Tape 177 - Will the federal deficit crowd out private financing

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Narrator	Welcome once again,	0:03
	as MIT Professor Paul Samuelson	0:04
	discusses the current economic scene.	0:06
	This series is produced by	0:08
	Instructional Dynamics Incorporated.	0:09
	Professor Samuelson, one of the main questions	0:12
	being discussed now is the size of the deficit.	0:14
	Is it running too large?	0:17
Paul	In order to answer the question	0:22
	of whether the deficit that is in prospect	0:24
	is so large that it will crowd out private,	0:27
	needed investment, I think we should take a look	0:32
	at the whole background of where we are now.	0:36
	Since making my last recording,	0:40
	we have learned the grim facts	0:44
	about the unemployment report for March,	0:46
	and although the February rate	0:52
	had held steady at 8.2% in February,	0:56
	just where it had been in January,	0:59
	our luck	1:02
	ran out in March,	1:04
	and we saw a very sizeable increase to 8.7%.	1:06
	Moreover, the actual unemployment situation	1:12
	is probably a bit worse than is suggested by those numbers,	1:16
	in that, again, in March, I believe,	1:23
	there was a shortfall of the labor supply,	1:27
	so that the number of people who were discouraged	1:33
	from looking for work	1:38
	was considerable,	1:41
	and they weren't counted among the unemployed	1:42
	even thought it would be very hard to distinguish	1:45
	between somebody who still was looking for work	1:49
	and was counted as unemployed,	1:55
	and somebody who had been so unlucky	1:56
	or so un-diligent in getting a job,	2:00
	that he had given up,	2:03
	and therefore when the scientific sample came to his door	2:06
	to sample him or her,	2:13
	he or she answered that they had not been looking for work	2:16
	and therefore were not counted among the unemployed.	2:21
	I don't suppose that any of the experts	2:25
	think that the March number	2:28
	is the worst that we're going to see.	2:31
	Depending upon what your confidence is	2:34
	in the seasonal correction	2:37
	for the unemployment data,	2:39
	that is, for the employment data	2:43
	and for the labor force data,	2:45
	and for the unemployment data,	2:46
	perhaps we'll expect one of the biggest increases	2:49
	to take place when school is out, colleges are out,	2:55
	and a considerable number of young people	3:00
	come into the labor market looking for jobs	3:05
	that aren't there.	3:08
	This is a normal seasonal matter,	3:10
	and if a seasonal correction were neutral	3:12
	with respect to good times and bad times,	3:15
	then there would be no basis for predicting	3:19
	that anything special and interesting would happen	3:22
	in the June numbers	3:25
	and in the July numbers.	3:28
	But for reasons which I don't think I ought to go into	3:30
	right now, there are definite interactions	3:34
	between the cyclical behavior of the economy	3:38
	and the seasonal behavior of the economy,	3:42
	with the result that seasonal corrections	3:45
	are not able to take care of these interactions.	3:49
	In fact, it's not clear that we would want them to,	3:53
	because they are genuine parts of the ongoing story.	3:55
	We still do not have the first estimates	4:04
	of the first quarter's GMP,	4:09
	but we've been getting some leaks out of Washington	4:13
	and all the private estimators	4:16
	have been making their own guesses,	4:19
	and it is thought that in real terms,	4:21
	there will be a decline in output,	4:26
	perhaps at the neighborhood of a 10% annual rate.	4:29
	So if you just go by quarterly data,	4:37
	it will look as if, I guess,	4:38
	the inflection point of steepest descent	4:41
	takes place in the first quarter of the year.	4:46
	In saying that, of course, I'm making an implicit forecast,	4:48
	but I'm going along with the conventional wisdom	4:51
	which says that whether or not we bottom out	4:53
	in the second quarter itself,	4:58
	we will not be declining at so rapid a rate	5:02
	in the second quarter as in the first quarter.	5:06
	Well, it's against that background	5:10
	that you will want to appraise the increase in the deficit.	5:11
	Let me say that there is a crude theory	5:19
	of imperialism which doesn't get much credence these days,	5:23
	but which used to be taken quite seriously,	5:27
	I don't know whether it deserved to be taken seriously.	5:31
