Mr. Paul A. Volcker
Chairman, Board of Governors
Federal Reserve System
20th and Constitution Avenue, NW
Washington, D. C. 20551
Just when we think you've got things figured out, you seem to be falling back into the same old bad habits. Surely you are aware of the impact your House Budget testimony had on the financial markets yesterday. Your observations that the money supply is too high and taxes are too low set my teeth chattering. If you are to let this impulse get the best of you, this nice little recovery we have going will abort and you will have the distinction of having helped steer the country into three recessions in four years.
The idea that the "money supply" is too high is pure baloney and you know it is, so why undo all the careful work of the last six months by telling the markets you might have to let Ml lead you by the nose into another crunch? Of course you have once again increased the risk of holding government bonds, thereby making it more expensive to finance the deficit. With the price of gold having tumbled by almost 20 percent in recent days, how can you suddenly see an inflation hobgoblin rear its head? You should be cutting the discount rate at this level if you're serious about stabilizing prices and bring out your hard-nosed speeches when gold drifts up toward $500.
I'm sending along a piece I did for the New York Times, which I might have to pull because of its optimism, based on confidence that you ain't going back to monetarism. The markets are genuinely in fear now that you haven't. One day Meltzer and his Shadow Open Market nitwits blast you for too much Ml and the next day you're agreeing. That's all we needed.
Now we hear you are also fine-tuning fiscal policy! An oil-import fee if the world price falls to $25 a barrel. As the Wall Street Journal puts it: "Mr. Volcker said that a new energy levy —such as a tax on crude oil — would help the government reduce its deficit while smoothing out the economic effect of a sharp decline in oil prices." What a lot of nonsense! I can't believe you'd say such things. Here the whole country is talking, about how to increase our competitiveness, especially with the Japanese, and your solution is to have us tax our energy inputs. A $5 fee would stop the recovery in its tracks, a $10 fee would surely cause a Volcker Depression that would smash the tax base and yield $250 billion deficits. Your support of a quick import tax also had to have counter-productive effects on the OPEC deliberations. The only reason the Saudis want to cut prices is so they can sell more in US markets; now they hear of your support for a tax that would discourage such sales.
As long as I'm waxing wroth over your House testimony, I may as well throw in some complaints about BusinessWeek's item of Feb. 28, which asserts that "The Fed is setting a ceiling on growth." The idea that anyone is taking this idea seriously as the Fed, targeting a specific point on the Phillips Curve, was alarming when I saw it, but I dismissed it with the thought that you certainly wouldn't be involved in that kind of caper. But now I see your House testimony, I'm prepared to believe that you have gotten it into your head that you must plan the economy for all of us. Volcker will decide that 4 percent economic growth is good for us but that 5 percent economic growth isn't. Say it ain't so.
Before Neal Soss went on holiday, he asked me when I thought you should have to worry about the recovery getting overheated. I told him that you don't have to worry about it getting overheated at all. That's not Volcker's job, I said. His job is to stabilize the value of money. And if he does that, the recovery could turn into a boom and the economy would still not be overheated. OPEC, I said, could double its oil production easily at $30 a barrel, and it would do so as long as it was paid with Volcker-stabilized dollars. If you do your job instead of trying to do everyone else's, we'd all be in clover.
Don't worry about housing prices beginning to rise. People are happily paying higher prices now that you have gotten credit costs down. If you try to keep housing prices down by a resumed monetary deflation, you will succeed in shutting off the recovery In housing with higher credit costs. Houses will be cheaper but nobody will be building or buying them. I told Soss that after watching your "Meet the Press" appearance two weeks ago, I thought your only real remaining problem is that you are still hung up on the Phillips Curve. Prayer might help, but maybe only an exorcist will do.
It's too long since we had a get-together. I mentioned this to Neal, a wonderful go-between, and he agreed it would be good if we could try for a casual dinner after he's back from vacation, We need him back. Soon as he takes off, everything falls apart, huh?