The 1975-76 Federal Defleits and the Credit Market RICHARD W. LANG rfp I HE possible effects on credit markets of the fiscal 1975 and 1976 U.S. Government deficits were of con- Table I siderable concern in late 1974 and early 1975. Projec- Fiscal Year Surplus or Deficit tions of these deficits ran from $50 to $80 billion Fsscel Surplus ( )orDeficit or more. A number of analysts outlined certain condi- Year (In 8,llson of Dolla tions under \vhich the financing of such large deficits 1965 1.6 by Treasury borrowing would have adverse effects on 1966 38 credit markets, pushing short-term interest rates into 1967 87 the double-digit range again and crowding out private 1968 252 borrowing for capital formation. If these conditions 1969 32 developed, it was suggested that the Federal Reserve 197 2.8 might attempt to keep interest rates from rising by 1971 230 increasing its rate of purchase of Government securi- 192 232 ties. As a result, there would be a large increase in 973 43 the growth of the money stock, which eventually 1974 35 would lead to a new inflationary spiral that would 1975 436 push interest rates higher due to increased inflationary 976 65.6 expectations.’ e Thi 1? Es I r ipso ‘F The concern for credit markets was based on the lice I assumption that the increased Government demand for credit would overwhelm any decrease in the tan rdsthedfi’it 975and /6wr i ed private demand for credit as well as any increase in lamg~ aisu ~isThg t the’ gen oi I oc . i d the supply of credit. Other aralysts maintained that 1 ets’in ifrst ‘ s( ig si? although Government borrowing would increase, pri- vate borrowing would decrease substantially during the recession. This decrease in the private demand for funds was expected to largely offset the increased Government demand, with the result that the larger r i k co t’ ~ ‘ e rms deficits would have little effect on either interest 1 s Udidf k rates or the total quantity of credit.’ m ‘U e ‘t ‘i tog the C tity d t ‘ e ni it The deficits in fiscal 1975 and 1976 were $43.6 t billion and $65.6 billion, respectively, while the largest a ) c e’nii ‘ jjUo an d- deficit in the previous ten fiscal years was $25.2 billion ad r i. ‘oc m’~ ‘oc d 1~ 0 ‘1 (see Table I) .~ Thus, relative to recent historical lu oxrm et n,

‘This possibility was expressed in tins Review in a number of mm ci m e ‘U fi iii’ different articles. See, for example, Darryl H. Francis. “How yi re nra ~t oros’i ‘e..l i in- and Why Fiscal Actions Matter to a Monetarist,” this Review ee s ts am, cit (May 1974), p. 7; W. Philip Cranim, “Inflation: Its Cause and Cure,” this Review (h”ebruaiy 1975), pp. 5-6; or Susan ,n n ‘ e ii - o 1 de ,n rdi H. Roesch, “The Monetary-Fiscal Mix Through Mid-1976,” I I C t c this Review (August 1975). pp. 2-7. 0 1 - o’ro ig. exe t ‘This point of view ‘vax clearlr’ expressed by James L. Pierce, “Interest Rates and Their Prospect in the Recovery,” Brook- fi. i ems h to’a ing.r Papers on Economic Activity (1:1975), pp. 89-112.

‘Using the unified budget data as reported in the Federal ‘ihedics Us ‘phi r ,m ‘, rm of h aom Resen-e Bulletirs. mi I 4 ~ n’” ft rdnos’,Irte,of’n rst.

