Instructor: Welcome once again as MIT professor, Paul Samuelson discusses the current economic scene. This biweekly series is produced by Instructional Dynamics Incorporated. This program was reported February 8th. Professor Samuelson. 

Paul Samuelson: Now we have the budget message. We have the state of the union message. We have the economic report of the president. As I predicted in my last tape, one could pretty much know in advance exactly what would be in these documents and there were no surprises. The president having determined to give up phase two to move directly into phase three. To rely on voluntary price end wage controls except in the limited areas of building food processing health care had no choice in my opinion, but to come in with a very contractionary set of recommendations. These he has made, they have I think somewhat the supplies. The Congress, they certainly have irritated the Congressmen. But let's first before trying to make guesses about the politics of the situation look into what seems to be needed by the economics of the situation. We must begin with the observation that the economy is still overstrung. The fashionable forecasts which we discussed a month ago were higher than the fashionable forecasts that we discussed a couple of months ago and the present forecasts are higher still. I would guess that the majority of the forecasting fraternity now look for at least a 10 percent increase in money GNP. That's something like 115 billion increase in money GNP uncorrected for a price change. As against what they were expecting a month or two ago which was 105 billion. Even Ray (inaudible) of Princeton, who I told you does not ever get influenced by the current enthusiasms because has a completely mechanical computer method of forecasting. I looked at his most recent forecast and that seems to be up by, unless I've made a mistake, something like at least 10 billion dollars. So we have been growing at a rate of 8 percent in mil terms. Now it's possible to do that for a quarter or so. It's possible to do it for two or three quarters. But it's not healthy a healthy thing. Most economists would gladly trade to have lots of six percent quarters as against just a few eight percent quarters. So the time was ripe, if not overripe for moderation in terms of macroeconomics. Otherwise we will run too quickly into old fashioned demand-pull inflation. And remember, we're not yet out of the woods from the last cost-push inflation induced by the post Vietnam demand-pull inflation. I suppose from this point of view we should be thankful that the Federal Reserve was over-contractionary from the view of monetarists back from the middle of the year until November because with long and variable lags there should now be an element working for moderation in the picture. However, most people are apprehensive with respect to monetary analysis. Probably unduly so. At years end the money supply continued to grow. My information is that in January, the money supply did not grow at the rapid rates of the last part of November and December. It had slowed down to something like a four percent rate of growth. Nevertheless, I would suppose, that in the first half of this year, we will find reason to complain that the Federal Reserve is not being tight enough. Then in the last half of the year, and no doubt there will be reason to complain that the Federal reserve is being too tight. This is inevitable if the Federal Reserve applies a policy of gradualism. If the Federal Reserve has some concern for what's happening in the interest rate markets of the country and if the Federal Reserve, therefore permits interest rates too rise, but will not tolerate interest rates leaping upward then nobody is going to be satisfied with the behavior of the Federal reserve. On the other hand, the major topic of the day is a fiscal policy. The president, if he wanted to have contractionary fiscal policy might have introduced recommendations for tax increases. He made promises during the campaign period, that he would not, in 1973 ask for a tax increase. I don't know whether he will someday regret that promise. But there's certainly no sign that he or his team at this moment have any intention on going back on that promise. That leaves them only with the policy on cutting down hard on government expenditures. This (inaudible). For philosophical reasons, the Nixon Republic and administration, particularly in it's second term, well it needn't be directed concerned with re-election has a predilection on philosophical grounds for limited role for government and a limited role for government at the center. So that what spending they will be forced to do in the field of welfare. They will prefer to do out of a revenue sharing basis. We've had the comical spectacle of the mayors of this country lobbying, pressuring the federal government. Pressuring the president into a program of revenue sharing. Apparently the mayors in this country believe in Santa Claus. They thought that they would get something extra for nothing, but of course they've discovered to their concern that the revenue sharing which they got was not always adequate. But in any case there was a hook, there was a catch. The programs that are directly involved problems in the urban environment have been cut back by the president and now he tells the mayors if you have an asset out of the money that I've given you and let's make no mistake about it, these programs are now hurting. Of course you could have had a massive rethinking of social priorities, we could have cut down on the farm legislative subsidies which no economists approve of actually for gratuitous reasons connected with the Russian crop failure and with the food shortage, the farm programs at long last look to be on the way to be liquidated. But to go on we could have had a massive rethinking of military security expenditures. And there might have been a determination to purchase what some people would regard as the same security at a much lower cost. I'm thinking of phasing out plans for land bombers. I'm thinking of more concentration on submarine deterrent missiles, things like that. And have a really thorough going shakedown in the military establishment. That could include, by the way, now that we've gone on to a voluntary army basis, voluntary arms services basis, that could include a much smaller amount of better trained in the arm services of the United States. So to put pressure on the developing overheating of the american economy, we could have maintained those social welfare programs which are most desperately needed. Those which the proof of experience have shown to be the most adequate. Of course it's too much to ask for optimality its unlikely that, you know, our political process very often discover the very best program that the