Were a reasonable principle a sufficient reason for doing something in Washington, Paul Volcker's reappointment as chairman of the Federal Reserve Board would be dictated by this principle: there is rarely any penalty for failure in government, so there certainly should be no penalty for success.
In politics, prudence butters more parsnips than principles do, and there is this reason for reappointment: the decision will be made when the dimensions of the budget shambles are apparent. It will be a bad moment for a candidate for reelection to replace the keeper of the currency with someone suspected of being more congenial to political calculations.
The Fed is supposed to control the money supply. That would be difficult, given the blunt instruments of control, even if there were a clear definition of the money supply, which there is not. So Volcker's results are all the more remarkable. Yes, a world recession helped. Furthermore, inflation is a light sleeper, and a wake-up call is coming in the appalling budget figures.
But there is a large "expectational" component in inflation. For example, pessimistic expectations cause lenders to put an inflation premium on the price of money. Volcker's presence is, to an extraordinary extent, the sole basis of optimistic expectations.
The clearest mandate in 1980 was to reduce inflation, then known as "public enemy number one." That has been done. The real prime interest rate--the difference between the prime rate and the inflation rate--is about as high today as in 1980, but that is because lenders fear rekindled inflation. Reappointment of Volcker is the best-- given the budget numbers, perhaps the only--weapon against those well- founded fears.
The Fed is an essential anomaly, a mitigation of democracy, an agency for institutionalizing a longer perspective than representative institutions can manage. It exists to take decisions elected officials will not take, and to take abuse from elected officials who will not inflict even short-term pain for long-term gain.
But the idea that Reagan must replace Volcker because Volcker is associated with pain reflects a Republican hope that a central banker, whose name is unknown to many Americans and whose job is a mystery to almost all Americans, will be held accountable for the aggregate performance of the economy. The idea that Reagan must replace Volcker lest Volcker get credit for the recovery reflects a similar misconception about public perceptions, and also reflects a West Wing (of the White House) mania for trying to wring every imaginable political advantage, however marginal, out of every decision.
The decision about Volcker will be made against a backdrop of a budget debate in which many Democrats propose tax increases to lower the deficit (just 15 percent--$30 billion off a $200 billion deficit), but do not have the votes for such tax increases. Many Republicans want to cut the deficit by cutting entitlement programs, but they do not have the votes. And the administration is urging the Senate to increase the defense spending and lower the tax increases proposed by the Senate Budget Committee.
On the three big components of the budget--defense, domestic spending, taxes--there may be stalemate, the consequences of which can be severe economic contraction, and not necessarily after November 1984. Congress is apt to accept less than one-fourth of Reagan's requested domestic spending restraints. His contingency tax (to be triggered if budget conditions are bad two years out) is dead. The Volcker decision must be made no later than July, at which point the world will know what is already knowable: fiscal years 1983, 1984 and 1985 will each have deficits of more than $200 billion. A reasonable deficit projection is for $660 billion (including off-budget borrowing) through 1985 and $1.3 trillion through 1988.
Assuming 8 percent Treasury bills (and given the amount of borrowing that will be necessary, Treasury bills that inexpensive cannot be assumed), the government's additional and permanent interest cost on $660 billion will be $50 billion annually. That will erase savings made from painful domestic spending cuts.
An irony of the moment is the service rendered to Reagan by a French socialist. One reason deficits are not already causing government borrowing to crowd private borrowers out of the capital market and drive up rates is that Francois Mitterrand's policies have caused a flight of French capital to America. But there are limits to such windfalls. And here is irony compounded:
Republicans are reduced to hoping they have misled the nation for decades about the dangers of deficits. For their finest accomplishment--reduced inflation--they are deeply indebted to a Democrat appointed by Jimmy Carter. The Democrat--Paul Volcker--may be more important than Ronald Reagan this summer when the recovery hangs by a thread of confidence worn thin by congressional paralysis and exploding deficits.