- Welcome once again as MIT Professor Paul Samuelson discusses the current economic scene. This program series is produced by Instructional Dynamics Incorporated. This program was recorded May 31st. 

- We're beginning to move into the summer season. As far as the domestic economy is concerned, we're still in the same guessing game. If you look at past and present statistics, the economy is strong and it's overly strong. If you look at the forecasts by most experts, the economy is about to move into a mini recession or a growth recession or in the case of a minority of the experts, the economy in 1974 will move into a full-fledged recession in which for at least a couple of quarters, the real GNP will actually move backwards, it will show negative growth. Let me today try to comment on different viewpoints, appraise and evaluate them and if time permits, perhaps we can say a word or two about the so-called energy crisis. I think I might begin today by reading to you from a memorandum of May 23rd 1973 by a very able contemporary economist, Albert T. Summers who's a senior vice-president and chief economist of the Conference Board. Dr. Summers does a good deal of lecturing before business and other groups and in addition, aside from his official duties as economist for the Conference Board, he does a certain amount of forecasting and consulting for financial groups. I've found over the years that his is a good voice to listen to because he has a pretty good track record. He keeps in close touch, he's a good analyst. That's true by the way of a number people at the Conference Board, John Kendrick is the director of research there, Martin Gainsborough who's now I guess emeritus but still very active, those are economists whom it's been worth listening to in the past. Well, now let me read you a couple of paragraphs of views by Dr. Summers. He says at least for this cycle, this business cycle, and given the grave impairment of leadership in Washington going into Watergate, it is getting late to expect new policy arrangements capable of calming an overwrought and cyclically exposed business boom. It is too late for monetary policy to affect the consumer boom which is nearing an end anyway. And so many industries have touched the outer limits of their productive capacity, it is not likely that monetary policy can affect the capital goods boom which has now acquired a long-term capacity expansion character. All that can be hoped for is that at least the speculative aspects of an inventory boom which might otherwise be achingly intense both because of share need and also because of rapidly rising commodity prices can be truncated somewhat before its normal cyclical completion. In other words, we have done it again. Those analysts who hope that monetary policy in the political context of the 1970s and hampered by the limitation of its powers to the supply side of the money market could achieve economic stability almost single handedly have been disappointed for the third time in seven years. Three strikes the stock market has grimly concluded and you're out. Now, what's being said there is the implicit view of Dr. Summers that it's not enough to control the supply of money and it's not enough to control the supply of credit and it's not enough for the Federal Reserve Board using conventional open market operations, using conventional discount rate policy, using conventional legal reserve requirements policy to effect interest rates. In his view, we should have been long since getting on with the problem of developing selective credit controls. You couldn't tell that from the passage that I read but elsewhere in the memorandum that view becomes more explicit and I have appeared on the same platform with Al Summers and he's made clear that that is his view. In other words, he would like to see some direct credit controls that will limit consumer spending and spread out the strength in consumers' spending so we won't have feast and famine. And what he's saying is that as far as this business cycle is concerned, it's too late really to perfect such instruments and to use them. But I think he's saying something more, namely that his earlier optimism that the government officials and Congress and concerned and interested economists and policy makers would be getting on with the task of developing these tools, that prospect has not materialized. I never thought it would and I wondered in sharing a platform with him at his optimism that we were about to move in that direction because I saw no particular traces of it but I guess that Dr. Summers now sadly concludes that as far as the immediate business cycle situation is concerned, we can't expect to have much hope. I may say that as of his early May model, it calls for a weakening of real growth from 8% down, I'm speaking now from memory, to something like 6.5% in the second current quarter down to something like 4% by the fourth quarter and then down by the second quarter of 1974 actually to a negative rate of growth, that to be maintained in the middle of 1974. I believe that the primary energy for so dramatic a movement, I call the movement dramatic, in 1937 we would have considered such a movement gentle but the business cycle has been tamed, the business cycle no longer shows the wild energy that used to be the case and so, the Summers' scenarios that I'm describing for you is about as dramatic as any of the scenarios of any of the forecasters and in order to get the energy to make things move that much that quickly, Dr. Summers must rely primarily upon an inventory swing. He has by the first quarter of 1974 inventory accumulation at the rate of $21 billion