Volcker (60 page)

55
. Transcript, Federal Open Market Committee Meeting, May 6, 1980, p. 5.

56
. The federal funds rate averaged 19.38 percent during the first week of April 1980 and averaged 9.44 percent during the first week of July.

57
.
New York Times
, July 21, 1980, p. D4.

58
. The afternoon gold fixing on April 1, 1980, was $509.50. The dollar-mark exchange rate on April 1 was 1.9615 and on July 1 it was 1.7615.

59
. See
New York Times
, May 31, 1980, p. 23. I wrote this op-ed article, which is entitled “Rates of Interest,” and sent it to Volcker before it was accepted for publication. He sent the following note to me, dated May 27, 1980 (before the article was published): “Dear Bill: Thanks for sending me the piece you submitted to the Times. The analysis is right on the mark and the message needs to be fully understood. Sincerely, Paul.”

60
. For a comparison of the monetary growth rates (M1, M2, and M3) for the first half of 1980 with 1979, see
The Federal Reserve's Second Monetary Policy Report for 1980: Hearings Before the Senate Committee on Banking, Housing and Urban Affairs
, 96th Congress, 2nd Sess., July 21, 22, 1980, U.S. Government Printing Office, Washington, DC, 1980, pp. 150–52.

61
.
New York Times
, July 21, 1980, p. D4.

62
. See Thomas Sargent, “The Ends of Four Big Inflations,” in Thomas Sargent,
Rational Expectations and Inflation
(New York: Harper & Row, 1986). The first draft of “The Ends of Four Big Inflations” was completed in August 1980, and the first reference to it appeared in Preston Miller, “Deficit Policies, Deficit Fallacies,”
Federal Reserve Bank of Minneapolis Quarterly Review
4, no. 3 (Summer 1980). Miller was an assistant vice president in the Federal Reserve Bank of Minneapolis.

63
. Sargent, “The Ends of Four Big Inflations,” pp. 97 and 100.

64
. The quote is from Thomas Sargent, “Stopping Moderate Inflations: The Methods of Poincare and Thatcher,” in Thomas Sargent,
Rational Expectations and Inflation
, 2nd ed. (New York: HarperCollins, 1993), p. 122, including note 3. Sargent made this point in connection with a discussion of Margaret Thatcher's policies to control inflation in Britain. He said (pp. 121–22), “Mrs. Thatcher came to power against the background of over 20 years of stop-go or reversible government policy actions. Her economic policy actions are
vigorously opposed both by members of the Labor Party and by a strong new party, the Social Democrats … In addition, throughout her administration, speculation has waxed and waned about whether Mrs. Thatcher herself would be driven to implement a U-turn in macroeconomic policy actions, and whether her stringent monetary policy actions would be reversed by the Conservative Party itself, by choosing a new party leader … For all of these reasons, it is difficult to interpret Thatcher's policy actions in terms of the kind of once-and-for-all, widely believed, uncontroversial, and irreversible regime change that rational expectations equilibrium theories assert can cure inflation at little or no cost in terms of real output.”

65
. PIPAV. Volcker also recognized the limitations of the Thatcher experiment. “If you want to know about the difficulties of monetarism, look [at the English experience]. They have a government with a five-year lease on life, totally dedicated to the proposition of monetary restraint as the way to kill inflation and totally prepared, [at least] verbally, to take the budgetary measures that they thought appropriate to accompany that … [But] they are battling … to establish their credibility … I wish Mrs. Thatcher well, but I don't think she has all that much of a constituency in the United Kingdom now.” (See Transcript, Federal Open Market Committee Meeting, December 18–19, 1980, pp. 61–62.)

1
.
New York Times
, October 3, 1980, pp. A1 and A19.

2
.
New York Times
, October 4, 1979, p. 1.

3
. Ibid.

4
.
Washington Post
, October 4, 1980, p. C1.

5
. Transcript, Federal Open Market Committee Meeting, October 21, 1980, p. 54.

