Federal Reserve Chairman Paul A. Volcker said yesterday that the central bank has tightened credit conditions recently to increase the chances that the economic recovery will be sustained over a long period of time.
Volcker's disclosure came at a confirmation hearing before the Senate Banking, Housing and Urban Affairs Committee on his nomination by President Reagan to a second four-year term.
In a personal statement filed earlier with the committee, the Fed chairman declined to commit himself to serve a full four years if confirmed, but he indicated that he would not leave before the latter half of 1985, if then.
Short-term interest rates have risen more than a full percentage point since mid-May. The Fed tightening is responsible for a portion of that increase, some of which has spread to long-term rates, including those on home mortgages.
Volcker indicated the Fed has become less generous in providing reserves needed by the nation's financial institutions. The action has been so gradual that financial market analysts have been uncertain whether interest rates have been going up because of the Fed or for other reasons.
It is also unclear either from Volcker's remarks or from indications in the market whether the Fed tightening has run its course for the moment, analysts said. If it has not, rates could continue to rise.
The Federal Reserve's policymaking group, the Federal Open Market Committee, met Tuesday and Wednesday to review its money growth targets for this year and set tentative ones for 1984.
Volcker and Banking Committee Chairman Jake Garn (R-Utah) had agreed before the confirmation hearing that questions about the money growth targets would be postponed until a hearing next week specifically on monetary policy. At one point, however, Volcker did say of the FOMC action on the targets, "I don't think you will find the decisions terribly dramatic."
Asked if the Fed tightening includes plans to increase its 8 1/2 percent discount rate--the rate it charges on loans to financial institutions--Volcker replied, "I don't think it's appropriate of me to comment specifically on the discount rate question."
The White House and some members of Congress have strongly opposed any increase in the discount rate.
"I think it's fair to say that . . . we haven't taken any very drastic or strong actions in recent weeks," the Fed chairman told the committee. "But it is also true that you could characterize policy in the last month or two as being slightly less accommodative to large growth in money or liquidity than it had been earlier," he said.
Presumably, the decision to begin to tighten credit conditions was taken at the FOMC's meeting in May, the minutes of which will be released by the Fed this afternoon.
Volcker indicated that the Fed tightening may also be a signal to financial markets and businessmen that any revival of inflation will be countered by the central bank. "The policy problem is always to look ahead as best you can to see how to sustain this recovery, and that gets involved in the inflation problem," he said.
"We have had a good inflation performance; we've had moderation in pricing and in wages. But the test remains ahead as the economy expands as to whether those moderate attitudes remain in place," Volcker continued.
He said businessmen have to "have confidence that inflation will remain under control, that they conduct themselves as best we can encourage them to do so" with a "concern over their competitive position. . . .It is absolutely critical that those attitudes remain conservative."
Several members of the committee questioned Volcker closely about why interest rates should be allowed to rise at all so early in the recovery--a recovery the Fed chairman himself characterized as no more than average. "Sometimes a restraining action in the short-run may avoid the need for much larger actions later," he replied to one questioner, Sen. Alan J. Dixon (D-Ill.)
While Volcker expressed some concern over recent rapid growth of M1--the measure of money that includes currency in circulation, checking accounts at financial institutions and travelers' checks--particularly given the prospect of large federal budget deficits and an accelerating recovery.
However, he said no drastic actions are planned to bring it back down to the 4 percent to 8 percent growth range planned for this year. "For the rest of the year as a whole, that precise pattern of M1 isn't necessarily a high priority," he said.
Volcker said he expects the deficits to remain close to $200 billion at least for the next two years. He said that financing the deficits could take about three-fourths of all net private saving. Currently, the Treasury is borrowing $750 million every working day to meet its bills, he added.
In short, the Fed chairman declared, the continuing large deficits constitute the greatest risk to achieving a sustained, noninflationary recovery. To deal with them, he reiterated previous statements that if spending cannot be cut enough, then taxes should be raised.
Several committee members, including Chairman Garn, said they felt Volcker and the Fed had an impossible job given the inability of Congress and the president to find a way to reduce the large budget deficits. Sen. William Proxmire of Wisconsin, the ranking Democrat, praised Volcker but said that the deficits probably mean his second term will turn out to be a failure.
In an opening statement that brought repeated laughs from the audience, Proxmire told Volcker, "You are about to ride into the valley of death to your present reputation. You could become a Herbert Hoover of monetary policy. You will be the fall guy who takes a Niagara Falls of blames for an economy that will stagger along under the weight of immense debt. . . .
"The time is coming and certainly within the next four Volcker years when inflation or high interest rates or both will choke off this recovery," Proxmire said. "So good luck, Paul, you poor devil!"
Regarding the question of commiting for another full term, Volcker said he was not sure he wanted to remain that long, having already served for four years. On the other hand, he said, it would not be appropriate to leave during a presidential election campaign or immediately after an election. Ideally, a president should be able to name a new Fed chairman six months or a year after the beginning of his own term, Volcker said.