Unless the United States curbs its huge projected deficits for the next two or three years, high interest rates are likely to persist, causing severe economic repercussions in the rest of the world, International Monetary Fund Managing Director Jacques de Larosiere said in a speech here yesterday.
He predicted continued high interest rates despite lower inflation rates as a result of the present recession. Nonetheless, he said it "would be a mistake" to move to "an easier monetary policy" in the hope that it would result in lower rates.
"In my judgment," de Larosiere told the American Enterprise Institute, "such a reversal would be a mistake as it would perpetuate into the decade of the 1980s the unrealistic and dangerous policies of the 1970s. What countries need at the moment is the stamina to go the extra mile toward a more durable solution to the current economic malaise."
His basic prescription for "corrective action" is pursuit, over the long term, of a sounder fiscal policy, ranging from less generous welfare payments and unemployment compensation to a hard-nosed withdrawal of subsidies to inefficient industry--resisting, at the same time, demands for temporary unemployment programs.
De Larosiere said that the worldwide trend toward large budget deficits was caused by an explosion in the rich nations' welfare-type expenditures "to levels that were no longer consistent with fiscal soundness." In turn, this necessitated sharp increases in taxes--especially personal and Social Security taxes, which then brought about stagflation.
He cited figures showing that for the seven major industrial nations--the ones that will join in the Paris economic summit in June--public expenditures rose from 29 percent of gross national product in 1965 to 37 percent in recent years. "In all cases, entitlement programs and other transfers have been the main factor for this expansion," De Larosiere said.
The IMF director appeared to be warning the administration that the need to curb huge deficits is so compelling that it would be better to raise taxes "than to live with high deficits."
"In spite of its still relatively low ratio to gross national product, the U.S. fiscal deficit accounts for a large share of available surplus funds and is of the same order of magnitude as total net outlays for new plant and equipment," de Larosiere told the AEI audience.
When so-called off-budget outlays are added, "the current borrowing requirements of the U.S. federal government are such as to leave little of the surplus saving available for private-sector borrowing. Unless the projected level of fiscal deficits over the next two to three years can be reduced, only a very large expansion in private saving would prevent serious crowding out, and a continuation of the present high rates of interest."
De Larosiere suggested that one explanation for a continuation of high nominal interest rates espite lower inflation rates--thus producing record "real" interest rates--is that lenders expect private borrowing, as the recession ends, to put additional pressure on financial markets.
The reason high U.S. interest rates are hurting poor countries, de Larosiere said, is that the pool of international savings has "shrunk a lot," limiting the amount available for poor countries as high interest rates pull capital here.