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or wherever it may be headed, going to decrease oil prices? Is that going to have an effect of lessening the pressure?

Ms. Rivlin. No; there is no way we can decrease oil prices. We don't control that. And the problem that both the Congress and the Federal Reserve face is really how to keep the existing inflation, which we can't do anything about, from escalating. One answer to this is a tight fiscal policy, which is what the Congress is doing. One of the effects of raising interest rates will be to hold down aggregate spending and to discourage overspending for plant and equipment and for housing.

Senator Bayh. Could you give us a history here-here again I am trying to get facts rather than some of the stereotypes? Here again we are being told the way to fight inflation is to balance the budget. Can you give us a history of what has happened here, either recently or over the long term, as we have cut the size of the deficits, what has happened to inflation? When we have had a balanced budget, have we always had low increase in the cost of living, or less inflation? What is the general picture in recent history?

Ms. Rivlin. We might give you a more elaborate answer to this question for the record. In the sixties, when we had full employment and low inflation, we ran budget deficits that seem now to be modest sums but were certainly too big under the circumstances, and it escalated inflation. In the most recent period, starting from about 1974, the budget deficit has been large. In 1975 and 1976, that deficit was partly an automatic result of the recession. More recently, it has been partly an automatic result of past tax cuts undertaken to stimulate the recovery. In this same period, we have had an escalation of inflation, but I think this has been from quite identifiable causes other than the deficits-largely oil, agricultural prices, and the increase in the cost of imports, which has been related to the declining value of the dollar. Those things and their transmission through the process of wage bargaining and price setting have been the major causes of recent inflation, not Government deficits.

Senator Bayh. If you could have someone prepare a more detailed study of that so we could come to grips with that in some detail I would appreciate it. [The following was subsequently submitted by Ms. Rivlin :)

GOVERNMENT DEFICITS AND INFLATION Federal fiscal policy can be one cause of inflation, but the relationship is more complex than the simple myth suggests. A government deficit increases total spending in the economy. Like any other rise in spending-by consumers, businesses, or foreigners—its impact on inflation depends on at least two factors:

First, if the increased spending is to aggravate inflation, the Federal Reserve must accommodate it—at least to some extent-by permitting faster money growth. If there is no accommodation, then the financing of the deficit will drive up the cost of borrowing and choke off some private-sector spending-eventually relieving the upward pressure on prices caused by the deficit.

Second, the economy must be operating generally near the limits of its available productive capacity. If the economy is experiencing widespread unemployment and factories are idle, then an increase in spending from any source, including government deficits—will result in greater production with little impact on prices.

Figure 1 shows the annual federal deficit relative to the GNP and the annual rate of change in consumer prices for the postwar period. Contrary to the popular notion, most jumps in the federal deficit are associated with a deceleration-not an acceleration-of inflation. This was especially true in 1975–76, but it was also the case in the late 1950s, the early 1960s, and the early 1970s. The common char.

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acteristic of these periods ist hat they were periods of recession-marked by widespread under utilization of labor and capital. These declines in total output both relieved the upward pressure on prices resulting from capacity limitations and increased the federal budget deficit, as revenues slowed and unemploymentrelated expenditures rose. The postwar experience makes clear that it is not possible to assess the inflationary impact of a federal deficit without considering the state of the economy.

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Figure 1.
The Annual Federal Deficit Relative to the GNP and the Annual Rate of Change
in Consumer Prices, 1949-1979.

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1940 1951 1953 1956 1957 1958

1961 1962 1965

1967

1969 1971 1973 1976 1977

1979

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If, however, the economy is encountering significant cpacity limitations, a federal deficit-or even a too-small surplus—will aggravate inflation. This leads to the second message of Figure 1: there is a growing tendency over the postwar period to continue deficit spending even in an economy operating close to full capacity. Thus, fiscal policy contributed to the acceleration of inflation in the late 1960s and in 1973–74. From the perspective of macroeconomic policy, it was a serious mistake to run deficits in those years of relatively high economic activity. Deficits in these years aggravated—but were not the only cause of—the continuing inflation of the recent era.

