Volcker Says Dollar Has Fallen Enough; No Interest Rate Cuts Seen

Federal Reserve Board Chairman Paul A. Volcker, disagreeing with Treasury Secretary James A. Baker III’s continued encouragement of the decline in the value of the dollar, warned Wednesday against any further drop in the U.S. currency on foreign exchange markets.

“I think it’s fallen enough,” Volcker told the House Banking Committee. “I don’t think it’s anything we’re interested in forcing--quite the contrary.”

Testifying to Congress on his agency’s semiannual monetary policy report, Volcker dashed any lingering hopes on Wall Street that the Fed might encourage interest rates to fall. Instead, he noted that the Fed has recently seen “no occasion for significant change” in its monetary stance.

‘Wait and See’ Position

Volcker has frequently warned about the dangers of a too-rapid plunge in the dollar, but his testimony Wednesday was much stronger than before.

Analysts suggested that the Fed has adopted a “wait and see” position, since its officials are highly uncertain about how the crosscurrents from declining oil prices, a weaker dollar and possible cuts in the budget deficit will affect the U.S. economy this year.

“The Fed clearly wants to buy some time and give themselves some elbow room because of the big unknowns about the economy,” said Narriman Barrivesh, chief domestic economist at Wharton Econometrics, a private economic forecasting firm in Philadelphia.

Financial markets reacted with some dismay to Volcker’s remarks, pushing up interest rates moderately and sending the Dow Jones average of 30 industrial stocks down from its recent record highs to 1,658.26, a drop of 20.52 points.

Economy Rebounding

Interest rates have probably bottomed out, analysts noted, because the U.S. economy appears to be on the rebound after a period of weak growth. That gives the Fed little reason to stimulate the economy further through lower interest rates.

In addition, Volcker does not want to allow rates to move down in the United States before other countries lower their own interest rates, analysts said, because it would only exacerbate the recent decline in the dollar’s value.

Volcker, devoting considerable attention to the dangers of a rapid depreciation of the U.S. currency, argued that the dollar’s slide is a “two-edged sword.”

While acknowledging that a lower U.S. currency is highly beneficial to farmers and manufacturing firms in their competition against foreign goods, he cautioned that any further drop in the dollar would increase the danger of a future revival of inflation.

Volcker’s comments put him at odds with Baker, who said Tuesday that the Reagan Administration “wouldn’t be displeased” with a further decline in the value of the dollar.

The dollar’s value has dropped more than 25% against most major currencies since it peaked a year ago, and it has declined even more against such crucial foreign currencies as the Japanese yen.

Drop in Oil Prices Noted

“Economic history is replete with example of countries that in attempting to correct overvaluation of their currencies . . . lapsed into a debilitating and self-defeating cycle of external depreciation and internal inflation at the expense of an eroding loss of confidence, higher interest rates and impaired growth,” Volcker said.

Any inflationary consequences from a falling dollar, Volcker conceded, are likely to be overwhelmed during the next several months by the plunge in the price of oil, which recently hit a low of about $15 a barrel in spot markets.

He made his comments as he presented the central bank’s outlook for the economy and its targets for money growth for 1986, which were established at a meeting last week of the Federal Open Market Committee, the Fed’s policy-making arm.

At that time, the Fed set a target growth range of 3% to 8% for the basic money supply, known as M1, which measures money held in cash and checking accounts. That was unchanged from the range adopted last July for the second half of 1985 but slightly wider than the 4% to 7% target zone that the Fed had tentatively set for 1986. But Volcker continued to play down the importance of the money supply in setting Fed policy, suggesting that the Fed will pay much more attention to such variables as the overall strength of the economy, the value of the dollar and the prospects for inflation.

Although the basic money supply grew by a record 12% last year and was far above the Fed’s target, Volcker said: “All things considered, some bulge in M1 was the least of evils.”

Economic Growth Key

The Fed left the growth ranges for M2 and M3, two broader measures of the money supply, unchanged at 6% to 9%.

Many analysts argued that the best way to anticipate Fed policy this year is to pay close attention to whether the economy is growing more rapidly than the central bank predicted.

Volcker said Fed officials generally expect the output of the economy to grow 3% to 3.5% this year, slightly lower than the Reagan Administration’s prediction of 4% growth.

“If real GNP (gross national product) is much stronger than 3% to 5%, you should expect the Fed to tighten” by pushing up its short-term interest-rate targets, said W. Lee Hoskins, chief economist at Pittsburgh National Bank and a member of the Shadow Open Market Committee, a group of economists who focus on the importance of the money supply.

No Sudden Shifts

“If not, you can expect the Fed to just sit there without doing much of anything,” Hoskins predicted.

Other analysts noted that the Fed has avoided any sudden monetary policy shifts in recent months.

“The Fed is no longer reacting in dramatic fashion to every wiggle in the economy,” said Alan Reynolds, chief economist at Polyconomics in Morristown, N.J., which offers a “supply side” perspective on the economy. “The nature of international cooperation among central banks now seems to rule out any gross errors.”

Commenting on fiscal policy, Volcker said he sees no reason for the Fed to ease its monetary stance in anticipation of the possibility that Congress might slash the budget deficit later this year, possibly slowing the economy.

“Budgetary restraint would bring its own rewards in the form of lower interest rates,” Volcker said.