o FIRlnGl.lne HOST: WILLIAM F. BUCKLEY JR. GUESTS: DAVID LEVY, JACK KEMP, PRESTON MARTIN, EDWIN RUBENSTEIN, ROBERT KUTTNER SUBJECT: "HIGHER INTEREST RATES: GOOD OR BAD?" PART I FIRING LINE is produced and directed by WARREN STEIBEL. This is a transcript of the Fjrjng Ljne program (#1034/2424) taped at the Jerome Levy Economics Institute at Bard College on January 11, 1995 and telecast later on public television stations. copyright 1995 NATIONAL REVIEW MR. BUCKLEY: For the last couple of years we've been here at Bard College under the auspices of the Jerome Levy Economics Institute. This time around we are going to discuss interest rates, a fascinating, provocative, and inscrutable subject. Try to stay in there. Thanks. * *** * MR. BUCKLEY: The ambitious purpose of this and the succeeding hour is to ponder the Federal Reserve Board's apparent attitude towards interest rates, and also to introduce the uninitiated-­ which includes your moderator--to the arcana of interest rate practices and to the rather special vocabulary used in discussing the question. Keep your eyes on me. As long as I continue to sit here, you can stick around. If you see me slide away, you are at liberty to turn to anoth~r .channel. We have a glittering field of panelists for you, leading with a cherished figure, Jack Kemp. He has been a football star and ex~mplary congressman, a cabinet officer, a presidential candidate. It is a matter of speculation whether he will run in 1996. Perhaps that will depend on th~ interest rate. [laughter] David Levy, familiar to our regular viewers, is still vice chairman of the Jerome Levy Economics Institute, under whose auspices we meet h~re today at Bard College, and he is director of its forecasting center. He is a graduate of Williams with post graduate work at the Columbia University Graduate School of Economics, co~author of the oldest monthly economic newsletter, and author of several books on finance. Preston Martin was a governor and vice chairman of the Federal Reserve Board between 1982 and 1986. He has been a professor at the University of Southern California, chairman of the Federal Home Loan Bank Board, the founding father of Freddie Mac, and serves now as chairman and CEO of the LINCGroup in San Francisco. Edwin Rubenstein is the economic consultant at National Review, a graduate of Johns Hopkins with a graduate degree in economics at Columbia. He is the author of The Right Data and of articles in The Harvard Business Review, The Wall street Journal, The New York Times, and elsewhere. And Robert Kuttner is coeditor of The American Prospect, a liberal journal of politics and policy. He studied at Oberlin, at the University of California in Berkeley, and at the London School of Economics. He has served as economics editor of The New Republic,has a syndicated column and is the author of several books. 1 © Board of Trustees of the Leland Stanford Jr. University. And so to work. First a political question. Mr. Kemp, as it is said of the Supreme Court that it follows election returns, can as much be said about the Federal Reserve Board? MR. KEMP: Oh, well, let's hope not. Let's hope that the central bank of the United States is not sUbject to the vagaries and vicissitudes of a political process. However, saying that, with regard to your opening comment, it seems to me that we would want a central bank that understands that a democracy cannot function without honest, stable, credible, consistent money--money that over a long period of time will maintain its integrity. So from my standpoint that is a very strong democratic principle--small "d"--but I don't think it should be subject to the last election. MR. BUCKLEY: Well, I don't think it should be either, but the question wa$: Is it? MR. KEMP: Well, my answer is no, it is not. I don't think that Alan Greenspan or before him, Chairman-- MR. MARTIN: Paul Volcker. MR. KEMP: --Paul Volcker, or when my friend Pres Martin was on the board, I don't think necessarily-- I think the last time that a Fed probably responded directly to a political campaign was 1972 when Richard Nixon put tremendous pressure on the central bank to in effect inflate his way to a victory in the 1972 election. I don't mean to demean the chairman at that time, but I think that probably was one of the lower periods of u.s. political and economic history. MR. KUTTNER: And if I may, poor Jimmy Carter appointed Paul Volcker in '79 and Volcker just completely sandbagged the economy by pushing interest rates through the