according to my recollection. Then it drops to $10 billion annual rate in the second quarter and then it drops if I remember correctly to essentially the neighborhood of zero. That's a $20 billion swing in a couple of quarters and if you couple that with a decline in housing, residential construction expenditure and with a reduction in the pace of consumers' durable spending, led no doubt by autos, but augmented by other consumers' durable spending, then you get his particular scenario. Well, let me go from the dramatic to the calm. I now have before me the publication in the middle of May of the Argus Weekly Staff Report. I can presume that the forecast that I'm about to discuss is the work of James Meigs, formally of the First National City Bank, formally before that of the Federal Reserve Bank of St. Louis and trained at the University of Chicago under Professor Milton Friedman, also Dr. Waldman and other members of that particular staff. Now, what do they see in their crystal ball? They expect that the real GNP of 8% in the quarter which is behind us will decline, it will decline rather steadily eight, six and 3/4, 5.5 but it levels off at about 4% or shows signs of leveling off just below 4% by the end of 1974. From my viewpoint, the scenario that is described there would be a very good one. This would mean we had made reentry towards a high employment, maintainable rate of growth without going in to even a growth recession. Now, it's true we dip below the magic number of four and 1/3% or four and 1/4% or 4% which is what is presumably just needed in order to absorb the growth of our labor force because of population increase and the normal growth in productivity but we don't go below that number by any appreciable degree as far ahead as the eye can see and I think that that's a pretty good scenario. This is based of course since they are monitorists upon an explicit forecast of what's going to happen to the money supply. I'm looking at the chart on their May 15th report on page two and in the upper panel it shows what's happened to the money supply. It shows what they think is going to happen to the money supply and that drives the system to produce what they think is going to happen to the real GNP growth of the system. The money supply they think is now coming down from something above a 7% year-to-year percent change and it will go down towards 6%, actually it'll overshoot that and go below 6% by the, let's say the third quarter of the year, it may be a little later than that, Columbus Day or Thanksgiving if you lie but then they have the money supply steady as a rock at 6%. Apparently at that date Dr. Burns will have gotten the election year out of his system, the superiority of a stable money supply target will have been realized. I may mention this is a M1 target, it's 6%, it's perhaps higher than Professor Milton Friedman himself would advocate because he would put it in terms of a M2 target, not much above that 6% rate if at all which means that M1 which has a downward drift relative to M2 would have to aim at I suppose no more than 4%. If the Argus picture were the majority consensus forecast, I think you'd have a lot more happy people around New York and Washington and Main Street than you actually do. In point of fact, Argus and Kidder, Peabody, two financial monitorist forecasting groups have been much more optimistic than the rest of the crew and their readers have been waiting for their optimism to take fruit in terms of the stock market. Well, I don't where the reality lies, somewhere between the Summers' scenario. The Summers' scenario, by the way, is not one of the Doomsday scenarios, if you would listen to an Eliot Janeway or some other people, really big swingers, you can get the Dow Jones averages down to half their present levels and all kinds of crises but I think that among the responsible forecasters with a pretty good track record, you will bow most of them in the limits set by the Summers' outlook and by the Argus outlook. Let me say by the way that the worse of these outlooks, the Summers' one, it doesn't seem to me to be a terribly pessimistic picture. There have been many previous decades in which we would have settled for far less in the way of trouble. I wouldn't welcome the Summers' outcome but it would not mean the end of the economic system as we have known it. It would not necessarily mean very much of an erosion of profits and actually if you read all of Dr. Summers' accompanying memoranda, he is fairly optimistic as a whole. I think it's fair to say that he believes that the stock market, the money market generally has discounted about every kind of trouble it can think of and that maybe it's reached by now pretty much the full discounting so that even if the news turns out to be as bad as he thinks it's likely to be, that would not necessarily have much of a shock on the stock market. The stock market is already prepared for that and for worse and in particular it seems to me you can be quite optimistic about the general, longer-term movement of stock prices, if you take the position which Dr. Summers argues, argues forcefully, that the profitability of American enterprise has now been restored. In other words, according to Dr. Summers, the increase in profits which we've seen in the last couple of years is more than just a cyclical upswing in the profits which is gonna be taken away from us the moment the business cycle turns in the other direction. On the contrary, what he thinks is that there is going to be a better longer-term alignment between cost trends and price trends so that a profitability is really much better than it was in 1970 after