man or commissions might devise. But we still could have maintained these programs of humanitarian import and which also contribute towards a rectifying of the excessive amount of inequality which men of goodwill are deploying in the American economy. But of course you know that that would not have been likely and of course that didn't come to pass. I said that we've had the comical spectacle of mayors where we've had the comical spectacle of congress. And if a country gets what it deserves and if we deserve the present congress then we should perhaps feel less unhappy about our present plight. Many of my listeners will have seen on the TV news shows the testimony of the president's economic team. George Shultz, the domestic economic (inaudible) so to speak, secretary of the treasury. But more than that some of them call him the super (inaudible) in Washington, was on hand. Herbert Stein, the chairman of the Council of Economic Advisers man who presumably used to be the number one economist in the government and now number two, if not three or four was on hand the designated new head of the Office of Management and Budget. (indistinct) Industries was on hand and it's quite obvious that the team had briefed itself for a rough going over from congress and they were prepared as best they could to defend the budgetary cuts which the president was urging upon congress and the refusal to spend which the president unilaterally by his own executive self orders was imposing on that spending the money which congress had already voted for many programs due to the heart of the Congressmen. But if that's what they expected in the hands of the committee, they were disappointed, but of course pleasantly disappointed. Because Senator Man, a democrat, went into a tiraid about the huge size of the president's deficit. George Sultz was so taken aback that he took this to be an indication of a desire in the party congress to have a tax increase. And he said that into the television cameras directed towards the Senator, but obviously directed towards the American people. I don't understand why the congress is so bent upon forcing upon the American people a tax increase when in administration, president Nixon are not at all in favor of that. Well the last thing in the world Senator Man, with his upside down fiscal finance in this occasion willing to settle with was that he was in favor of a tax increase. And so he said, but you're coming in with a larger budget than last time. Now that employment is down to a five percent and we should take note of the fact that it is down to five percent. How can you justify running this huge deficit? Well in the first place, the stronger the economy is, the less will be the deficit and the more contractionary tax policy or contractionary fiscal policy and contractionary monetary policy eluded. Congressman thinks that when a lot of revenues come in, you don't need taxes. Economists know the opposite is the case. The only point in increasing taxes in a situation like this, is for the purpose of cutting down on spending. In other words it must be a tax that hurts, it can't be a tax which isn't felt. So, we haven't had on the part of the opposition in Congress as yet any regrouping, any very intelligent action to react to the president. In the meantime, there's some very important programs which are languishing. You can go down the list of those who are in universities at institutions like MIT. I know that pure science, for some time has been out of favor and that there has been a move towards the applied science. The scientific advisor, the president never got to see the president. The president finally formalized that arrangement by having the new scientific advisor not even report to him, but report only through George Shultz. So it goes, there's a lot of money. Too much money I'm told for jazzy subjects like cancer. But there's not money for fundamental research which nobody can predict in detail will give rise to higher productivity in the future to a better environment, to less pollution to more copious and safer energy sources and so forth. Well I don't see anything that can stop this in the two years before the election. No doubt congress will be accumulating grievances and irritations and in some future date, somebody may pay for these humiliations and their insults. But until the next elections, we're pretty much on the same course that you find in parliamentary systems of administerial responsibility to a majority party in parliament. Keith or Palmer in Sweden, Keith in UK maybe unpopular with the electorate now. But until the next election they can put through their parliaments any legislation that they set their minds to because of members of their own party would have to jeopardize their own jobs by joining in a vote of no confidence. Let's turn to the general business situation. Is this (indistinct) budget, is there such a decline in spending that the over exuberance in the economy which I've just spoken of will be eliminated and indeed is there a danger that it will be followed by a period of too little purchasing power steam in the economy. I don't think so. In the first place, the budget spending will go up by something like seven percent in real terms. That is a reduction because, no that's not a reduction in real terms. In the sense that the prices haven't risen by seven percent. But most of that, much of that is an increase in transfer expenditures by the expanded social security program. And so if you subtract that out and look at the resulting increase or change in the money value of goods and services purchased by the government. And then if you deflate that by the increase in prices of those goods and services bought by the government. You will then end up with an estimate of the real GNP goods and services purchased by the government. And that I think would prove to be a negative number, but it would not be a huge gaping hole in the circular flow of purchasing power. And I see no reason to believe that the first quarter of this year will not be a very strong one and the second quarter also. This leaves us with the question of whether by the third or fourth quarter the rate of increase in real GNP will be down to the normal level, the trend level for the American economy which is perhaps four and a quarter percent or as a few people think, but still only a few, down to below that so that the unemployment situation which has been generally improving will go into reverse. That could happen but I think on the basis of the current leads and lags and the inertia in the system and the best estimates that I've been able to see of what's going to happen to inventory spending in the next four or five quarters to housing to plant the equipment expenditures. I think it's premature to blow the whistle and say that the period