	In the past, you would have to	5:35
	look into different time periods,	5:39
	but I'm referring to the fact, the theory,	5:41
	that what America needs for its prosperity	5:44
	is wartime expenditures, or failing that,	5:46
	cold war expenditures,	5:51
	or failing that,	5:52
	imperialistic expenditures,	5:54
	because, so it is said, a capitalistic system	5:56
	must always have somewhere a hole in its purchasing power	6:00
	and must run out of steam	6:03
	unless you can, from outside,	6:05
	get an infusion of new blood.	6:09
	As I've stated it that crudely,	6:13
	I don't think it probably ever deserved much credence.	6:15
	Maybe the reverse of the truth was as true	6:20
	as that truth.	6:22
	But in any case,	6:25
	we have right now a very interesting experiment going on.	6:28
	We have the eclipse of the American position in Indochina.	6:32
	It's something which most of us have thought	6:39
	was on its way for a long, long time,	6:42
	we have, in our own minds, most of us	6:45
	cut our losses,	6:49
	and this is reflected in the very adverse reactions	6:51
	which are being received	6:57
	by President Ford's various requests	7:00
	for last minute military aid	7:03
	to Cambodia and to Vietnam.	7:06
	Even Cambodia, which at the moment that I'm speaking,	7:13
	hasn't technically fallen, although it seems	7:16
	that the fall of the capital is overdue,	7:19
	has not been cut off the allowance list of the president.	7:22
	And in his speech sometime back to congress,	7:28
	the president reiterated his desire for no less than,	7:33
	well, really, essentially a billion dollars,	7:39
	of which about 3/4 was for military aid,	7:42
	and 1/4 for humanitarian relief.	7:47
	Since America is in a recession, a recession which many call	7:51
	the worst recession of the post-World War II period,	7:55
	you would think if you just followed the simple theory	7:58
	that a capitalist economy,	8:04
	a mixed economy, needs imperialism,	8:08
	that this would be just what the doctor ordered	8:10
	as an excuse and a pretext to create purchasing power	8:13
	and that congress, the executive committee of capitalism,	8:16
	would be voting great sums of money	8:20
	for this purpose,	8:23
	precisely because this is a useless purpose,	8:26
	it's money thrown down a rat hole, so the theory would go,	8:28
	it's best because if congress appropriates useful money,	8:33
	let's say to build TVA dams, then those dams would get built	8:37
	then you'll run out of need	8:43
	and opportunities for further money.	8:45
	But if you pour your money down a rat hole,	8:47
	a rat hole as indefinite size	8:49
	and you'll never run out of excuses	8:52
	for deficit spending.	8:55
	Well, that would be a very poor hypothesis	8:58
	by which to understand events as they're happening,	9:02
	and would be an extremely poor model and framework	9:06
	in terms of making predictions.	9:11
	And after all, part of what constitutes a science	9:13
	is the ability to give conditional probabilities	9:19
	about what is going to happen that are more accurate	9:23
	than the conditional probabilities	9:28
	that would have to be stated by somebody	9:31
	who had not mastered this science and knowledge	9:35
	that resides in a political economy.	9:40
	Well, whether we're gonna have too large a deficit	9:43
	or too small a deficit does not hinge at all	9:46
	upon what's happening in Indochina,	9:51
	unless there is some administration finagling with funds.	9:57
	The edict is very clear, both from the American people	10:05
	and from their representatives in both houses of congress,	10:08
	namely, that the American people are not going to use this	10:13
	as the method of pump-priming	10:16
	to get us out of the recession.	10:19
	Well, let me turn to	10:23
	where the deficit is going to arise.	10:25
	The deficit is going to arise,	10:29
	in part, but in small part,	10:31
	at the state and local levels.	10:34
	At the state and local levels,	10:36
	tax revenues have been disappointing	10:38
	until you look at what's been happening to the GMP	10:42
	and then you realize that the tax revenues	10:45
	are just on target.	10:48
	They have not been growing in the way they would grow	10:50
	in a normally dynamic year,	10:53
	which was not a repression--	10:58
	a recession year.	11:00
	Since the state governments find that the drains on them	11:04