roof, which, as much as the hostage crisis, ruined Jimmy Carter's reelection. MR. KEMP: Well, if you remember though, Robert--Bob-- MR. BUCKLEY: There were reasons to act in '79, weren't there? MR. KEMP: Well, yes, that plus the fact that Paul Volcker kept interest rates high well into the first years of the 1980s when Ronald Reagan was president. I remember that the-- They are talking now about short-term interest rates; short-term interest rates in 1982 up until about August were close to 16 percent,the Fed funds rate and the overnight discount rate. MR. MARTIN: And don't forget how high inflation was running in those d~ys too. MR. KUTTNER: But the point is-- 2 © Board of Trustees of the LEiJland Stanford Jr. University. MR. MARTIN: Volcker didn't just invent 20-percent short-term rates. MR. KUTTNER: No, but he followed his own lights. He didn't give a fig about Carter's reelection chances. MR. LEVY: The problem today is-- MR. KEMP: Or Ronald Reagan's. MR. MARTIN: He followed the instructions that the Congress has given--after all, the Congress is the master of the central bank--that the Congress has given in the statutory structure for the Fed, which is that when inflation rates are high, cut down the growth of the money supply first, and secondly, raise interest rates. MR. KUTTNER: Well, for better or for worse, it has been a very long time since the Congress has effectively been the master of the Fed. The Fed goes its own way. MR. LEVY: I think the problem is that where a lot of people in the Federal Reserve, in the bond markets, think that we still face the same risks and the same creeping inflation around every corner, that we had back in the late 1970s coming into the '80s. And there have been a lot of changes, not only in the inflation rate, but institutionally, in the workplace, within corporations, that have given us a price stability that has a lot of inertia now. And yet we have interest rates rising, and with a lot of expectations in the markets and no statements from the Fed to dampen those expectations, that rates are going to continue to rise. We have just finished a year with the lowest--in 1994-~the lowest inflation on measure indexes in ages, and-- MR. KEMP: As measured by what, David? What is your indicator? MR. LEVY: Well, you can pick almost-- The consumer price index, for example, rose two points-~ MR. KEMP: A very poor indicator. MR. LEVY: Yes, but the criticisms are that it overstates the case. MR. MARTIN: Which it does. MR. KEMP: No, that's a recent-- MR. BUCKLEY: As Greenspan discovered, right? MR. LEVY: Are you arguing there is more inflation than that? 3 © 8()~rd of Trustees of the Leland Stanford Jr. University. MR. MARTIN: Oh, I think there is less inflation than that. MR. KEMP: No, I am not arguing that. I am just suggesting that the CPI is not a good indicator. MR. RUBENSTEIN: What about taxes? Isn't that something that is part of inflation? It's not even included in the CPI. MR. KEMP: Yes, that's right. MR. RUBENSTEIN: I mean, if you ask the man on the street, has his-- MR. KEMP: Or the woman on the street. MR. RUBENSTEIN: The person. street person. [laughter] MR. KUTTNER: Woman on the street has a different meaning. [laughter] MR. KEMP: Man and woman. MR. RUBENSTEIN: Okay. If you ask the ordinary street person, "Has your cost of living increased?" he more likely will refer to the taxes that he has to pay, that COme out of his paycheck or that he pays on his house-- MR. MARTIN: Gentlemen-- MR. RUBENSTEIN: --more than the cost of living, which is-- MR. MARTIN: --let us not be naive here with regard to the political situation of the central bank of any country and every country. From my 49 months at the Fed, let me assure you that there is constant interaction between the members of the board of governors and various political figures of both parties--political figures from Germany and the Deutsche Bank, people coming over from Tokyo, and so forth-- MR. BUCKLEY: Mexico City. MR. MARTIN: Monetary policy has to be implemented with a very, very sensitive awareness of what the political tides of a country are anct what the other policies of the other countries are. Believe me, the independent central bank is not completely independent. MR. BUCKLEY: Mr. Martin, what are the protocols here? If a congressman calls you while you are a governor and says you've got to do something to reduce interest rates, is this an improper call? Is this like-- 4 © Soard of Trustees of the Leland Stanford Jr. University. MR. MARTIN: Not at all.