you correct for cyclical factors and therefore we can look ahead after the cyclical downturn of 1974 has begun to spend itself after we begin once again to make our advance in the last part of '74, we can look forward to a very nice continuing growth of profits and I must say that if I could share his confidence about what's happening to the profitability of American enterprise, American corporate enterprise in the 1970s, I think that I could make out a pretty good case that the stock market with the Dow Jones averages in the general neighborhood of 900/925 is not a bad buy because an awful lot of irreversible inflation which has raised the value and the reproduction cost of the plant and equipment of American industry has gone by in the years since the stock market generally was at the same level. Now before I move on to other matters, is there any new information available to me or any new method of analyzing the old information that enables me to state more precisely where I would think we would come between the Summers' scenario and the Argus scenario? I can't really say that enough has happened. We did have, for example, in the month of April, the leading indicators actually turned down. This is the first the leading indicators have turned down in a long time. The list is not complete, not all 12 of the items in the index are now available but I think it is a warning sign that we definitely have passed the inflection point of most rapid rate of growth. Probably some of you have seen in the press that Dr. Geoffrey Moore who used to be the Commissioner of the Bureau of Labor Statistics in the first Nixon administration and who has been a long-time worker at the National Bureau of Economic Research on the leading coincidental and lagging indicator approach that he has a new method of analysis which suggests that the bloom is off the boom. As I recall and here I must just rely upon vague press references because I haven't yet been able to see the memorandum by Dr. Moore, he has found that if you take the lagging indicators and if you compare them in a certain way with the coincidental indicators, oddly enough you get a good leading indicator and he has a measure which has tended in post-war business cycles to turn down about 13 months before general business turns down. Well, what does this measure show for the current economy? I believe it shows that for some months now, some few months, that wasn't given in the news item which I saw but let's say four/five months that that measure has been trending downward. If I'm about right in my guess that it's a four or five-month down trend, if we take that from 13 months, we get something like eight or nine months left before the down turn can be expected in the business cycle. Now, we are as I speak just beginning to move into June, so seven months gets us to the end of the year, eight months gets us to February, nine months gets us to March, that pretty much agrees with the Al Summers' timetable because you recall that in the second quarter the rate of growth goes negative, that means between the first and the second quarter which we can put that around April 1, the economy is just passing through the zero level from growth to stagnation, negative growth. This is more than a mini recession, this is more than a growth recession, this is a full-fledged recession but don't be frightened by the expression full-fledged recession because it's not a full-fledged recession of the sort we used to have before the war. In a year like 1937, the Federal Reserve Board Index of Physical Production dropped as I recall more than 25% and from '37 to '38 and from '38 to '39, it recovered more than 25%. Well, I don't think that the Summers' scenario calls for any such extensive an amplitude as that but we would be talking about something that's not dissimilar from what we experienced in 1970. A weak genuine recession more than a growth recession or a mini recession. I don't think you can put much weight on one month's decline in the leading indicators. For that matter, one month's decline in the lead indicator suggests that there still is some way to go in the present expansion. I don't think that the new method of Dr. Moore has been tested enough for me to have much confidence that it can adjudicate for us as to whether we will have a growth recession, a mini recession at the end of '73 and going into 1974 or a genuine recession or whether as with the Argus model, we will have actual stability. I should in this connection to help you appraise the odds. I mention that Dr. Otto Eckstein of Data Resources Incorporated has looked at the data very carefully and he is of the opinion that the excessive inventory swing, the kind of swing that Dr. Summers is relying upon for his scenario and the kind of swing which Alan Greenspan of Townsend-Greenspan is envisaging in his slightly more optimistic scenario which shows real output continuing to grow all through 1974 and only just barely hitting zero at the end of '74, well, Eckstein thinks that business has smartened up and that you're not gonna get this time any increase in inventory accumulation from the present level of seven, eight, nine, $10 billion, I put it very vaguely because there is some lack of confidence that the first quarter number by the Department of Commerce can really be correct. Let's say the most recent level of about 10 billion, well, Dr. Eckstein thinks that the business is not gonna go very much above this any time during the current expansion and if they don't go very much above this, he doesn't think you're gonna get a big slingshot effect which is gonna send the economy very far down below the four