Senator Bayh. I saw some figures somewhere-and correct me if the premise for the question is wrong—but I saw a study-and it may have been yours—that showed over the last 20 years the increase in the Federal debt was only a little more than 5 percent annually, where the corporate debt rose about 9.6 percent, personal household debt rose about 9.9 or 10, and the debt of State and local government rose 8.2 percent or thereabouts. What I wonder is, first of all, are those reasonably accurate figures? If not, I would like to have your assessment of the accuracy there. And second, how does one compare the impact on inflation of a 5-percent increase in Federal debt with double that amount of, say, consumer and corporate debt? In other words, here again, are we going to be able to do what we are trying to do by just dealing with the Federal debt situation?

Ms. Rivlin. First of all, I don't have the numbers in front of me, but the ones you have given are roughly correct. The increases in corporate and household debt, especially the latter, have been much larger than the increase in the Federal debt. If one is worried about pressure of demand on supply, certainly one has to be worried about everybody's spending-corporate, private, and governmental. The Government has various ways of influencing other spendingthrough its own financial policy, through direct controls, and through monetary policy. A clear way of breaking down consumer spending is to make it more difficult for consumers to borrow, for housing or for general consumer debt, either by direct regulation or by higher interest rates. All of these tools are available to the Government. Clearly, the Federal deficit is a minor part of total spending. It happens to be the one we control through budget policy.

It is important, I think, to look at all of government together. Although State and local governments have run up considerably increased debt over the last 20 years or so, in recent history the State and local governments have been running surpluses in the aggregate in an amount that is approximately the same as the Federal deficit. In the last year or so, governments in general have not been adding to the aggregate. The Federal Government has been running some deficit, and some State and local governments have been running surpluses of approximately the same magnitude.

(The additional information submitted for the record by Ms. Rivlin follows:)

PERCENTAGE RATE OF GROWTH OF DEBT BY NONFINANCIAL SECTORS: 4TH QUARTER OVER 4TH QUARTER

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Senator Bayh. Thank you, Ms. Rivlin. I appreciate your sharing your thoughts with us.

Is there any categorical study that can help us come to grips with how you, or those who weigh the impacts on inflation, can say this percent of Federal expenditure and this percent of Federal debt, this percent of corporate debt, this percent of oil, this percent interest rate? Do you have anything like that handy?

Ms. Rivlin. Unfortunately, it just isn't that simple. One can talk about what accounts for the escalation of inflation in, say, the last

year, and that is handled entirely by the factors I mentioned-energy, food prices, and a few other things. But there is no overall percentage at any time because conditions differ very much from one year to the next. We can discuss it at greater length, but it would be faint hope to think that we could give you any kind of overall percentages.

Senator Bays. If you have any other thoughts on that I would be glad to have them for the record. I say again it appears, not surprisingly so to be a complicated problem we are working with, and I am going to get back to what I said earlier—I don't want the medicine to kill the patient. In essence, I guess what you are saying, just to simplify, if you have a period of reasonably full employment, you should balance that budget; perhaps we should run a surplus if inflation is high.

Ms. Rivlin. Right.

Senator Bays. If you have a recession or if you have unemployment going up, then to require the balanced budget concept would make the matter worse and take longer to solve the problem. Is that right?

Ms. RivLin. That is right. But another more difficult situation is the one we are in now, when there is threat of a recession and a very high rate of inflation. It is very difficult to know what to do. All I am saying is I don't think a constitutional amendment will give you better policy. Unfortunately, the Congress of the United States has to sit down and figure out what to do, and it is a difficult set of tradeoffs. But there is no obvious answer that will flow from the Constitution or anywhere else.

Senator Bays. Thank you very much.
Senator Hatch.

Senator Hatch. Ms. Rivlin, you have just outlined the classic Keynesian approach to economics, although I assume that you recognize that the political expression of the philosophy has been deficits during both the good times and the bad times. This fact is a major reason why the present hearings are necessary. But let me ask you a couple of specific questions. What is the inflation rate in West Germany, right now?

Ms. Rivlix. I don't know the exact rate at the moment, but it has been fairly low.

Senator Hatch. It is significantly less than ours?
Ms. Rivlin. It is less than ours.
Senator HATCH. It isn't anywhere near 14 percent, is it?
Ms. Rivlin. No.

Senator Hatch. As a matter of fact, traditionally it has been around 3 or 4 percent. Isn't that correct?

