Treasury Secretary Donald T. Regan, President Reagan's chief economic spokesman, believes that "Reaganomics" has not had a true test. Its promise that inflation could be reduced while the economy expanded was not so much wrong, as it was overtaken by events that were set in motion before the administration took office, he said in a recent interview conducted by Washington Post Staff Writers Caroline Atkinson and John M. Berry.
Regan said that high interest rates choked off the expansion that Reagan had hoped for. Scaling down the original 10 percent income tax cut for 1981 that Reagan had campaigned for also slowed the economy, the Treasury secretary said.
Extracts of the interview follow:
Question: The initial projections for the administration when you first came into office were that an inflation decline could be accomplished principally through restrictive monetary policy, and a change in expectations. Is it fair to say that the evidence of the last year or so would indicate once and for all that just is not going to happen, that indeed it takes genuine pressure, idle capacity, unemployment and so forth to accomplish the disinflation?
Regan: While this may sound like copping a plea, I think that economic historians some day may judge my remarks to be correct. I don't think that Reagan economics actually got a true test. The recession came on too fast. Officially it was here July 1st, you could see signs of it in April and May, in hindsight. We didn't see it then but we see it now in hindsight . . . most economists were also caught by how quickly it came after the Reagan programs were announced. After all, they were only announced in mid-February and then by April we were into the recession. They literally didn't get much of an incubation period before the recession came about.
Accordingly, we never had the luxury of time to see whether or not they would work to that extent. We still think they can and would work over a period of time. But since we have gotten into the recession and had to deal with the recession there are many things that you would have wanted in an otherwise perfectly experimental atmosphere that we haven't had.
Q: And you would reject the notion that . . . the announcement of the [Reagan program], and the reality of the money policy which was an integral part of it, that those were . . . the factors that created the recession?
A: Oh, I don't think that the announcement of the Reagan policies created the recession, no.
Q: Not just the announcement but . . . I mean the reality of the money policies.
A: Well the reality of [tight] money policy didn't take place until April. Remember in April of last year when I was crying out about the Fed Federal Reserve being too loose and was taken to task for that? Well, remember that in the first quarter of 1981 we had a tremendous outpouring of money, and there was an abrupt change then because they [the Federal Reserve policymakers] literally slammed on the brakes. It wasn't, again, apparent until July or August that they had slammed them on so abruptly. But then they held them on for six months.
Now that's bound to negate any effects of what was going to happen from Reagan's program . Now recall also--and again this may sound like I'm beginning a debate with you, but actually I'm trying to point out fact--our experiment called for tax cuts starting on January 1st of 1981, not October 1st of 1981. We then had to slide back to July 1st of 1981.
Q: Well, your initial official proposal was for individual income tax cuts in July not January.
A: Well, the official one . . . Reagan came in saying--January 1st of 1981 for a first installment of tax cuts. And right from the start we were told up on the Hill, "You're not going to get any retroactive out of us." So, boom, that mold was cracked and we started a new one, which was July 1st. Then that got cracked and we had to go with the October 1st one, and in the meantime the mold was only half the size. Again, it came down to 5 percent.
So, again, this'll be a great debate--a theoretical debate because we'll never know what would have happened in practice . . . had the original Reagan experiment been carried out.
Q: We know why it wasn't, it was because of the projections of the deficit being so large. Now your policy is again being tailored to lower future deficits . . . and to bring fiscal policy more into line with the existing tight monetary policy by reducing the deficit.
A: Well, again, you come into a matter of debate. What monetary policy? The monetarists can show you that there's a perfect two-year lag. Have you ever seen that two-year lag chart? And monetary policy was tightened in 1979 and therefore it was inevitable that 1981 would have been that type of year. Curiously, 1980 was the year that monetary policy went back up.
Q: So 1982 should be an expansionary year?
A: So that would mean that this should be the expansionary year, coming in now. I think mid-year to mid-year is the way they worked it. Mid-1980 that they started the money supply up . . . Now the long-term effect of monetary policy seems to be on the rates of inflation. The short-term seems to have an effect on interest rates. Now, it will be very curious to see if interest rates do come down [soon] because theoretically, according to the monetary policies that have been practiced, interest rates should start down in May, June and July as a result of past monetary policy. Now we'll see what happens as to whether that's going to hold true. But while short-term money supply--or lack thereof--controls rates of interest, long-term inflation is set by monetary policies with a two-year lag.
Q: Where does output fit in?
A: That is the other side of the equation. The pure monetarists are not looking so much at output, whereas the supply-siders are saying if you concentrate on output that's where you will get most of what you want. They claim that they never got a chance on the supply-side because of what happened.
Q: What do you think?
A: Well, I agree to that . . . Interest rates killed that off. High rates of interest absolutely precluded businessmen from making the economic decisions to go ahead.
Q: Just going back to the onset of the recession . . . Some people say that it was Reagan's own policies, including monetary policy, that led to the recession. You described coming into office, presenting plans, which then got overtaken by the recession. Where did the recession come from?
A: Well, I think that the recession came from past experiences. I'm not blaming the Carter administration for this but what I'm talking about here is what happened in the economy leading up to that. After all, a recession doesn't come on because of something you do 30, 60 or 90 days before the recession starts. The recession comes because of what you have done six months, 12 months, beforehand . . . The high rates of interest that were induced into this economy--starting in the latter part of 1980 and culminating in the early part of 1981--literally caused most businesses to try to get out from under somehow. They just couldn't stand those rates of interest.
Q: If it was policies of six or 12 months earlier that determined the recession, why didn't you predict it and tailor your policies accordingly?
A: With 20/20 hindsight I would do it. In retrospect, I think that what we saw was that there was a possibility that we could avoid the recession if the Reagan program was enacted quickly . . . But when that didn't happen we got overtaken. Our earlier forecasts, which were constructed during the late December-early January [1980-81] period, were that we'd come in and there would be a rapid passage of Reagan policies, things would be put into place quickly. How would you put it? Sort of like the Roosevelt 100-days type of thing. We weren't able to bring that about.