From The Collected Works of , compiled and edited by Robert Leeson and Charles G. Palm.

Interview: “Three Expert Previews of 1968” By Milton Friedman, Paul A. Samuelson and Henry Wallich , 8 January 1968, pp. 52-53 ©The Newsweek/Daily Beast Company LLC

What lies ahead for the U.S. economy? Facing a year of overriding uncertainties, Newsweek put a list of the tougher questions to its three economic columnists—Milton Friedman of the University of Chicago. Paul A. Samuelson of Massachusetts Institute of Technology and Yale’s Henry Wallich. The questions, and the varying answers:

1. What are the chances of a tax increase, and what difference would it make?

SAMUELSON: In the same sense that Admiral Nelson said England “expects” every man to do his duty. I “expect” Congress to enact a tax surcharge. But as a betting man, I would not venture more than even money. Perhaps the sterling devaluation and the gold crisis will sober Congress down to the enacting point. On the evidence now available, a 6 per cent—rather than a 10 per cent—surtax would seem to me optimal.

If taxes are not raised. The fillip to will appear modest in the months just ahead; but the probabilities of moderation in price and usage increases for 1968 and 1969 as a whole will be diminished. The result would not be disaster, but it would represent unnecessarily poor economic performance.

FRIEDMAN: I have no basis for judging whether Congress will pass a surtax. But the effect of a tax increase on the economy has, in my opinion, been greatly exaggerated. It would mean a lower short-term deficit, but also—despite all the hoopla about expenditure reductions—a higher level of government spending. That is why I am opposed to raising taxes; both taxes and spending are already too high. The effect an inflation depends critically on how, if at all, a tax increase affects the rate of growth in the quantity of money. If it were to produce a decline in the rate of monetary growth, that would mean significant reduction in inflationary pressure— though even then only after a considerable delay. Otherwise it would have little effect.

WALLICH: I regard the chance for a tax increase as slightly better than even. If it passes, I would expect inflation at a rate of 2.5 per cent to 3 per cent, provided industry can achieve high productivity gains without pushing its operating rate beyond an average 88 per cent or so. Otherwise, inflation will be in the 3 per cent to 4 per cent area even with a tax increase. Its passage would not do much for the balance of payments, but confidence in the dollar would be strengthened.

If the tax increase does not pass, money will be tighter and the rate of inflation will be higher.

2. Do you expect a money-market crunch in the year ahead, similar to the squeeze of 1966?

SAMUELSON: Yes, but in more moderate degree. The feverish strength that I expect in the first half of 1968, even though it will be due in part to the delayed effects of the record From The Collected Works of Milton Friedman, compiled and edited by Robert Leeson and Charles G. Palm.

automobile strikes and anticipation of a future steel strike, will tempt the Board to slow down the growth of the money supply and to let credit become less available.

WALLICH: I do not expect a money crunch like the one in 1966. The Fed would take the onus of that only in really desperate conditions ─ say price increases at a rate of 5 per cent or a widely visible balance-of-payments crisis ─ that would provide a political excuse. Direct controls on bank lending seem more likely than a crunch.

FRIEDMAN: It depends entirely on what policy the Fed follows. The 1966 squeeze was produced by a sharp shift in monetary policy from unduly rapid growth in the money supply to stability or contraction. If the Fed repeats that pattern, it would again produce a similar result. Gradual change does not produce near-panic; for that to happen there must be a sharp change either in demand or supply of credit

3. What do you foresee in the balance of U.S. payments?

WALLICH: Unless there are drastic new measures, I would expect an increase in the deficit to close to $3 billion largely for technical reasons. The British devaluation could hurt our trade surplus by close to $500 million, but this may be offset in part if the British expand their economy again.

If foreigners start selling their holdings of United States stocks in large volume, all bets are off— the capital outflow might become large, and the dollar hard to defend.

SAMUELSON: I expect some deterioration of our current trade surplus in 1968, because of the prospect that our real growth will exceed that of Europe and thus our imports will rise. Sterling de-valuation has brought to the forefront of people's minds the doubts about the ultimate strength of the dollar. Hence, some deterioration of capital accounts might take place. All this will probably result in further loss of gold, and possibly in strengthened direct controls. I would favor taxes to penalize direct foreign investment rather than voluntary restrictions, or legal fiats that create profitable scarcities for the lucky few.

FRIEDMAN: I have no estimate of the balance-of-payments deficit. British devaluation has made our position slightly more serious.

