NEAR TERM RATES WON'T CHANGE
AUGUST 20, 1996
The Federal Reserve has decided to leave short term interest rates unchanged for the moment, because the "economy is steady enough," according to experts, and the prospect for inflation "doesn't look serious."
Browse the NewsHour Economics files.
PAUL SOLMAN: The economy, every four years a major topic of presidential candidates, always the top concern of the Federal Reserve Board in Washington. Today the Fed met as it does every six weeks or so and decided to leave short-term interest rates just where they were.
Why and what it might have to do with the campaign is the subject of our discussion now with Alan Blinder, former Vice Chairman of the Fed and member of the Council of Economic Advisers under President Clinton, now a Princeton economics professor, and William Poole, former Fed economist and member of the Council of Economic Advisers under President Reagan, now at Brown University. Welcome to you both, gentlemen. Prof. Blinder, you recently left the Fed. What does today's decision tell you about what your former colleagues are thinking about the economy right now?
ALAN BLINDER, Princeton University: (New York City) I think it's a combination of two things; first that things in the economy are more or less going according to plans so the Fed feels that holding its fire is the appropriate thing to do. Secondly, that the forces--
MR. SOLMAN: I'm sorry. Holding its fire meaning--
PROF. BLINDER: Holding its interest rate fire.
PAUL SOLMAN: So not raising interest rates?
PROF. BLINDER: Exactly.
PAUL SOLMAN: Yeah.
PROF. BLINDER: Secondly, that the forces that some people are worrying about that might raise inflation don't look to be terribly serious to the Fed because if the Fed believed they were terribly serious, it would not be holding its fire.
PAUL SOLMAN: Such as--what are the forces, the pressures?
PROF. BLINDER: Such as pressures on capacity, pressures coming through pricing at earlier stages of production, such as wages, things like that.
PAUL SOLMAN: And all of those are going up not enough for the Fed as a consensus to worry about?
PROF. BLINDER: Some of them are actually going down. They're either going down or going up at rates that are not terribly worrisome, and importantly are not showing any significant signs of acceleration. That is, the inflation rate is not zero, but there's no sign that it's rising.
PAUL SOLMAN: Okay. So then they don't have to step on the brakes, they don't have to raise short-term interest rates. Prof. Poole, that's what's happening, that's what the Fed is thinking?
WILLIAM POOLE, Brown University: Yes, that's where they are.
PAUL SOLMAN: And if you were there, would you have agreed with them today and said, don't do anything?
PROF. POOLE: Absolutely. I think that the Fed wants to be very careful not to be mixed up in the election campaign, and, therefore, if they felt there was a need to move, they would have moved now, rather than closer to November.
PAUL SOLMAN: Now if the economy were growing faster, let's say you were on the Fed at this point, or a Fed economist, as you have been, would you then recommend that they raise rates?
PROF. POOLE: It's not primarily a matter of growth. We want more growth. What we don't want is growth that triggers inflation, so the evidence that inflation is well contained is the key thing.
PAUL SOLMAN: Okay. Do you agree with that, Prof. Blinder, I mean, it's not a question of--the economy were growing at 6 percent, you wouldn't care, so long as certain signs were not unfavorable?
PROF. BLINDER: If we believed, ant this would be quite a stretch, that capacity was growing at 6 percent a year, then there would be every reason for the economy to be growing at 6 percent a year. That's pretty far from the case, however.
PAUL SOLMAN: All right. So--
PROF. BLINDER: so, in practice, 6 percent growth would be more than worrisome.
PAUL SOLMAN: Well, Sen. Dole is talking about 3 and a half percent growth, and some people don't think that's possible. Are you saying the Fed would not automatically put on the brakes if a 3 and a half percent growth rate were suddenly to appear in the economy?
PROF. BLINDER: The key thing is whether the Fed believes that a 3 and a half percent growth rate of capacity is actually feasible. I, myself, is extremely skeptical, and I believe people on the Fed will be extremely skeptical about that proposition.
PAUL SOLMAN: Well, how would you size it up? When you say capacity, what do you mean, and how--what would you be looking at if, in fact, we had this faster growth rate?
PROF. BLINDER: You generate capacity from two sources; labor force and in the productivity of the labor force. We pretty much know the growth rate of the labor force. It's not going to stray very far from 1 percent.
PAUL SOLMAN: So wait a second, so that means as 1 percent, the labor force grows by 1 percent, the economy has that much more capacity to produce stuff because there are more people producing?
PROF. BLINDER: Exactly. Just for more people producing. Then the second question is how much does each person produce? That's productivity. For about 20 years, productivity output per worker has been rising at just a little bit more than 1 percent. So if you had a little bit more than 1 percent labor force, a little bit more than 1 percent productivity, you're talking about a 2 to 2 and a half percent growth trend as a reasonable estimate. Almost everybody that looks at this seriously will sign onto a number somewhat in that range. To raise that to 3 and a half percent would be an incredible achievement, but I don't think anybody knows how to do it.
PAUL SOLMAN: Prof. Poole, you're nodding and you're yet from a rather different political persuasion than Prof. Blinder traditionally.