	are the causes which have turned to them	11:13
	and which are deemed, within the present political process	11:16
	as legitimate, are burgeoning needs,	11:20
	the needs associated with the recession itself;	11:25
	an increase in the need for welfare assistance,	11:28
	the need to finance various forms of distress.	11:31
	There is some involuntary deficit financing	11:42
	which is going on at the state level.	11:46
	As an example, my own state of Massachusetts	11:48
	has a reform governor; he came into power	11:51
	on a campaign, this is a Democrat, mind you,	11:54
	that he would not raise taxes,	11:59
	as against the lax spending Republican, Frank Sargent,	12:02
	who proceeded him,	12:06
	and Governor Dukakis is finding it quite impossible	12:09
	to reduce expenditure so he won't have to increase taxes.	12:14
	So, what he's now proposing	12:19
	is that we undertake at the state level,	12:21
	some short-term borrowing.	12:25
	He says that short-term borrowing at the state level	12:27
	is all right, because it's going to be funded later,	12:30
	which I suppose is the tip-off to us all	12:34
	that he in fact is going to have to increase taxes.	12:37
	That story, which I've just told,	12:43
	of an involuntary deficit, but in some part,	12:44
	an induced increase in tax rates	12:48
	because of a failure, due to the recession,	12:51
	of the old tax rate structure of creating the needed	12:56
	increment of revenues, I suppose can be told	12:59
	over and over again in most of the 50 states.	13:03
	And it's typical of what happens	13:06
	at the state and local level.	13:08
	Now, I would not say that increasing state expenditures	13:10
	and increasing state taxes has no net stimulating effect	13:15
	upon the economy.	13:19
	We do have something in modern national income analysis	13:21
	called a balanced budget multiplier theorem,	13:26
	which says that even if a program	13:29
	of extra government spending is not financed by borrowing,	13:34
	and even if it's not financed by borrowing	13:41
	which involves money creation, there may still be	13:45
	a positive net stimulus.	13:48
	But that is much less, dollar per dollar,	13:51
	by anybody's theory,	13:56
	than the stimulus that comes from outright	13:58
	deficit financing financed by the Federal Reserve system	14:02
	through its friendly willingness	14:08
	to increase the stock of money.	14:10
	So, at the state and local level,	14:14
	we are not going to get great offsets to the recession.	14:17
	Indeed, if the whole fiscal system	14:23
	behaved like the state and local system,	14:26
	then we would have no built-in stabilizers of any magnitude,	14:28
	and as the private economy got depressed,	14:32
	and as the dominoes fell, the state and local governments	14:35
	would at best accommodate themselves to the decline	14:41
	and would show no real substantial resistance	14:46
	to the decline.	14:50
	That is why, at the federal level,	14:51
	since it is the federal government	14:53
	which has the greatest ability to borrow,	14:55
	which is the spender of last resort,	15:00
	just as its tool, the central bank,	15:04
	is the lender of last resort,	15:07
	and is the creator of money of first and last resort.	15:09
	In consequence, in order to keep the unemployment level	15:15
	of 8.7%, which most of us guess is gonna go to 9%	15:20
	and go somewhat above 9%	15:27
	before we're finished with this movement,	15:29
	in order to keep it from going to 10 and 11%,	15:32
	the physicians prescribe that the federal government	15:36
	reduce its taxes, and we've had the 22 billion dollar	15:44
	tax reduction bill signed by the president,	15:48
	admittedly more than the 16 billion he'd asked for,	15:52
	but less than the senate version of more than 30 billion.	15:55
	And we're getting an increase in expenditures	16:00
	occasioned by the social needs of the country,	16:05
	but also those social needs are being listened to	16:09
	more attentively because more money	16:12
	is what the fiscal physicians seem to prescribe	16:17
	in this period of recession.	16:21
	Of course, if the president could spend	16:23
	that extra billion dollars,	16:27
	and I suppose on humanitarian relief	16:29
	and just getting Americans out of Indochina,	16:31
	maybe a quarter of the billion dollars will get spent.	16:34
