Federal Reserve Board Chairman Paul A. Volcker said yesterday the Fed will continue its tight-money policy-- and not allow interest rates to drop significantly-- until it sees a "discernible" decline in inflation.
Volcker also warned Congress not to cut taxes unless it becomes clear that the expected recession is going to be a deep one. He said any move to stimulate the economy would conflict with the Fed's anti-inflation efforts.
Volcker's remarks, delivered at a hearing of the House Budget Committee, underscored the Fed's Tuesday efforts to nudge interest rates up further.
Meanwhile, partly in reaction to those steps, the stock market took another sharp drop yesterday and the dollar fell further on the foreign exchange markets. Gold prices soared to a record $331 an ounce.
Each time the Fed raises interest rates another notch in fighting inflation, it adds to the danger of recession. Short-term interest rates now are at record highs.
Volcker declined yesterday to predict how interest rates might behave in coming weeks, but he vowed that the Fed would "continue to restrain the growth in the money supply until we get it under control."
The Fed has said it is pursuing a high interest rate policy to reverse recent expansion in the money supply and to dampen loan demand, which it says is excessive. Both moves are deemed necessary to bolster the dollar.
In his testimony before the Budget Committee, Volcker warned the lawmakers against any "premature" moves to counter the recession, which he said might prove "shorter and shallower than many now expect."
With the outlook still so uncertain, Volcker said, "there is much more danger -- in terms of aggravating the inflationary momentum -- in prematurely anticipating the most unfavorable hypothesis" about the recession.
He urged the lawmakers to "hold the line on spending, to avoid premature tax cuts and to contain the size of the deficit." The budget panel currently is considering whether to revise Congress's initial spending targets.
Volcker's hard-line posture was challenged seriously by only one member of the panel. Rep. Jim Wright (D-Tex.), the House majority leader, complained that raising interest rates to fight inflation was "pouring gas on the fire."
Volcker replied that if the Fed adopted easier policies it would only send interest rates soaring higher, because lenders will think the government has given up against inflation.
He also disputed suggestions that the Fed was paying too much attention to foreign currency traders in shaping domestic money and credit policies. "What basically is good for the dollar is good for the economy at home," he said.
Despite his admonitions against a "premature" tax cut, Volcker did nor rule out tax reduction if the recession does prove deeper than expected. But he urged that it be designed to encourage investment, not bolster consumers.
He also said a temporary swelling of the federal budget deficit in the face of a serious recession "need not be disturbing" as long as it is perceived as temporary. But he urged that increases in government spending "be matched by" savings elsewhere.
Volcher's declaration that interest rates would remain high came in a prepared statement. "No sustained decline in nominal interest rates can reasonably be expected in the absence of a discernible slowing" in inflation, he said.
He repeated that theme under questioning. He told the panel that "the most critical single thing" the Fed could do now would be "to get the money supply under control."
The Fed has been moving to push interest rates higher since Volcker took over as chairman in early August. After twice raising its discount rate, the central bank moved Tuesday to nudge up its federal funds rate.
The discount rate, the interest the Fed charges on loans to its member banks, is the most visible symbol of changes in money and credit policies. The federal funds rate is the interest charged on overnight loans among banks.
Volcker told the budget panel he was "dissatisfied" with the policies the Fed pursued under his predecessor, G. William Miller. In retrospect, "I would have been happier with a lower growth" in the money supply, he said.
Volcker's testimony was expected to intensify pressure on the Budget Committee to hold to its spending and tax targets and not allow room for a possible tax cut in 1980 as liberals and Republicans have been seeking.
The panel is scheduled to begin drafting a second congressional budget resolution next week. The Senate Budget Committee already has recommended against a tax cut, and House panel chairman Robert N. Giaimo (D-Conn.) also opposes one.