of expansion is over and now we're entering into the period of stagnation or of stagflation. A word or two on the unemployment situation. I believe that the administration has won its bet that by the end of the year the unemployment of the United States will be in the neighborhood of five percent. You know that on the evidence available in the beginning of the year I didn't think that the best scientific judgment would be that that would be a correct statement. I said that something like five or quarter percent, but it was explained nicely to me by one of the members of the Nixon Council of Economic Advisors that by the end of the year they didn't mean the first quarter, they meant literally New Years midnight which means halfway between the fourth quarter and the first quarter and that alone would almost make their debt worthwhile. But many a case, the drop in November to 5.2 percent from 5.5 percent, which being a full three tenths of a percent looked suspicious. And now that they've revised the data it seems it stands up. And the continuance in December of another 5.2 percent month, now that they've revised the data, it turns out to be an overstatement of unemployment. It was now with new seasonal corrections, 5.1 percent. And then in January, which I guess we can say is around the end of the year, we had 5.0 percent. So there isn't any reason at this time, not to think that in the months ahead, the number may well work it's way below a five percent, more or less steadily. The major doubt in this regard, I think, would be the fact that the improvement in the unemployment numbers. Which could come about either because the job situation was exceptionally strong or because the labor force growth was weaker than expected. Either of those two could have been possibilities was turned out in the last few months that it's been weakness in the labor force. Seems to me that that's fair enough. After all, there was excessive strength in the labor force for month after month after month back early in 1972 and indeed in 1971 and so the rosy expectations of the administration were rewarded for that reason. Well you can't get it coming and going and since they got it earlier, we got to let them get some relief from a relaxation in the labor force. A relaxation, by the way although it wasn't predicted. The magnitude is not at all out of the ball park for what seems reasonable at this stage of the business cycle. I don't know that the productivity has been doing anything noteworthy. As you know, early in the business cycle expansion, productivity does very well and that has turned out to be true. In this expansion, once we got into a period of real expansion, got behind the 1971 very weak endemic expansion, productivity did improve and although we can't expect to maintain that pace there is no reason to think that it will go away, the productivity and pace will go away overnight. I return to what must be the key question and preoccupation for anyone who wants to understand the developing business cycle situation in the Unites States in 1973 and in 1974. The key must be found in the behavior of prices and of wages. If phase three works, if the moderating of inflation which had been going on before phase one and which when I'm very strongly in phase one and continue but with less strength (that is the degree of moderation in phase two). If that continues nicely and if the administration wins its bets that by the end of the year prices will be growing at less than three percent and that's the beginning of 1973. And then I think we can look to a strong 1974. I think its fruitless to try to look beyond then. But remember this, almost none of the experts, those who are for administration or those who are against administration are really that optimistic. Almost all the forecasts before phase two was abandoned, looked for prices to be increasing in 1973 itself. Somewhere around the three and a half percent rate. Less than three and a half if you compare '72 with '73. But three and a half in '73 itself. After phase two was removed, I think representative of what we've seen happening for example in fuel and oil in the number of other lines that relevant price increases frowned on by the administration, but they have yet pulled a big stick out of the closet. They've I guess pulled it out of the closet and now put it on the table, but they have yet beat anybody with it. After phase three was introduced, most of these estimates went up to three and a quarter through three quarters, four percent. Since I though the estimates previously were a little bit on the overly optimistic side and I'm not alone in thinking this. Many monetarists have also thought this and then I had to take their new numbers and still add something on. And so although I have to reserve judgment until we see how the wage settlements break. How the Arabic Workers' Affair or whether the team stirs later in the spring. (indistinct) with the general guidelines. I think there is reason, as a betting man to have some apprehension on this score. The result is that there will be increasing anxiety in the country about inflation. There will be increasing apprehension and anxiety in Washington. And the forces that urge upon the Federal Reserve sharply contractionary policy will grow in strength. The forces that urge upon the budget sharply contractionary policy will grow in strength. And it's out of the working's out, I think of such forces that the next period of stagnation, the next period of recession will be bred. This process can be helped of course by the natural forces of over exuberance in the system. If inventory accumulation moves up to a 12 billion annual rate in some quarters then onto 15 then onto 18. You have very many of those and you will naturally get an overstocking in the economy and there will be natural forces working for stagnation and recession reinforcing the contractionary forces of rushing. Now all of this is not inevitable. There is something that can be done about it. It seems to me that the proper policy is not at all times study as you go. Just agree upon what kind of a budget you want on the social philosophical grounds agreed upon what rate of growth of money supply you want. That's not the council which I would urge. It seems to me that the best council is lean against the wind that your best judgment tells you is gonna prevail in the next six months. Unless that wind is blowing in exactly the right direction for a healthy American economy. And that's why I have been supporting the movement for moderation on the credit front for five or six months now. Including the period when the Federal Reserve had a slow growth in the money supply. And that is why on budgetary grounds I think that the case is strong for restraint. 

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