- Welcome once again, as MIT professor Paul Samuelson discusses the current economic scene. This series is produced by Instructional Dynamics Incorporated. This program was recorded November 1st. 

- The first thing that we should talk about today are the new third quarter preliminary statistics which have come in. The rate of growth of the economy measured in real terms by the real GNP did pick up a little bit from the second quarter, more or less as expected. However, it didn't pick up as much as some people had thought it would. So I think the fairest thing to say is that for the last two quarters, the real GNP of the American economy has been growing at about a 3% annual rate. Whereas in the previous two quarters to that, the annual rate of real growth was a whopping 8%. By and large, what's happened is confirmatory then of the hypothesis, which is very widely held, that the US economy has already moved into a growth recession. A growth recession being defined as a recession in which the rate of growth is still positive, not like a genuine full-fledged recession, but is significantly less for two or three quarters at least than the four plus percent which represents par for American growth rates taking into account demographic increase and taking into account productivity changes. The facts, as they've developed, are compatible with a continuation of this growth recession for at least another two or three or four quarters. And I would have to say that even before these numbers came in there was a noticeable tendency for the fashionable forecast to gain in confidence and a tendency for those who are more pessimistic than the fashionable forecast, and who believe in a genuine recession to lose adherence or, to put it more conservatively, not to gain the adherence which they ought to be picking up now if there causes in the end to prevail. A moral for even those who still believe that the most likely outcome is a genuine recession have slowly begun to modify their predictions and they're pushing that recession into later quarters of 1974. And at least in the latest one, which I've been looked at here, I'll avoid names for this purpose 'cause I don't mean to criticize, but the late October forecast instead of the last half of 1974 having a 3% annual decline in real growth, rather it now looks for about 2.5% rate of decline. Now I don't think that we should spend our time in pouring over the fine detail of the outcome in order to try to form a judgment about just how strong or weak the economy is gonna be four or five quarters from now. The tools of economic analysis are not fine enough given the grossness of the statistical data to make such considerations worthwhile. But I think it's very important for us to stand away from the third quarter numbers and to try to see what the general forces are that have been operating and what are the things that we ought to be watching in order to be able to shade our opinion about the future. Well, the first thing that has to be said, in fact, it has to repeated, is this. The general economy is doing better than American society at large. I've had to call attention here again and again to the fact that all the indicators of consumer sentiment have a tendency to deteriorate and deteriorate very badly. And if you had a crude confidence theory of the business cycle so that department store sales and durable consumers good sales could be accurately predicted from the degree of optimism or pessimism that the American public typically feels about itself and about its society, then I think you would have to expect there to be a rather serious recession. However, the past behavior of consumer spending, in relationship to past surveys of consumer sentiment, do not suggest that consumer sentiment is a factor that you should give all that much weight. And although right at the moment we still are in the constitutional crisis, occasioned by the resignation of Elliot Richardson and his assistant and the firing of Archibald Cox, the political seismographs are very volatile, and given little time that may cease to be quite so important in the future. Nevertheless, as I read the case of those who believe in a full-fledged recession, they are increasingly beginning to base their case on a possible shortfall in consumer spending in the future. They are forced to do this by the fact that the other strong reason for expecting a full-fledged recession, the behavior of inventories does not seem to be developing in accordance with what would be needed in order to have a convincing case for a recession. I'm referring to the fact that unless inventories become high, unless they go through a few quarters of excessive rate of increase, you're unlikely to find later in '74 a considerable decumulation of inventories. From this view point, we should scrutinize very carefully what happened in the third quarter. Well, in the third quarter, the inventory rate of accumulation annual rate, as measured by the Department of Commerce, and this involves a lot of corrections for a mere price change, did go up. It went up from a $4.5 billion rate of accumulation in the second quarter and indeed in the first quarter about that same level up to 8.7 billion. And