Ms. Rivlin. It has been a good deal less than ours.
Senator Hatch. How about Japan, what is the inflation rate there?
Ms. Rivlin. Japan has had a relatively low inflation rate as well.
Senator Hatch. In approximately what range?
Ms. Rivlin. The 4- to 7-percent range.
Senator Hatch. It has been significantly less than ours, hasn't it?

Ms. Rivlin. I would like to submit exact figures for the record, but it is my understanding that it is only in the last year and a half that Japan has had a lower inflation rate than the United States. Since April, moreover, Japan's Wholesale Price Index has been increasing at about a 20-percent annual rate.

[The additional information submitted for the record by Ms. Revlin follows:

At monthly rate

June

July

August

September

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CONSUMER PRICES

(Percentage changes from previous period, not seasonally adjusted)

At annual rate 1

Average

1961-70

1971-76

1977

1978

12 mo to
September

6 mo to
September

12.1
3.1
5.3

14.1
7.4

11.0

United States.
Japan...
Germany
France.
Ur.ited Kingdom.
Canada.
Italy.
Austria.
Belgium.
Denmark.
Finland,
Greece.
Iceland.
Irelar.d
Luxembourg.
Netherlands
Norway
Portugal : 5
Spain
Sweden.
Switzerland
Turkey.
Australia
New Zealand.
Total OECD
OECD, Europe
EEC?

2.8
5.8
2.7
4.0
4.1
2.7
3.9
3.6
3.0
5.9
5.0
2.1
11.9
4.8
2.6
4.1
4.5
3.9
6.0
4.0
3.3
5.9
2.5
3.8
3.4
3.8
3.7

6.6
11.1
5.9
8.9
13.6

7.4
12.2
7.3
8.5
9.2
12.1
12.5
26.0
14.0
7.6
8.7
8.5
16.0
13.0
8.3
6.7
18.4
10.8
11.3
8.6
9.8
9.3

6.5
8.1
3.9
9.4
15.9
8.0
17.0
5.5
7.1
11.1
12.2
12.1
29.9
13.6
6.7
6.4
9. 1
27.2
24.5
11.4

1.3
26.0
12.3
14.3

8.7
11.0
9.6

7.7
3.8
2.6
9.1
8.3
9.0
12.1
3.6
4.5
10.0

7.8
12.6
44.9
7.6
3.1
4.1
8.1
22.6
19.7
10.0

1.1
61.9

7.9
12.0
7.9
9.3
6.8

16.5

9.6
15.8
3.7
4.6
12.8

7.7
20.9
141.9
: 13.6

5.1
3.9

3.5
• 23. 4
15. 3
7.9
4.9
69.8
: 9.2
315.2

10.6
11.7
10.0

12.9
22.6

8.6
16.8
3.1
5.2
17.4

7.7
16.2
3 62.9
' 15.5

5.4
4.6

5.2
• 24.1
17.1
8.6

5.3
107.5
: 10.3
* 20.5

12.9
14.0
11.8

1.4
10.8

9
1.0
.8

1 The data shown in the 1st 4 columns refer to averages for calendar years.
1 Breakin series: 1977.

"Since consumer prices are only available on a quarterly basis, the figures shown for the rates of
change over 12 and 6 mo are calculated as the rate of change over 4 and 2 quarters respectively, to
the latest quarter available.

• The monthly rate is calculated as the change between the 2 most recent quarterly indices, ex-
pressed at a monthly rate and centered at the mid-month of the quarter,
* Excluding rent.
• To latest month available.
1 Calculated as weighted averages of percentage changes, using private consumption weights and
exchange rates. For historical data the weights relate to the mid-year of the periods and for 1977 to
the preceding year. From 1978 onwards area averages are based on 1977 private consumption weights
and exchange rates.

Note: These figures are a reproduction of each country's official consumer price index. A few
national authorities publish a seasonally-adjusted index, which in some cases is the one featured in
public discussion; this table is, however, confined to not-seasonally-adjusted data as these are the
only series available in most countries. To obtain a reasonable impression of the "rate of inflation"
it is usually necessary to consider changes over a period of at least a few months. The figures given
here for the "annual rate of inflation" arrived at by comparing the latest month (or quarter) with
the corresponding month (or quarter) 12 and 6 mos earlier, may, however, not provide a reliable
indication of the current rate of inflation if there has been a significant speeding up or slowing down
in the course of the periods in question.

Source: "Press Roview " Bank for International Settlements, No. 223, Nov. 16, 1979, p. 3.

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