Fed to Allow More Money Growth in ’85 : Acts to Spur Economy; Renewal of Inflation Discounted by Volcker
The Federal Reserve, continuing its efforts to restore growth to the stalled U.S. economy, disclosed Tuesday that it will allow more money to be pumped into circulation during the rest of the year.
Interest rates should remain relatively stable for the next several months, economists said, as the Fed waits to see whether their dramatic decline over the last few months provides the necessary boost to the economy.
Expanding the money supply typically stimulates economic growth, as it did when the present recovery began in 1983. But many economists believe that, as in the 1970s, excessive money growth can contribute to inflation.
‘Reasonable Judgments’
Fed Chairman Paul A. Volcker insisted that he remains “as concerned about inflation as I ever have been.” He said the Fed is “making reasonable judgments which we think don’t pose inflationary risks.”
The Fed predicted that the economy will pick up speed in the months ahead. It said that the gross national product, adjusted for inflation, should grow at about a 4% annual rate in the second half of the year, up from only about 1.7% in the first half.
For 1986, the Fed foresees more moderate economic growth of 2.5% to 3.25%, with inflation accelerating only slightly from as much as 4% this year to a maximum of 4.75% in 1986.
Economists generally welcomed the Fed action and predicted that financial markets will react positively. In anticipation of the Fed announcement, which was made after the markets closed, bond prices rose Tuesday and interest rates fell.
Most economists agreed with Volcker that there is little danger of renewed inflation and insisted that the Fed’s action was necessary to avoid further weakness in the economy.
“People will breathe a lot easier now,” said Irwin Kellner, chief economist at Manufacturers Hanover Bank in New York. “The Fed is telling the markets that it will do whatever is necessary to keep the economy growing.”
Getting ‘Out of a Box’
Timothy Howard, chief economist at the Federal National Mortgage Assn., a quasi-governmental agency that finances home mortgages, added: “The Fed needed to do something like this to get itself out of a box. The rapid growth rate of the money supply called out for the Fed to tighten (by boosting interest rates) but, given what is happening to the economy, the Fed clearly does not think tightening is appropriate.”
Volcker, going to unusual lengths in an effort to prevent confusion over the action, released the Fed’s semiannual report on monetary policy a day before he will testify about it to Congress and called an informal press conference to explain why the central bank is ignoring a recent spurt in the money supply.
The basic measure of money in circulation has grown at an annual rate of 11.6% since the end of last year, far above the Fed’s target of 4% to 7% growth. To achieve that target by the end of the year, the Fed would have to hold money growth to zero for the rest of the year.
Instead, the Fed chose to allow the money supply--as measured by M-1, which consists of total funds held in cash and checking accounts--to continue growing for the rest of the year from the higher-than-expected level it averaged during the April-June quarter.
But the Fed said that two wider measures of the money supply remained within their growth targets and decided to maintain those targets for the rest of the year.
For M-1, however, the Fed broadened its target range slightly for the rest of the year, calling for growth of 3% to 8% to allow greater maneuverability. But, because recent growth already has pushed the money supply toward the top of that range, it can grow by no more than 5.5% to 6% from its second quarter level to remain on target for the rest of the year.
Jerry Jordan, chief economist at First Interstate Bank in Los Angeles and an advocate of strict control of the money supply, complained that the Fed is “finessing” the recent growth in M-1 by allowing it to continue expanding from its current level. Instead of acknowledging that it was operating with a higher growth target for all of 1985, Jordan said, the Fed is trying to have the best of both worlds by keeping approximately its old money growth target but at the same time allowing more growth.
At the other end of the economic spectrum, A. Gary Shilling, who runs a New York consulting firm under his own name, insisted that the Fed’s efforts are “too little and too late” to avoid further deterioration in the economy.
“They didn’t abandon their targets, because they wanted to avoid the image of throwing in the towel against inflation,” Shilling said, “but I’m not sure they have given themselves enough running room to deal with the weak economy.”
Despite the new, higher range for M-1, Volcker told reporters: “You have to look toward some slowing to meet these (money supply) targets.”
But Volcker said that other economic forces would outweigh the performance of the money supply, and he insisted that he could not predict whether the Fed would attempt to force M-1 below the top of its target range until he sees how the economy behaves over the next several months.
The Fed chairman hinted that there was no effort to either tighten or loosen its monetary policy at the meeting last week of the Fed’s Open Market Committee.
