Federal Reserve Chairman Paul Volcker warned yesterday that the recovery from recession may be falling victim to a combination of rising inflation and a tight monetary policy, which the Fed has no intention of abandoning.
"Inflationary expectations have worsened, and inflation itself may have worsened . . . Against that, we have a very restrictive monetary target," Volcker told a House Banking subcommittee. And since the Federal Reserve will not accommodate any acceleration in inflation by providing more money to the economy, he continued, "we will not have a sustained recovery until we have a sense the inflation rate is coming down."
Volcker also said that a "very strong case" can be made for a tax cut, but that spending cuts should accompany any tax cut. "We must not flinch from the budgetary discipline necessary to complement the tax relief so desirable to foster incentives, investment and increased productivity in our society."
Repeatedly, the Fed chairman stressed that the unexpectedly sharp increases in the money supply that have occurred since July should not be taken as an indication the Fed does not intend to try to hit its targets for money growth.
"The message to the public is that we are going to be restrictive with regard to money and credit . . . We take the targets seriously," he declared. r
When the recent rise in the money supply began in early August, he explained, we "thought it was pretty much of a fluke." When it turned out not to be, the Fed began to try to counter it. Now, he said, "We are leaning against it and we are leaning quite hard."
This leaning, which involves holding down the availability of bank reserves, has helped push interest rates to levels seen only during last winter's near panic in financial markets. Banks boosted their prime lending rate of 16 1/4 percent this week, and home mortgage rates are above 15 percent. Home sales have been cut drastically, and even new car sales are being pinched by the high rates.
"I wish we had gotten a better grip on this recent monetary expansion earlier," Volcker conceded, but expressed no willingness to back off now just because high interest rates are hurting the recovery.
At the moment, two of the measures of money for which the Federal Reserve has set growth targets are above the upper edge of the target range; another is at its upper bound, while the fourth is about in the middle of its range.