6
. The discount rate was last increased during an election year on August 24, 1956, a month earlier than in 1980. The increase was from 2.75 percent to 3.00 percent (see research.stlouisfed.org/fred2/data/).

7
. See Minutes of the Board of Governors of the Federal Reserve System, September 25, 1980, p. 3.

8
.
New York Times
, September 27, 1980, p. 29.

9
.
New York Times
, October 5, 1980, p. E4. According to Abrams, “How Richard Nixon Pressured Arthur Burns: Evidence from the Nixon Tapes,”
Journal of Economic Perspective
20, no. 4 (2006): 186, “Most empirical studies
of the behavior of the Federal Reserve prior to presidential elections have not uncovered evidence of a political monetary cycle, which has supported the view that the Fed is independent. However … without invoking political pressure, the surge of expansionary monetary policy leading up to the 1972 election seems hard to explain.”

10
.
Wall Street Journal
, October 6, 1980, p. 34.

11
. PIPAV.

12
. Ibid.

13
.
Wall Street Journal
, June 3, 1980, p. 6.

14
.
New York Times
, October 31, 1980, p. D2.

15
. See Record of Policy Actions of the Federal Open Market Committee Meeting held on October 6, 1979, pp. 4–5. “Most [FOMC] members strongly supported a shift in the conduct of open market operations to an approach placing emphasis on supplying the volume of bank reserves estimated to be consistent with the desired rates of growth in monetary aggregates, while permitting much greater fluctuations in the federal funds rate than heretofore. A few members, while urging strong action to restrain monetary growth, expressed some preference for continuing to direct daily open market operations toward maintenance of levels of the federal funds rate … Committee members recognized that for a number of reasons the relationship between growth of various reserve measures and growth of the monetary aggregates was not precise; thus the shift in emphasis to controlling reserves improved prospects for achievement of the Committee's objectives for monetary growth over the next few months but did not assure it.”

16
. For example, the Federal Open Market Committee's Directive on September 16, 1980, p. 10, reads: “In the short run, the Committee seeks expansion of reserve aggregates consistent with growth of [alternative measures of the money supply] M-1A, M-1B, and M-2, over the August to December period at annual rates of about 4 percent, 6½ percent, and 8½ percent respectively, provided that in the period before the next regular meeting the weekly average federal funds rate remains within a range of 8 to 14 percent. If it appears during the period before the next meeting that the constraint on the federal funds rate is inconsistent with the objective for the expansion of reserves, the Manager for Domestic Operations is promptly to notify the Chairman, who will then decide whether the situation calls for supplementary instructions from the Committee.”

17
. See Marvin Goodfriend and Robert G. King, “The Incredible Volcker Disinflation,”
Journal of Monetary Economics
52, no. 5 (July 2005), esp. pp. 1007–12, for an excellent description of Volcker's mixed strategy of controlling reserves and interest rates over different time horizons.

18.
New York Times
, December 31, 1980, p. D2.

19
.
Wall Street Journal
, June 3, 1980, p. 6.

20
. The following interchange among Lawrence Roos, Paul Volcker, and Lyle Gramley on the predictability and relevance of money growth comes from the Transcript of the FOMC Meeting of September 16, 1980, pp. 8–9.

21
. See Minutes of the Board of Governors of the Federal Reserve System, September 25, 1980, p. 3. The FOMC had voted no change in policy in the meeting of September 16, 1980. The immediate cause for the change in the discount rate on September 25 was that “the federal funds rate, which averaged 10.85 percent in the latest statement week, now was around 11.25 percent; and weekly average borrowings from the Federal Reserve had risen to $1.6 billion.” (See Minutes of the Board of Governors of the Federal Reserve System, September 25, 1980, p. 3.)

22
. See Record of Policy Actions of the Federal Open Market Committee Meeting held on October 21, 1980, p. 8. Four dissents, led by Larry Roos and Henry Wallich, urged even more restraint (see p. 13).

23
. On September 24, 1980, the federal funds rate was 10.92 percent, and on November 3, 1980, it was 14.06 percent.

