e l i e v e s t h a t does the a p p r o p r i a t e t r e n d o f e a c h a g g r e g a t e n e e d s t o b e j u d g e d in t h e l i g h t of e v i d e n c e as to v e l o c i t y c h a n g e s and o t h e r f a c t o r s they emerge over as time. In s e t t i n g t a r g e t s f o r a n y y e a r , t h e C o m m i t t e e i s , of c o u r s e , a w a r e of the b a s e level of the a g g r e g a t e . Adjustments in t h e n e w t a r g e t r a n g e s t h e m s e l v e s , o r in t h e c o n d u c t o f w i t h i n t h o s e r a n g e s , can t a k e a c c o u n t of any m o d e s t policy distortions IV-3 in t h e base,. S u c h c o n s i d e r a t i o n s a r e r e f l e c t e d in t h e si o n o f p o l i c y i n t h e testimony. discus G r o w t h R a n g e s for t h e A g g r e g a t e s for 1 9 8 4 in C o m p a r i s o n w i t h A c t u a l G r o w t h (QIV to Q I V ) Percent Increases Actual Growth Ranges Ml 4 to 8 5.2 M2 6 to 9 7.7 M3 6 to 9 10.5 8 to 11 13.4 Domestic Debt Nonfinancial Growth Ranges for the Aggregates Adopted for 1985 in C o m p a r i s o n w i t h T e n t a t i v e R a n g e s and T h o s e for 1 9 8 4 (QIV to Q I V ) Percent Adopted Ran ges for 1 985 Increases Tentati ve R a nges for 1985 Set i n M id-1 984 Ranges for 1984 Ml 4 to 7 4 to 7 4 to 8 M2 6 to 9 6 to 8-1/ 2 6 to 9 M3 6 to 9-1 6 to 9 6 to 9 Domesti c Non fi nanci al Debt 9 to 12 8 to 11 8 to 11 n
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