The Fed's challenge
The Federal Reserve Board deserves plaudits. In announcing that it plans a stable rise in the nation's money supply, the Fed is underscoring its commitment to preventing a renewal of inflation - even if that means an increase in interest rates. And in a separate report, the Fed in effect told Congress and the White House: If you want interest rates to drop, reduce the budget deficits.
Is Washington listening? Both Congress and the White House seem to be operating on the premise that no meaningful action is possible on the deficit until next year - after the presidential election. Such a politics-as-usual approach needs to be resisted. Wall Street has said as much. The sharp downward movement of the Dow Jones industrial average earlier this week reflects investor concern about the deficits and higher interest rates.
Clearly, the three immediate economic challenges now facing the United States are the size of the deficits, the large US trade imbalance, and pervasive structural unemployment - where workers in older manufacturing industries such as autos and steel are losing jobs because of automation and stepped-up competititon from abroad.
The three problems are interlinked. Huge budget deficits put pressure on interest rates - helping to keep them high and threatening to push them higher. White House economic adviser Martin Feldstein told Congress Monday that the yearly deficit could rise to $300 billion later this decade. High interest rates , meanwhile, put upward pressure on the US dollar - making US exports more expensive vis-a-vis overseas goods. That in turn works against employment in export-related companies.
The Fed has shown its seriousness about the money supply and inflation. Congress and the White House should now show their resolve about reducing the deficits. The White House needs to trim its defense spending plans. Lawmakers should join the administration in reducing the rate of increase in entitlement programs. Finally, Washington needs to fashion a long-range job training and relocation assistance program to deal with structural unemployment.