Page 9 FEDERAL RESERVE BANK OF ST. LOUIS JANUARY 1977 demand for credit depends in large part on whether finance the large projected deficits, with other factors the deficit is predominantly due to “active” or “pas- unchanged, market interest rates would rise. Further- 5 sive” elements in the budget. Discretionary changes more, it was claimed that if the Federal Reserve pur- in Federal expenditures and taxes which result from chased a large proportion of the increased debt in an Congressional or Executive actions are “active” ele- attempt to prevent this increase in interest rates, ments in the budget. Nondiseretionary, or automatic, higher expected rates of inflation would result, This, changes in Federal expenditures or taxes which result in turn, would lead to higher interest rates. The above from changes in the level of economic activity are analysis also implied that the nominal quantity of “passive” elements in the budget. A Federal deficit credit outstanding would increase. which is primarily the result of active elements in the The above outlook for the credit market depended budget will tend to produce a larger increase in the heavily on the assumption that there would not he a total demand for credit than if the deficit were pri- substantial decrease in the private demand for credit. marily due to passive elements. This tendency re- Some analysts, however, maintained that the recession flects the fact that credit finances economic activity. would induce much lower private investment because If the budget deficit is the result of passive elements, of higher excess capacity, and that the private de- the decline in economic activity which leads to the mand for credit would therefore decrease substantially increased deficit is also generally accompanied by a during fiscal 1975. Private borrowing would he lower decline in the private demand for credit. primarily as a result of a decline in the private de- Given an increase in the total demand for credit mand for credit and not as a result of a rise in market from an increased Government deficit, regardless of interest rates. This decrease in private demand, ac- whether the deficit is active or passive, the market cording to proponents of this view, was expected to interest rate increases as potential borrowers hid for offset, although not totally, the increase in the Govern- the available credit. As a result, the quantity of credit ment’s demand for funds.’ supplied increases as suppliers of credit are induced This point of view generally maintained that the to increase their lending by the rse in interest rates. credit market would be basically unaffected, in terms Since Federal Government borrowing is relatively in- of price and total quantity, by the large increase in sensitive to changes in the cost of borrowing, the Government borrowing, As a result of the changes in main effect of a rise in the market interest rate is on private and Government demands, the distribution of private sector borrowing. If other factors are un- total credit would change, but interest rates would changed, private horrowers will want to borrow a not be substantially increased and the quantity of smaller quantity of credit at this higher interest rate. credit outstanding would he increased only slightly. Since the total quantity of credit supplied is larger, Of course, in the absence of the Government’s in- this implies that the proportion of credit going to the creased borrowing, the expected decrease in private Government is larger. The resulting absolute decrease demand would have implied even lower interest rates in the amount of private sector credit is one illustra- in 1975-76, according to this view, tion of the argument that Government borrowing “crowds out” private borrowing.° This simplified analysis describes the underlying C~tj%:FI)N\iF:~N~~i~ rationale for some of the warnings expressed in 4 r 1974-75 about higher interest rates and private bor- Is ...‘.‘ if rowing. It was maintained that if the Government .‘s.t±y.sa.rv.il..i v.UIv..~ .itim’i ijii..hlasO In 1975 and 1976, short-term interest rates did not increased its debt by $50 to $100 billion in order to rise above their mid-1974 peaks, but instead tended to decline. Although short-term rates rose in mid-1975 rsFor a detailed discussion of “active” and “passive” budget deficits. see Keith NI. Carlson, “Large Federal Budget Defi- and again in mid-1976 (see Ghart I). these upward cits: Perspectives and Prospects,” this Review (October movements were not sustained and were not as severe 1976), pp. 2-7. 6 as some analysts had expected. In mid-1975, the up- For a detailed discussion of “crowding out”, see J. Kurt Dew, ward movement in short-term rates peaked at rates “The Capital Market Crowding Out Problem in Perspective,” Federal Reserve Bank of San Francisco Economic Review below 7 percent, and in mid-1976 they peaked at (), pp 36-42; Roger W. Spencer and William P. Yohe, “The ‘Crowding Out’ of Private Expendi- tures by Fiscal Policy ,kctions,” this Review (), ‘Pierce estimated that Covs’nmmnent borrowing in calendar year pp. 12-24; and Keith M. Carlson and Roger W. Spencer, 1975 would increase by 880 billion while borrowing liv other “Crowding Out and Its Critics,” this Review ( December nonfinancial sectors w’mdd decrease by’ 872 billion. See 1975), pp. 2-17. Pierce, “Interest Hates,” pp. 106-8.

Page 10 FEDERAL RESERVE BANK OF ST. LOUIS JANUARY 1977

chart cha,,, It Short-Term Interest Rates Long-Term Interest Rates RaIls Scale Ratio Seal. of Yields M,,’hI, A,oo~ 0 skIt, hi,,,,, of Yield, Is

