When I met with Treasury Secretary Baker Tuesday the 13th, to warn him that his Louvre agreement would soon be tested, and he should be prepared to "scald the speculators" at 140 yen and 1.80 DM, I had no idea the test would come so soon and that he would fail it so dramatically and with such high costs. It would be a mistake, though, to blame JBIII for any more than the triggering of the crash, by retreating from his dollar defense. Make no mistake, the forces of austerity had been gnawing away at the Reagan Administration for more than a year, winning by tactical political maneuvering that turf they could not win in the national elections. The drumming of Donald Regan from the White House and replacement by Howard Baker Jr. as chief of staff was the most crippling loss. With his handling of the Iran-contra hearings, his maneuvering of Volcker from the Fed, the Bork nomination, and his overt accommodations to the austerity-protectionist forces in Congress, he has weakened the White House to the point of paralysis. By last week, only the Treasury Secretary was left as the linchpin of the Reagan Revolution. When he faltered at his Thursday press conference and Sunday "Meet the Press" appearance, the global assessment tipped against the forces of growth. The Reagan administration is in retreat across the board, and unless and until it can make a comeback, markets must assume the austerity forces will win policy victories that will weaken the U.S. and world economy, and that each weakness will breed new policy errors. This is why there was such a stupendous cascade on Black Monday. We've become used to success breeding success, now we must take seriously the possibility of a series of defeats, on taxes, trade and money. The victories we had hoped for, the spread of tax reforms through Europe, Asia and the Third World, now seem further from our grasp.
On both Black Monday and this morning, at the White House, recommendations were made by the remnants of the growth forces to seize the moment and blame the Democratic taxers and protectionists for the crash. But Howard Baker squelched these voices and ordered instead the tepid statements that were so reminiscent of Herbert Hoover. The austerity forces are in full cry, and this can only mean it is now likely they will win some damaging combination of tax and trade policy as the days and weeks unfold. If President Reagan demanded that the Democrats send him the tax and trade legislation they now insist must be passed for the nation's good, so he can veto it and have the markets vote on whether he's right or wrong, he could get back on the offensive. But Howard Baker will not, waiting until defeat is assured until he calls for action.
JBIII is still the critical player, and he has moved quickly to put confidence back into the monetary agreement. The White House has stood firm against a budget/tax summit with Congress. The growth forces, which had gotten self-satisfied with the bull market, have been galvanizing themselves into action. Once JBIII is restored, there must be some effort to win over the White House chief of staff. In this colossal tug of war, the margin is everything.