	That's one of the things that will unbalance the budget,	16:39
	but which, at the same time, will be keeping up the flow	16:42
	of disposable income, that is, of the income	16:45
	which the American people have to spend	16:49
	after they pay their taxes,	16:50
	and after you've corrected	16:52
	for the behavior of the price level.	16:54
	The personal income of the American people	16:57
	and the disposable income	17:00
	has been, both of those, which are very closely connected,	17:01
	have been holding up very well,	17:05
	precisely because	17:06
	we have not been running a balanced budget.	17:07
	Now, the question is,	17:11
	what about dosage?	17:14
	Are we having too large a deficit	17:16
	in too short a period of time	17:19
	with a crowding-out effect?	17:22
	That is being discussed among Wall Street people themselves,	17:24
	and it showed itself for a while at least,	17:29
	in a rise in short-term interest rates	17:32
	and the fall in the prices of long-term bonds	17:35
	as everybody began to fear	17:40
	that later interest rates will rise,	17:43
	it'll bring down the price of bonds,	17:45
	well, in anticipatory markets, which is kind of a market	17:46
	that one has in Wall Street,	17:51
	if you think a thing's gonna happen,	17:55
	you tend to make it happen right away.	17:57
	I think I've mentioned before	18:01
	that Professor Franco Modigliani, my colleague here at MIT,	18:02
	and Professor Albert Ando,	18:09
	his co-worker at the University of Pennsylvania,	18:11
	organized a letter to the New York Times	18:14
	to be signed by a number	18:19
	of so-called distinguished economists,	18:21
	which urged that congress pass tax reduction	18:27
	and possibly some expenditure increase	18:34
	and that President Ford sign such a bill.	18:36
	So far, the wishes of those letter-writers,	18:40
	and I'm included among them,	18:43
	have been realized	18:45
	and no sooner had we written our letter	18:48
	in the New York Times,	18:51
	signed by us, with, I guess, our affiliations indicated,	18:52
	than the Wall Street Journal, as I think I've mentioned,	18:57
	ran an editorial in which it said that	19:01
	there would only be,	19:05
	there would be increase in federal spending	19:07
	but this would be at the expense of private spending	19:09
	because this deficit would crowd out the housing expenditure	19:12
	and the plant equipment expenditure	19:18
	and the inventory investment expenditure,	19:19
	which would otherwise have taken place.	19:23
	Well, there's been a good deal of discussion of this,	19:30
	and I want to marshal the evidence	19:35
	and give you a quantitative appraisal	19:40
	of where the truth probably lies.	19:43
	As I said, and as I've written, there was one sentence	19:50
	in that letter which I did not care for,	19:56
	and which I thought I had removed.	20:00
	It doesn't make me hugely unhappy	20:03
	for such a sentence to appear under my signature,	20:05
	but I think it's a sentence which can be misunderstood,	20:08
	so let me state it.	20:12
	What the letter that appeared in the New York Times said	20:14
	in that sentence was,	20:18
	that people don't realize that the increase in income,	20:20
	much of it real income because the rate of inflation	20:27
	is about what it had otherwise have been	20:31
	in the period we're talking about,	20:34
	and the rate of inflation was actually improving	20:37
	as I had joy to mention on these tapes,	20:40
	the increase in real income,	20:46
	the increase in real employment,	20:49
	will be parceled out in part in an increase in consumption,	20:51
	but a part of it will be parceled out	20:57
	as an increase in taxes, which will of course	20:59
	reduce the size of the deficit,	21:03
	and part of it will go	21:04
	in the form of an increase in savings.	21:06
	So you can't assume	21:09
	that there is just a certain unchanged volume of savings.	21:12
	The volume of savings itself will increase.	21:18
	Moreover, we have reason to know from past experience	21:21
	that when you crowd a great deal of extra temporary income	21:27
	into a short period, a great deal of that is saved.	21:31
	Hence, it can be argued, and was argued by Sam Nakayama	21:37
	of the, Kidder Peabody, who was not primarily a Keynesian,	21:42
	I think he would probably regard himself	21:49
	as more of a monetarist than a Keynesian.	21:51
	He's argued that the Wall Street Journal had the two sides	21:54