1968 1969 1970 1971 1Q72 1973 l974 1975 1976 1968 1969 1970 1971 1972 1973 1974 1975 1976 do,,, do, plood: if P5* 30.y,,, ,,otg,a.,. O,,h,d Ik,,I ‘dl,’, d,~,,,’,,,,, 15,0’. P,,p,’~dhpP,d’,~~a,,,,,, Ll Mashi yP5,,,a,,.’t Th,’,dap ha,’,,,. 13 A,,,,a,, ‘5 ylald’ a, ‘.‘p..’ “as 5,, ,,SI,hl, 5,1,,~’,’, ,,oo,, ,,d’di,g I,,,,, p,I,II,a.,. II’S5, a,, u’,p,Md by sal, 5,,k. 5~,,,, 5.,s pl,tt,d PHA-No,ab,, ~dbyp,d,,,I R,ay’,, ea,k,t 5’. 55,1, rates below 6 percent. In both cases, short-term rates were well below the 1974 peaks of about 12 percent for four- to six-month commercial paper and about 9 This was the largest year-to-year decrease in the percent for three-month Treasury hills. Long-term in- amount of funds going to the private nonfinancial terest rates also generally declined from mid-1974 sector in the post-World War II period. levels, although not as dramatically or consistently as short-term rates (see Ghart II). Tab a F sRose y nfinn ec s The funds raised by all nonfinancial sectors in fiscal (Bills ns a Dolls 1975 were about $8 billion lower than in fiscal 1974 Ft eel I Othe (see Table II). In order for both interest rates and the as Tots * . G as - ant ontinonctol total amount of new credit to be lower in fiscal 1975 19 $72 $ 67 than in mid-1974, the total demand for credit must 66 760 7 have decreased in 1975. Since Government demand 1967 608 5. for credit increased in fiscal 1975, private demand 968 970 763 must have decreased suhstantially.5 A decrease in the 96 967 0 971 demand for credit by the private sector would have 97 88 to more than offset the increased Government de- 7 1 0 mand in order for the total demand for credit to 97 6 decline. 17 0 While the Federal Government raised $50.7 billion 9 1 in fiscal 1975, compared with $3.3 billion in fiscal 1974, I 75 183 96 42582 all other nonfinancial sectors raised $132.6 billion — a decrease of $55.5 billion from the fiscal 1974 level, I . ft r 1, 0

5 0- 0 ‘ Susan H. Hoesch and Keith NI. Camlson both noted this. See Hoesch, “The Monetary-Fiscal Mix,’ p. 2; and Carlsnn, Sor . b, umary F ft ‘- , a i lcd p 5 n Sto “Large Federal Budget Deficits,” p. 6. The fall in private de- 0 nd s Pta, o . ‘nand was also discussed by H. Alton Gilbert, “Bank Financing 0 of o h a of the Recovery,” this Review (July 1976), pp. 2-9.

Page 11 FEDERAL RESERVE BANK OF ST. LOUIS JANUARY 1977

The decrease in the private demand for credit can about $58 billion. Since the 1976 budget deficit was be attributed in a general way to the decline in the larger than the 1975 deficit (‘[able I), the Govern- level of economic activity between late 1973 and early ment demand for credit again increased. The Federal 1975, during which time the United States experi- Government raised $82.8 billion in fiscal 1976, an in- enced its most severe postwar recession. However, crease of about $32 billion over the fiscal 1975 level the specific factors affecting the demand for credit, as of $50.7 hillion (see Table II). The funds raised by all well as the supply of credit, are more complex. other nonfinancial sectors also increased in fiscal 1976, by $25.6 billion over the fiscal 1975 level. Neverthe- The last recession was preceded by a number of less, these private nonfinancial sectors raised almost shocks to the economy: the oil embargo and subse- $30 billion less in fiscal 1976 than in fiscal 1974. quent large increase in the price of energy; the end of wage and price controls; crop failures; and the intro- Although the total funds raised by the private sec- duction of new Government regulations regarding tor increased in fiscal 1976, the private demand for pollution and safety. These factors all combined to credit did not show a substantial increase. In fact, effect a one-time increase in the price level and a private short-term credit declined during most of reduction in the country’s productive capacity.° fiscal 1976. The sluggish private demand for credit during fiscal 1976 showed up in the decline of busi- The increase in the price level was first per- ness loan demand at commercial banks and the vol- ceived as an increase in the rate of inflation, and led to upward revisions in lenders’ and bon’owers’ ex- ume of commercial paper outstanding, both of which pected rates of inflation, at least in the short tenn. As are primary sources of short-term credit by corpora- tions.11 The volume of commercial paper declined a result, the supply of credit decreased and the de- between and , while business mand for credit increased, and market interest rates loans at commercial banks declined throughout fiscal rose rapidly in fiscal 1974. However, without any further shocks to the price level, the rate of change of 1976. prices returned to its previous pace. As lenders and With an increase in the Governlnent’s demand for borrowers realized this, their inflationary expectations credit and little change in private demand, the total were revised downxvard, This resulted in a decline in demand for credit increased. However, interest rates the demand for credit and an increase in the supply, did not increase, as would he expected if the total leading to a decline in market rates of interest. demand for credit increased while the supply was Furthermore, the possibility of future oil embargoes, constant. Instead, in fiscal 1976 interest rates were netv wage and price controls, and further substantial generally lower than in fiscal 1975. This combination changes in Government regulations resulted in in- of lower interest rates and higher credit indicates that creased uncertainty about the future state of the econ- the supply of credit increased both absolutely and omy and lowered business confidence concerning relative to the total demand for credit, profitable productive opportunities. Gonsequently, The decrease in the rate of inflation since mid-1974 producers became more cautious about committing and the moderate rates of growth of the monetary themselves to new investment projects, and the de- base and the money stock during fiscal 1976 resulted mand for credit to finance such investment declined. in do\vnward revisions of investors’ expected rates of This general uncertainty also led to a substantial inflation. This tended to increase the snpply of credit increase in the supply of short-term credit as many since lenders did not have to require as high an inter- economic units sought to btuld their “liquidity” as est rate to maintain their purchasing po\ver. In addi- protection against future contingencies. Another fac- tion, the amount of funds available for lending tor which contributed to the decline in private de- increased during fiscal 1976, as indicated by an al- mand for short-term credit in fiscal 1975 ~vas the most 19 percent increase in gross private saving over sharp decrease in inventory’ investment during the this period.’2 first half of 1975, which tended to reduce short-term private borrowing.° The distribution of credit bet\veen the Government and private sectors has changed considerably in the In contrast to fiscal 1975, the total funds raised in last two fiscal years, in fiscal 1975, 27.7 percent of all fiscal 1976 by all nonfinancial sectors increased by tt ‘‘Ibid., p. 4. See Deuis S. Kaniosky. “The Link Between Money and —‘Cross private saving includes personal saving and aa,,dis- Prices — 1971-76.” this Review (June 1976), pp. 17-23. t tributed corporate profits (with inventory valuation and “ See Gilbert, “Bank Financing,” pp 5-6. capital consumption adjustments