PROF. POOLE: I think 3 and a half percent is a worthwhile target, but we don't know how to get there with precision. What we do know is the direction of effects of many different public policies that are controlled by Congress and the President, not by the Federal Reserve.
PAUL SOLMAN: Well, I'm not following.
PROF. POOLE: Okay. We should--we need to reduce burdensome regulation--
PAUL SOLMAN: Right.
PROF. POOLE: --which interferes with the efficiency of the economy.
PAUL SOLMAN: But that's what Sen. Dole is talking about.
PROF. POOLE: Right. That's correct, but we don't know how fast those effects will come, and the magnitude of those effects. We need to increase incentives. We need to increase the amount of investment in the economy. We don't know the magnitude of the effect. We know the direction of the effect.
PAUL SOLMAN: But if you guys are both nodding now, who's calling the shots in the upcoming months? Is it the Fed or the presidential candidates? If guys like you are sitting there saying, hey, wait a second, doesn't look like we have the capacity here, therefore, 3 and a half percent--you're nodding--Prof. Blinder--think that's simply too high. The Fed can then put the brakes on the economy by raising interest rates and then the presidential candidates can't do anything?
PROF. BLINDER: That's right. I think the answer to your question is in the short run the Fed is controlling the economy. When you talk about long-term trend growth, some of the things Bill Poole talked about and others are the things that generate long-term trend growth, and those are not in control of the Fed, but neither are they in tight control by anybody else. They're very, very slippery, and shouldn't be thought of as policy instruments. In the short run, however, the Fed could make the economy grow faster or slower.
PAUL SOLMAN: So the Fed calls the shots. The presidential candidates don't. I know I'm being simplistic but as between the two of them, is that the case?
PROF. BLINDER: I think that's much closer to the truth than the other.
PAUL SOLMAN: Bill Poole, I wanted to get you--
PROF. POOLE: The responsibility of the President and the Congress is to control these fiscal instruments that they have responsibility for. The Fed's responsibility is over the price level, which is what the Fed can do, and so there is that separation. Those are the separate spheres within which they operate.
PAUL SOLMAN: But all I'm saying is that it's between the presidential candidate and the Fed and the Fed thinks the economy is growing too fast, even if the presidential candidate promised it, the Fed can trump the presidential candidates?
PROF. POOLE: The Fed could make the economy grow more rapidly for a short period of time, but the end result would be more inflation, less stability. That would not be good for the country or for the party in power.
PAUL SOLMAN: Okay. But you're saying it wouldn't be good, but you're also saying they could do it, and Prof. Blinder, you were starting to come in there.
PROF. BLINDER: I was agree with what I thought was the premise of your question.
PAUL SOLMAN: Yes.
PROF. BLINDER: That is if policies were promulgated that in the Fed's view would stimulate demand excessively and therefore be likely to cause inflation to rise, the Fed could, in your term, trump the President and Congress, by the way, to a tighter monetary policy. It has many times in the past.
PAUL SOLMAN: Would it do it with this Dole economic plan, do you think? I mean, you're skeptical of it, but you were just there, so you know these people. What do you think they would do?
PROF. BLINDER: I don't like to predict what former colleagues would do, but I know what my own opinion would have been and my own reading of the responsibility, as a member of the Federal Open Market Committee.
PAUL SOLMAN: And that is--
PROF. BLINDER: And that is to try to maintain a balance between the growth of demand and the growth of supply, and in the up-side direction not let demand outstrip the economy's capacity to produce.
PAUL SOLMAN: Even though people were worried that you wouldn't be an inflation fighter when you joined the Fed, you're saying that you would be an inflation fighter if you thought things were getting out of hand and higher than they could?
PROF. BLINDER: Absolutely.
PAUL SOLMAN: Growing faster than we could.
PROF. BLINDER: Absolutely. You go on that board, you take an oath, and part of that oath makes you an inflation fighter. That's the job of the Fed.
PAUL SOLMAN: But no political pressure? I mean, you're a Clinton appointee, I mean, you have a political bias, presumably. No, you didn't feel any pressure when you were on the Fed?
PROF. BLINDER: I didn't really. The Fed is designed to be independent of politics. And while the members of the Board, although not the bank president, as you know, are political appointees, once put on the Fed, they are not political actors in any way and shouldn't be.
PAUL SOLMAN: And do you agree with that?
PROF. POOLE: Absolutely. And I think that one of the things that we're seeing here is that Alan Blinder and I come from different political persuasions, but as professional economists, our views are very, very close on this matter.
PAUL SOLMAN: Very close indeed. I take it both of you then are saying that the Federal Reserve in the final analysis will make the decision about whether or not the economy is growing too fast, not the presidential candidates, themselves?
PROF. POOLE: In the short run, correct.
PROF. BLINDER: Yes, I agree with that.
PAUL SOLMAN: And you both agree with that. Well, gentlemen. I think that's, that's all the questions I have for you tonight. So thank you both very much, Alan Blinder in New York and here in Washington Bill Poole. Thanks for joining us.