that is an increase, but we still have a long way to go before we get to the 17 and $20 billion increases which are needed if the slingshot is to be cocked very far back into a swing snapback and give us the inventory recession which will make a growth recession become a full-fledged recession. I guess we have to reserve judgment on this matter. As one of the adherence of the view that were in for genuine recession has put the data for the third quarter are compatible with either scenario. They don't actually lend comfort to the full-fledged recession hypothesis, but they don't deny it either. I should also mention another factor which, I guess, I think is very important. For this purpose, I might quote the view of Dr. Michael Evans, who appeared on the same panel with me before the Joint Economic Committee testifying on the outlook. I've quoted the Chase Econometrics models before, but I wanna call your attention to two respects in which his view is perhaps a little bit different from the consensus view. First, he is not so optimistic about what's going to happen to our net exports of goods and services. The net exports in goods and services in the third quarter were very gratifying. They were $4 billion, a surplus of our exports over imports 'cause these are goods and services, this is not just merchandise. But my recollection is at the very last month's merchandise numbers that came in were also quite gratifying. They were something like $800 million surplus for the month. I don't know what seasonal correction is required, but that's an eight or $9-billion surplus on a 12-month basis. But Dr. Evans thinks that a good deal of our improvement in exports is in the agriculture domain. And since he believes that in 1974 food prices and fiber prices are gonna come down, then he thinks we're gonna lose some of that buoyancy in our exports. And he doesn't yet see the strong upswing in the competitiveness of our manufacturing imports/exports. So that this is a minus factor in his particular reading of the future if we're not gonna even be able to hold the degree of improvement which we had. This is very relevant for any of you who wanna make bets on whether the dollar is undervalued and whether there could be any kind of reoccurrence of trouble for the dollar in the clean floating or dirty floating markets of the world. The other point that Dr. Evans made, and I think it's a interesting point to keep in mind, it's constant with my own thinking, and that's this. Dr. Evans thinks that that drop in food prices, which will be the reflection of supply and demand just as the big upswing in food prices was a reflection of supply and demand, he thinks that's a very favorable factor. It means that the consumer price index, to which wages are tied, will not, in the first half of 1974, be increasing by as much as 2.5%. It also means, and this is probably much more important, that the Federal Reserve, as we move definitely into the eye of the, wind of the growth recession, will be much more favorably disposed towards countering that recession if it doesn't have terrible apprehensions about price inflation and about the kind of price inflation which the man in the street is most sensitive to, namely, food prices. So I think that if Dr. Evans expected that for some reason food prices were gonna be disappointing, let's just say some horrible crop situation this autumn, yet to come, that this would cause him to move his forecast of no recession, no genuine recession, only growth recession, to a yes, in that case there will be a genuine recession. Now I don't know whether I have the courage to put this amount of weight on that food price behavior. I put a great deal of weight on it, but whether I would actually change from a no recession to a definite recession, I'm inclined to doubt. Let me call your attention that Henry Kaufman, a partner of Salomon Brothers, and who, earlier this year, was one of those who believed that we were going to have a real money crunch and that that was going to precipitate a real recession, and we thought that that was a good thing, now, apparently, is a little disappointed by the course of actual events. And in a talk which he gave in Phoenix, Arizona on October 23rd, he warned that we don't seem to be having that desirable recession. And if, in fact, we do things too soon to avoid that desirable recession, that the results of that will be very serious for the long range inflation outlook. Indeed, I, myself, take the possibility of a genuine recession seriously, although I regard it only as a high odds bet. If I had to bet on a genuine recession, (mumbles) very favorable odds. But I would take that case a little more seriously from the analysts who espouse it. If it weren't the fact that, as I tally up the opinions of different people, I'm not sure that I have in my files a single person who expects there to be a recession, a genuine recession, and who doesn't want there to be. So in my own thinking, I always try to separate out what I want and what I think will happen. Because I find that unless I do that, there's a tendency, a very human and natural tendency, for me to try to forecast things that I want to have happen, that my heart wants to