and 1/4% rate of growth. In fact his scenario calls by the third quarter of this year for our being less than 4% but that is a fairly happy eventuality because it means we're getting the misery out of our system, the heat out of the system and we are moving to something like an Argus pattern a bit faster than would otherwise be the case. I don't know what the Argus Group would say if the Federal Reserve is building up towards some kind of a money crunch as is fairly widely believed. If we take the numbers that I quoted to you where the rate of growth of money supply shoots down just a bit below 6% but then levels off at 6%, and if we use the Argus methodology and suppose that the money supply later in this year will actually move down to a 3% rate of growth and be held there for let's say four months, let's say, six months, then I presume if you're gonna continue to be a good card carrying member of the monetary school, you would have to give a lot of weight to that and then the Argus Group would join the rest of the crowd. I might just mention that yesterday while Secretary of Treasury George Shultz was giving a fairly cheerful, optimistic description of the American economy, the securities analysts in New York were being addressed by Henry Kaufman of Salomon Brothers and he was giving them the blood and thunder and fire that I mentioned on an earlier tape here and namely that there's a lot of excess in the system that we have been wicked, we have sinned and that that excess can only be got out of the system by a money crunch and we are well on our way towards that money crunch. What I think we are entitled to say is that the Federal Reserve in its open market deliberations has tightened up its goal, it has agreed to countenance a Federal funds rate of 8%, that's my guess and that it is aiming for some kind of an overshoot down, undershoot I guess it would be the more descriptive word, down below that increase in the monetary aggregates which it thinks is appropriate for the long pull. It means business. There has been a letter signed by Dr. Arthur Burns, the Chairman of the Board of Governors of the Federal Reserve System, instructing the banks to be negridly in their rationing out of credit, not to refuse good Main Street customers, the backbone of the country but all the froth on the boom should be avoided by the discretion of bankers. Most economists have very little good to say about moral persuasion. They don't think that this means anything. I myself give it a little weight and I think it's an omen of things to come from the Federal Reserve Boards becoming still tighter. I would not be surprised to see the prime rate continue to rise, to rise again to see the discount rate which again is looking low, rise in the near future. Well, I guess there really isn't time left to go into the energy crisis. I think that the big guessing game is about the stock market and so let me depart from my usual caution and try to weigh the pro and con elements for the stock market holding up at this level going forward or going down. I perhaps have mentioned in this tape that I've had an unprecedented number of alarmist phone calls, sometimes from complete strangers asking whether this is 1929 and whether this isn't the time to sell? Obviously I don't have any opinion to pass upon that question. It's a very dangerous game to call up a professor of economics and ask for his opinion on the stock market. The danger is that you'll get his opinion and that'll do you a lot of harm but I do say and I do say it candidly and frankly that I can think of 10 good reasons why the stock market should be going up and I can think of 10 good reasons why it still has plenty of room to go down. The whole art of investing, I won't say of economic analysis is to adjudicate between those 10 different reasons but I do wanna call your attention, one possible pattern, it's a pattern which has been alluded to in the public press and attributed to Alan Greenspan because in one of his letters to his clients, he's gone into the problem of the stock market. There is a possibility that events will move the way most of the fashionable forecasters think, mainly towards some kind at least of a mini recession and yet the stock market can be fairly strong. I'm recalling for you the 1953 experience. In September of 1953, all the experts for the first time became convinced that we were gonna go into the recession of 1953/54 which indeed we did go into. The cause of that recession was primarily the cessation of the Korean War but the stock market in 1953 just as it got that same news continued to go upward at a new and faster rate and didn't look backwards really by and large for the whole of the next business cycle. In fact, you might say from 1953 to 1961/62, the stock market was catching up to the post-war. Why? I think the gloss given, the explanation given and it makes some sense to me was that the stock market decided that the recession really wasn't gonna be a very bad one and it was so glad to have the shoe fall, so I'm just warning any short sellers who aren't nimble that it could be that just at a time when the mini recession is confirmed in the minds of everybody, the stock market will take the view that the bad news is out and it's not gonna be a very bad mini recession and profitability is not gonna be very much eroded and paradoxically that could be a signal for the rise of the stock market right in the face of a decline in real growth in the American economy. 

- If you have any comments or questions for Professor Samuelson, address them to Instructional Dynamics Incorporated, 166 East Superior Street, Chicago, Illinois, 60611.