Page 12 FEDERAL RESERVE BANK OF ST. LOUIS JANUARY 1977

labia Hi iab’o IV Proportion of Total Funds Raised by Nonfinancial Federal Reserve Holdings of Federal Debt Sectors Going to the U.S. Government cI’angas fl (Parc-nil) Feec’ a Di.bI P. apar’ion of Hold Charqi’ :i F ~ci ‘Year U.S Go,arpmr ni by (“engas ,-: ‘he Fe-carol Fc’dr’ai DobI Pa, ,aa Fede’a lb’-.bI Pesn’,o Bank: Held b Ih 1965 5 3% Ending jBilHons of tB.Hions of F..dr,ai Rosnr,c5 1966 2! Juno’ Dollars.) Doilaral Burl; tPn”crntl 1967 29 970 S 68 53.6 533% 1968 21.3 19/1 ‘9.5 7.8 43.0 969 1972 206 59 286 19/0 41 1973 18.9 3.6 9.! 1971 15.6 1974 2.2 5.5 250 0 1972 12.0 1975 51.0 4.2 82 1973 9.7 976 82.9 9.7 11./ 1974 1.7 ‘Iai?.— ‘Iiurch en, li.i,i’ ., I ii.. 1975 27.7 Fit al Ito--v, I3,:i~’,, 1976 344

ni tk..i.’nn nails.. ‘.1 ,,i:.r,—:I~ is., ia,’ I To finance the 1975 deficit, Federal debt increased :1’. . u:di Liii::—’ I Nn~,,,,: $51 billion.” During fiscal 1975, the Federal Reserve it’j.., ni—ni, L.a.’I’,n,. .. tIn’ c.,, ,o’.Ws’ I’.’.,. increased its holdings of the outstanding debt by $4.2 ..,.,.r,.:~I:,:,.r.’s_tI,i!i:,.r,,:I..JE..!.It.Lr,iflj’::.n.t\i.tiii3 .5 1:i’i,.L Viol’ lt:s.sol 1’ N..,.Ii..,’.-.,in.’:, . I ar. billion, so that 8.2 percent of the increase in the debt l’s,’,’ S,s,,,,r • )Ii’E—i.,n.. 10.0 am, SL.L, Ii,— it,.’,.. Svnr:, was monetized (see Table IV). In fiscal 1976, 11.7 percent of the $82.9 billion increase in the debt was funds raised in the credit markets by nonfinancial monetized. Consequently, there was not a large in- sectors went to the U.S. Government, up from 1.7 crease in the growth of the monetary base, and the percent in fiscal 1974 (see Table III). The Govern- expected surge in the money stock did not materialize ment’s share of funds increased further in fiscal 1976, (see panels 4 and 5 of Chart III). While the propor- to 34.4 percent. tion of the total outstanding Federal debt held by the Federal Reserve decreased, a larger proportion was being taken by commercial banks, corporations, and mjjj~ 4.;’}’i)1:~’p&i DE:BT ANI) ‘IlIIi~ 35 “other investors” (see Tables V and VI). r:;:v1)i::p4i RESE1fl’F:.