have happen even though my brain perhaps is telling me that they're not too likely to happen. So I guess you have to take a little bit off the credibility of the forecast. It's when you learn that they being human beings and they being in favor of recessions, they may be telling you a little bit more about their favored policy recommendations and their valued judgments and their therapy ideas than about the differences in the way that they read the actual record. I get a lot of feedback from listeners and I would be very happy to learn from any listeners of exceptions to what I now stated. Now there's still another view about the possibility of a recession which comes from some of the monetarist camps. I have to say, some of the monetarist camps, because the monetarist forecast that I have seen now spread all over the map and they are at least as disbursed as the non-monetarist forecast, so we're certainly not gonna get any kind of a controlled experiment this year. Whatever happens, you're gonna be able to quote a monetarist, who expect it to happen, and you also, I'm saying the same thing, are gonna be able to find other monetarist, who hadn't expected that to happen. Now some monetarist group like the Argus organization, James Meigs and William Wolman and other economists there, I have listed among the optimists. They do expect there to be a slight decline in the rate of growth of the GNP in comparison with par, but it's rather slight indeed. On the other hand, there are other monetarists who expect that we are going to be in a recession. Now let me quote the line of argument which I understand to underlie this. These monetarists who expect there to be a genuine recession, in fact have money GNP forecasts much like the fashionable forecast. But they have price inflation forecasts which are higher than the fashionable forecast. And if we subtract off a higher estimate for price inflation from the same estimate of money increase, we get a lower estimate of real increase. And so I have to ask myself whether there is something in monetarism which should make me respect their price increase. Now I put the question that way because I, myself have certain amount of pessimism about the behavior of prices. But I wanna see whether there's any reinforcement for that pessimism from the standpoint of monetarism. And I have to confess to some puzzlement as to why the past patterns of experience which had been analyzed by monetarists should have any power to give us resolutions with respect to price behavior peculiarly. In other words, why shouldn't one rely in one's price estimates upon the best information one can get for 1974 about what will be happening to the degree of excess capacity in the economy to the behavior of order backlogs whether as those who expect there to be a recession think there will be inventory coming out of our ears and plenty of delivery of stuff which people don't want. Why, under those circumstances, should we still expect a price increase? And as I review the record, I cannot find where that special relevance of monetarism should be. Now let me illustrate. The Federal Reserve Bank of St. Louis, for a long time, aside from its estimates of what's gonna happen in the money GNP, made a breakdown of that between prices and real output. And they weren't particularly successful in their breakdown. Now it can be argued, I think, that there was nothing in the monetarist philosophy which would sanction those particular breakdowns which they had, and I would agree. But that's precisely the point that I'm making. If you study the history of the quantity theory of money and the views of the leading exponents of the quantity theory of money, I'm thinking of Alfred Marshall and Irving Fisher going back a long way, and then in later days people like Warburton and, in our own time, Professor Milton Friedman, I recall the wisdom stated at a conference by Jacob Viner, who knows that literature very well, and there he went on record saying that the quantity theorists of the past, and by the way he considered himself a member of that group, had never had any special way of analyzing the effects of money in the MV equal PQ monetary equation as between the P and Q and there was actually a libel on them to claim that, as some of the critics of monetarism had done, that the monetarist think that M controls prices and the fiscalists think that the canes in fiscal policy determines quantity which leaves the one with kind of a schizoid theory. He said, there was no warrant for that. So until one learns what the causal connections are, I guess, I don't find much extra strength on the side of a genuine recession from the monetarist line of reasoning. Well, now I always try to think of where trouble could come from and not to satisfy oneself with the fashionable forecast. So let me just try to tick off some of the areas where it seems to me we ought to be on alert if our concern is whether there will be a genuine recession. I don't think we can dismiss the state of public opinion. There is a definite possibility that we are not yet out of any constitutional crisis. And this could be a definite wet cloth on the animal spirits of the American consumer and of the American