4. Do you expect more international monetary crises in 1968?

WALLICH: The dollar will now he in constant mild jeopardy, as the pound has been and seemingly still is. From time to time there will be visible crises, such as the recent one, unless we substantially improve our balance of payments. Gold speculation may revive from time to time, and will be fed by proposals for a multi-tiered gold price and market. That, if introduced, could be the beginning of the end.

Mounting controls over the U.S. capital outflow are likely. They are tolerable only if temporary, they can be temporary only if we improve the basic balance of payments. That requires above all

2 From The Collected Works of Milton Friedman, compiled and edited by Robert Leeson and Charles G. Palm.

halting inflation.

SAMUELSON: One or two international monetary crises are par for the course just as one or two crises in the Balkans were for the pre-1914 course. The life expectancy of the dollar in its present parity level is probably greater than the twelve months of 1968—but in economics, all things are possible.

FRIEDMAN: Further crises in 1968 are very likely, though it is dangerous to predict that such rare events will occur in any particular short period. Further runs on gold are the most likely, and one of these—though perhaps not so soon as 1968—will force a rise in the price of gold. An attempt by foreigners to shift out of dollars into marks, francs or other currencies is less likely, but cannot be ruled out. If such an attempt does occur during 1968, its effect is unfortunately likely to be an acceleration of our present trend toward full-fledged exchange controls.

5. Given all these uncertainties, how does the basic economy look?

FRIEDMAN: We are in an incipient boom that is threatening to get out of hand. The extremely rapid rate of monetary expansion during 1967 has already built in a substantial inflation for 1968—at the rate of at least 3 per cent to 5 per cent a year for consumer prices, with or without the proposed tax increase. We shall probably also have a substantial rate of real growth, but that is less certain.

SAMUELSON: I go along with the fashionable forecast of about a 4 per cent increase in real growth of gross national product, plus a further increase in GNP of some 3.5 per cent because of creeping inflation. New strength will come from the consumer and from some resumption of normal inventory building. Plant and equipment spending, already at an unsustainable level, will not rise next year in real terms. Housing will be the safety value: if inflationary pressure is greater than people think, unavailability of credit will cut housing starts by a few hundred thousand.

WALLICH: I would estimate GNP for the year at $840 billion to $845 billion. The rate of real growth, on the assumption of 3 per cent inflation, would be 4 per cent to 4% per cent. This assumes a Federal tax increase and some mild expenditures cutting, and a monetary policy to match.

It would be a good year in real terms but a bad year in financial terms—meaning inflation, balance-of-payments troubles and high interest rates.

6. Can government spending really be trimmed?

FRIEDMAN: Yes, but I doubt that it will be in 1968.

SAMUELSON: Meaningful cuts in the government-expenditures trend, over what they would otherwise have grown to, can always be made—if that is the people's will. But I doubt that it is.

3 From The Collected Works of Milton Friedman, compiled and edited by Robert Leeson and Charles G. Palm.

WALLICH: The area of flexibility in the administrative budget is small in the short run—on the order of $20 billion. Outside the administrative budget, and especially in the highway trust fund, substantial additional cuts could be made, but large-scale cuts elsewhere would require changes in basic legislation. Legislation is harder to change the more entrenched and obsolete is the program. The best programs are probably the newest, and these are most exposed to cuts—such as the poverty program.

7. What should be done now?

SAMUELSON: The Fed should follow its professed goal of "leaning against the wind." It should speed up the rate of growth of the money supply when the economy looks to be languishing, and it should slow down money's growth when the natural forces of the economy are blowing up an inflationary breeze. What's sauce for the wielder of monetary policy is sauce for the wielder of fiscal policy: tax and expenditure policies should flexibly adjust to the strength of investment and consumer demand. Congress should change its mind whenever the facts it faces have changed. That rules out permanently stable tax rates.

WALLICH: A tax increase should be enacted, to be extended or ended at midyear as conditions then dictate. Government spending should be held down. The gold cover for Federal Reserve notes should be removed. Balance-of payments policies should be tightened with special emphasis on corporations and a temporary import surcharge should be imposed if other countries agree no to retaliate. The Fed should slow the growth of the money supply.

FRIEDMAN: The Administration should press for reductions in Federal expenditures. Taxes should not be increased. The Federal Reserve should reduce the rate of growth in the quantity of money but the reduction should not be over done as it was in 1966.

This policy will take time to be effective. And, thanks to the overly expansion policy followed so far, it will have some painful results in the interim—at first continued rise in interest rates, and later on a slackening in the growth of output. But there is no other way to keep inflation in check.

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Compiled by Robert Leeson and Charles Palm as part of their “Collected Works of Milton Friedman” project.

Reformatted for the Web.

10/25/12

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