	of its flow of funds balance sheet	21:57
	quantitatively incorrectly,	22:00
	and it stacked the cards	22:03
	in favor of the crowding-out thesis.	22:05
	The point that I wish to make	22:11
	is that there is no automatic balance,	22:13
	so that the greater the deficit, the better,	22:16
	and you don't have to worry on this account.	22:20
	What's true is that some part will go into consumption,	22:22
	some part will go into savings,	22:28
	some part of the spending will meet bottlenecks	22:29
	and will raise prices, and that will have effects	22:33
	upon interest rates.	22:35
	And generally speaking, there always is an interest rate	22:36
	which, or a structure of interest rates,	22:40
	which will bring into equivalence	22:43
	the two sides of the flow of funds balance sheet.	22:45
	And the proper way of asking the question	22:49
	is whether at unchanged interest rates,	22:52
	with unchanged Federal Reserve policy,	22:58
	will this new incremental deficit get itself financed,	23:01
	thereby not displacing anybody else from the labor market?	23:05
	And I think that the answer to that is no.	23:11
	And any sentence that speaks of a tautology,	23:14
	and which does not, in the next breath,	23:18
	warn against the misinterpretation of the tautology,	23:20
	is, I believe, to be regretted.	23:24
	There would be a tendency,	23:28
	if any kind of private investment improves,	23:31
	for the rate of interest to go a bit higher	23:34
	than it would otherwise have gone.	23:36
	Note the careful way I state the matter,	23:39
	because if the recession continued	23:41
	without the deficit spending,	23:43
	the interest rates might have fallen down,	23:46
	and so the deficit spending that comes in now	23:48
	may just keep the interest rates from falling down,	23:51
	may just hold them level,	23:53
	so I'm not arguing that the effect of the deficit	23:56
	must be to raise interest rates absolutely,	23:59
	but only to raise interest rates	24:03
	over what they otherwise would have been.	24:05
	It's a very safe statement to make	24:07
	because it's not easy to know, in fact,	24:08
	you never can know accurately what would otherwise	24:11
	have been the case of history	24:14
	if history were to have taken place in a different way	24:16
	from what it actually does, and from what it actually will.	24:20
	But the question that one has to ask is,	24:26
	how strong is the force of the recession,	24:30
	and how strong, with the deficit,	24:33
	are the forces making for an end of the recession?	24:36
	And how high will have to be the induced changes	24:40
	in interest rates?	24:46
	And here, I think that you must guard against the fact	24:47
	that the discussion of whether the def	24:51
	will be crowding out activities and raising interest rates,	24:54
	that discussion itself is self-inflammatory	24:59
	in the short-run.	25:01
	And, if Caesar's wife is absolutely pure as the driven snow,	25:03
	and yet people begin to wonder	25:09
	whether she may be besmirched,	25:11
	then her reputation is besmirched.	25:15
	So it is with respect to bonds.	25:18
	Now, I don't believe that these self-fulfilling movements	25:20
	of speculation and expectations	25:26
	are able to go their own scenario indefinitely.	25:29
	I think in the longer run,	25:34
	the expectations are not exogenous given variables	25:37
	which cannot be affected,	25:42
	and which can take their ration away,	25:43
	but they are endogenous variables,	25:45
	and the smartest people,	25:47
	the ones who make the most money in the market,	25:48
	will realize, in the longer run,	25:50
	what should be the proper expectations.	25:53
	And so, I guess that I would say	25:55
	that the deficit that we're talking about	25:59
	is of the size which is actually needed	26:02
	to have the Federal Reserve do easily	26:06
	with interest rates that do not fall cataclysmically.	26:13
	What needs to be done, and I would expect	26:20
	that interest rates will rise as we go later into the year	26:24
	if the deficit fulfills its purpose,	26:29
	which is to bring the recession to an end	26:32
	and to bring us to an upturn.	26:35
	And if that upturn is anywhere near as healthy,	26:38
	in real terms, as perhaps it ought to be,	26:40
	and as most of the consensus forecasters are forecasting,	26:44
	then I would expect that the Federal Reserve	26:50
