Wish list for US: deficit in tow, interest eased; tax overhaul can wait
THE interval between election day and Inauguration Day is busier than usual this year. For one thing, it's the first such period in 12 years in which a president has not been leaving office. His team is largely in place, so he can get on with plans for his second term. For another, the campaign itself pushed back some decisions that needed to be made on the fiscal front.
At the risk of sounding repetitious, there are at least three points to keep in mind:
* It is essential that tangible progress be made in the fiscal 1986 budget in bringing down the deficit.
* The spending cuts and possible tax increases come first; there is no time to waste in considering overall tax simplification plans, unless their major mission is to serve as a camouflage for a tax increase. (President Reagan has already said he would not let the two become intertwined.)
* No one wants a recession, but the only way to avoid one may be for Federal Reserve monetary control to ease. The rumblings from Treasury Secretary Donald Regan this past week were no accident. The Treasury sees lower interest rates as the best way to keep the economy growing.
As for the first point, it's going to be very hard to bring down the deficit. The Office of Management and Budget has overly optimistic estimates of economic growth and interest rates in the near term and possibly for every period of time. But at the least, the current pause in growth is reducing the revenue intake and will make the fiscal 1985 budget deficit somewhat higher than forecast. The need to finance the deficit is one element in allowing interest rates to stay high. The high rates suck in foreign funds, which help in this one instance. But the same phenomenon creates the overpriced dollar and is weakening the economy by making it more dependent on imports.
The need to reduce the deficit is so important that Congress should not allow the weeks to idle by in debate over a simplified tax plan that won't necessarily make the tax system fairer.
As for Point 3, it's not just the Treasury that is critical of Fed policy. This is not to denigrate the role of the Fed under Paul Volcker in ending the inflation of the 1970s. But it is equally clear that the nation and the world have moved into a new environment. Thus, everything deserves examination.
For instance, Ronald McKinnon, an economics professor at Stanford University, argued in a piece in the Wall Street Journal last week that the Fed must act in awareness of the foreign demand for US dollars. This would enlarge the list of elements that are decisive in influencing Fed policy. There are undoubtedly some forceful counterarguments to what he has written. But the apparent connection between what Professor McKinnon sees as the Fed's ignoring of the amount of international demand for dollars and the effect of this on the domestic economy suggests that this new era of dollar dominance in the world has created measurement problems for the Fed. He thinks the Fed has been unduly restrictive in recent months, and his remarks were printed before the latest week's surprising $7 billion decline in the M-1 money supply.
The message for the layman is that these are times even theoretical economists do not fully understand. The budget deficit is certainly the most serious of the problems needing unraveling. But we are also living in a world which, for reasons other than US financing requirements, has a strong demand for US dollars. Fed policy must not be so restrictive as to bring on recessions that have no cause other than that interest rates have been allowed to remain too high.