24
. The quotes in this paragraph are from Jimmy Carter,
White House Diary
(New York: Farrar, Straus and Giroux, 2010), pp. 347–48.

25
. Volcker's Daily Planner for 1980 lists a 5:30 P.M. meeting on November 19 with Burns.

26
. The meeting Burns attended is reported in the
Los Angeles Times
, November 14, 1980, p. B10.

27
. The following conversation is based on Paul Volcker's recollection and the document cited in the next note.

28
. The exact quote Burns refers to is as follows: “The Federal Reserve is an independent agency. However, independence should not mean lack of accountability for what it does. In practice, independence has not meant that the Federal Reserve is immune to Presidential and Congressional influence. The problem is to assure accountability while preserving independence.” It appears on page 11 of “Economic Strategy for the Reagan Administration: A Report to President-Elect Ronald Reagan from His Coordinating Committee on Economic Policy,” dated November 16, 1980 (Murray Weidenbaum Papers, University Archives, Department of Special Collections, Washington, University Libraries, Box 8). It is signed by George Shultz (chairman), Arthur Burns, Milton Friedman, Alan Greenspan, Michael Halbouty, Jack Kemp, James Lynn, Paul McCracken, William Simon, Charls Walker, Murray Weidenbaum, Caspar Weinberger, and Walter Wriston.

29
. PIPAV.

30.
See
New York Times
, June 8, 1980, p. F1 continued. A reporter describes Friedman's view as “the monetary authorities don't even have to look at the money supply itself … all they have to do is keep adding reserves at a steady rate.” A luncheon companion said to Friedman, “In other words, you would not need the Fed, only a computer.” Friedman replied, “Indeed.”

31
. The
New York Times
, December 5, 1980, p. D2, reported, “Mr. Wriston has made Citibank famous as a center of monetarist thought and policy advice.”

32
. Milton Friedman and Robert Roosa,
The Balance of Payments: Free Versus Fixed Exchange Rates
(Washington, DC: American Enterprise Institute, 1967).

33
. PIPAV.

34
. A letter from Reagan to Gordon Luce (CEO of a California savings bank) dated July 23, 1981, reads as follows: “Dear Gordon. Thanks very much for your letter and for the observations about the Federal Reserve … I've passed your essay on to our economic types to see if they have an answer to whether the Federal Reserve is really necessary.” See
Reagan: A Life in Letters
, ed. Kiron Skinner, Annelise Anderson, and Martin Anderson (New York: Free Press, 2003), pp. 298–99.

35
. This and the next quote are from the Transcript, Federal Open Market Committee Meeting, November 18, 1980, pp. 51–52.

36
. The 13 percent discount rate established on December 5, 1980, matched the 13 percent rate established on February 15, 1980. The federal funds rate first broke through 20 percent on December 11, 1980. (The highest level before that was 19.96 percent on April 3, 1980.) The federal funds rate remained above 20 percent between December 16 and December 19, 1980. It hit an all-time high of 22 percent on the last day of the year.

37
. Transcript, Federal Open Market Committee Meeting, December 18–19, 1980, p. 49.

38
. Ibid., p. 53.

39
. Allan Meltzer,
A History of the Federal Reserve
, vol. 2, book 2 (Chicago: University of Chicago Press, 2009), p. 1073, treats Partee's statement as simply recognizing that inflation is now an explicit Federal Reserve target. Given that Partee's point follows Gramley's proposal for a weak economy, I think Partee is complaining that this policy requires a judgment on the trade-off against a weak economy. Volcker confirms this interpretation despite his quote from the transcript in the next paragraph.

40
. The following quotes are from the Transcript, Federal Open Market Committee Meeting, December 18–19, 1980, pp. 61–63.

41
. Moral hazard is the concept that insurance against loss changes the insured's behavior to make that loss more likely. Economist Kenneth Arrow was one of the first to use moral hazard in the economics literature. See “Uncertainty
and the Welfare Economics of Medical Care,”
American Economic Review
43, no. 5 (December 1963): 941–73.