	will find itself letting interest rates go up.	26:55
	It'll certainly do that	26:58
	if it is not willing to have rates of growth	27:00
	of the money supply proceed in the period, let us say,	27:03
	from Labor Day to New Year's, or more specifically,	27:08
	from around Thanksgiving,	27:13
	unless it's willing to see	27:18
	the rate of growth of the money supply register numbers	27:21
	like 7, 8, 9% for a while,	27:24
	to make up for the sub-4 and 5% rates	27:29
	which were observed late last year.	27:35
	Then it will have to let interest rates rise.	27:40
	My guess is, the Federal Reserve will act in pretty much	27:44
	the same way, by the same logic, as it was acting last year,	27:48
	but the effects will be on the opposite side	27:53
	as we move into the upturn.	27:55
	Namely, the Federal Reserve will be concerned	27:58
	not to let interest rates rise too fast.	28:00
	In order to keep interest rates from bobbing up too fast,	28:04
	they will find themselves letting the money supply grow	28:07
	a bit faster than once a month	28:10
	at the Open Market Committee meetings	28:14
	they instructed the operator of the desk, Alan Holmes,	28:16
	in New York, to let happen.	28:21
	It just shows you can't serve two gods at the same time.	28:24
	You can serve one or the other,	28:29
	or as I would prefer to put it,	28:31
	you can have a multipurpose goal	28:33
	and I think that this would be a good thing,	28:39
	because I do believe that, given the amount of slack	28:43
	which we're gonna have in the system	28:47
	for the next two or three years	28:49
	from what has already taken place,	28:50
	it will be a desirable thing to have a recovery	28:52
	which is not an anemic one, even though, I have to say,	28:55
	that the longer the recovery,	29:01
	and the more vigorous the recovery,	29:06
	the greater will begin to be, the new pressures,	29:09
	newly reactivated pressures,	29:14
	for a resumption of the inflation rate.	29:17
	Or perhaps to state it in a more complicated	29:25
	but a more accurate way,	29:29
	there is danger that as we move into the next election year,	29:31
	that you will begin, again begin to see,	29:37
	a re-acceleration of inflation.	29:41
	Could that re-acceleration of inflation bring us back	29:44
	to two-digit price inflation?	29:47
	The answer to that is yes, of course it could!	29:50
	Whether that's the most probable outcome	29:54
	I think will depend upon many factors,	29:56
	such as how the price of oil holds up,	29:58
	and also, on what happens to the weather.	30:00
	Here we are in macro-economics,	30:04
	once again concerned about the late spring,	30:06
	the danger of floods with late plantings,	30:11
	it's almost as if we're going through an anxiety period	30:14
	much like that of last year.	30:19
	And yet, that's the stuff out of which analysis	30:21
	of the passing economic scene has to be made.	30:25
Narrator	If you have any comments or questions	30:30
	for Professor Samuelson,	30:31
	address them to Instructional Dynamics Incorporated,	30:33
	450 East Ohio Street, Chicago, Illinois, 60611.	30:36

Item Info

Title:

Tape 177 - Will the federal deficit crowd out private financing

Date:

1975

Contributor:

Samuelson, Paul A. (Paul Anthony), 1915-2009

Subject:

Format:

audiocassettes

Language:

English

Digital Collection:

Paul A. Samuelson papers, 1933-2010 and undated

Source Collection:

Paul A. Samuelson papers, 1933-2010

Series:

Economics Cassette Series: Paul Samuelson

Rights:

Limited Re-Use

CC BY-NC 4.0

Rights Note:

This material is made available for research, scholarship, and private study. Copyright in this material has not been transferred to Duke University. For reuses of this material beyond those permitted by fair use or otherwise allowed under the Copyright Act, please see our page on copyright and citations: https://library.duke.edu/rubenstein/research/citations-and-permissions.

Identifier:

RL10082-CS-0160
ref2459_15i
samuelsonpaul
duke:325183
pstau001160
ark:/87924/r4q52fv8h
c9384971-bf6f-4664-af3c-fc3e624ecdd9

Permalink:

https://idn.duke.edu/ark:/87924/r4q52fv8h

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Tape 177 - Will the federal deficit crowd out private financing

Transcript

Item Info

Economists' Papers Archive

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