investor. In my opinion, it's most likely that the money GNP is like ol' man river, it just goes rolling along independently of Kiplinger's newsletter out of Washington and independently of the Gallup poll. But one would be very rash to say that that's true at 100% level of confidence. And so it's definitely possible that there could be some crises which would begin to cut into business generally. Second, there's a lot of discussion about whether we have a energy crisis or not. And that becomes a semantic question as to whether the word crisis is a desert. We certainly have a short-run problem of shortage under the way we've been controlling prices and allocating supplies. And that short-run problem is not gonna go away. And I should emphasize, it would take another tape to discuss the details of this, that that particular short-run problem was also here before there was any outbreak of war in the Mideast. We have to add, though, there has been an outbreak of war in the Mideast, we now have a ceasefire, but there has been a de facto, a decrease of 10 and 20% of the oil outflow from the Persian Gulf. Now since the United States is associated in the minds of some of the Mideast countries, peculiarly with the support of Israel, we're not the only country. I noticed that the Dutch are being discriminated against in oil shipments because they were not sufficiently pro Arab during the fighting stage. But since we're in that camp, then there may be a greater cut down on the supplies which we depend on from the Mideast than the cut down for other countries. And I have to word that very carefully, because it's understood that we depend much less in the Mideast. So that's a favorable factor that makes us less vulnerable. And Japan, about whom perhaps the Arabian countries have good feelings now, because Japan did not rally to the side of Israel. Japan may be more vulnerable, nevertheless, because she depends for 90% of her oil there. But we still have to allow for the possibility that energy will begin to run short and we have to allow for the possibility that the constitutional crisis and the general inefficiency of the administration will not lead to a smooth allocation of resources. And so you could begin to get some shut downs around the country which are occasioned by shortages of fuel. Now I don't wanna argue with anyone who wants to use elementary text book economics that if you just auctioned off the scarce supplies, you'd always have a buyer for a seller. I just wanna point out that there could be some trouble from misdirection. And if you look at past history, there has been many a time when a flagging boom has been turned into a recession by exogenous factors such as a very long rail strike or a very long steel strike. The most recent notable event of that sort, as I remember it, was the very long 1959 steel strike. When it first starts, it's just kind of a holiday for everybody, the workers get a vacation, but after a while the inventories begin to run thin and begins to really dig in deep and that does affect the macroeconomic figures. In fact, the 1969, 1970 recession will go down in the annals in a very silly way that doesn't truly reflect the macroeconomics that went on, because we will show that recession lasting until the General Motors strike was settled in November of 1970, when in point of fact there's much analytical reason to expect that if that strike had been avoided, the National Bureau, if it was permitted to have a genuine recession in its records, would still have changed the timing of the outcome from that recession by at least a quarter and it could've been changed by as much as by five months. Well, let me summarize by giving you my view. The continued third quarter slowdown it seems to me is a good thing. It seems to me it doesn't matter whether that slowdown was brought about primarily by demand factors or supply factors from the standpoint of some of the good which it will do in helping us to make a soft landing or at least not to bump too hard into the full employment, full capacity ceiling. I think we're going to have a mixed situation in which you're gonna have lots of basic industries that are going to continue to run flat out for quite a while. Textiles, papers, paper chemicals, et cetera. Those provide materials for lots of other not so basic industries. And so what the doctor would've ordered, I think, would be a plateau of let down. And I don't know that I believe we can keep a 3% rate of real growth. What I've said into the Joint Economic Committee, for example, in policy, was that as things begin to persist below 2%, then policy should be directed to doing something about it. But so far the development seems to me to be much better than it looked when, you will recall on these tapes, I came back from Australia in April, in May, and listened to all that talk about inevitable money crunch, more serious than any of the recent money crunches, we look to be making a much softer landing. But nature's options are still open. She still could give us a real recession. And I should say that the policy options are also still open and that'll bear discussing at another time. 

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