As shown in Panel 3 of Chart III, the proportion of SljMT%i:AB.Y ••\N]) 01 •~:f•_f)~if~__ the total outstanding Federal debt (total gross public debt less debt held by U.S. Government agencies arid Of the total funds raised in the credit markets in trust funds) held by the Federal Reserve had been fiscal 1975 and 1976, a larger proportion went to the rising fairly steadily through 1974— from about 12 Government than in the previous ten years (Table percent in 1962 to almost 24 percent in fiscal 1974. In III). In fiscal 1975, the private demand for funds the ten fiscal years prior to fiscal 1975, the largest decreased; the private sector wanted to borrow less increase in the Federal debt was recorded in fiscal at any level of interest rates. Thus, their share of the 1968, $20.7 billion, of which 26.6 percent was mone- total funds raised would have declined even if the tized.13 From fiscal 1970 through fiscal 1974, the Government’s demand for funds had remained con- stant. On the other hand, had the Government de- Federal Reserve generally monetized over 20 percent of the increases in the Federal debt (see Table IV). mand for funds not increased, the decreased demand by private borrowers would have resulted in even Many analysts expected this pattern to continue through fiscal 1975 and 1976, but instead the Federal lower interest rates. Reserve monetized much lower proportions of the “Federal debt is not equal to the budget deficit mainly increases in the debt. because of: 1) changes in the deficits of off—budget agencies, and 2) changes in cash and monetary assets of the Treasury. 13 5 The Federal Reserve does not purchase Government securi- 1 ”Other investors” include savings and loan assoeiatid,ns, ties directly from the Treasury when engaging in open nonprofit institutions, corporate pension trust funds, dealers ,narket operations. Rather, it purchases securities which the and brokers, and certain Government deposit aecc,ua,ts and Treasury has already sold to the private sector. Governniestt—sponsored agencies.

Page 13 ~1 I ~4C

I P1 I ii r 1 P1

Cs, a C m CD a, n u z CD z 0 0‘I -Il UI CD a. r CD 0 0 C a, C) 0 ‘C CD -‘ 3 ‘Dc a S 0~~ 0 I

0 S a -I b “C

1• rn x I V 0

U, L 0 z C

to -4 FEDERAL RESERVE BANK OF ST LOUIS JANUARY 1977

Tobit. V Ownership of Federal Debt (B:Ilions of DoiIa’~)

Federal Debt H&d By

Fnreiqn Pe,od Federal Mutual S,atc nn~ and !ndno Fedo’a Reierve commercial individ. ir.,u’onco Sc~inqs Corpo- local Int’~no C’h~r Juno, Debt Banks Book uals Compan,es Bnrks rations ~ Iion& I nyrstors 5 1965 52539 $39.1 $58.2 S70.’/ S~O.? S5.6 $153 $24.1 5157 $16.8 1966 253,2 42.2 54,8 72.8 10.0 50 14.2 24,5 15,4 169 1967 250.9 46,7 55.5 70.4 9.0 4.2 11.0 236 14.7 93 1968 771.6 52.2 59.7 74,2 8.5 40 12.0 25.~ 12.9 22,7 1969 268.9 54.1 55.3 7/.3 8.1 3.5 11.1 26.4 1 1.~ 22.3 1970 275.7 57.7 52.6 S1.8 7.2 3.2 8.5 790 148 2i.O 1971 295.2 65.5 61.0 754 1.0 3.3 /.4 25.9 327 1/2 1972 315.8 71.4 60.9 73.2 6.7 35 9.3 ?6.9 50.0 14.0 1973 334.7 75.0 58.8 75.9 6.3 3.3 9.8 28.8 60.2 16.6 ~974 336.9 80.5 53.2 807 59 2.6 10.8 23.3 57,7 I/) 1975 387.9 84.7 69.0 87.1 7.1 3 5 13.2 29.6 660 27.6 19/a 470 B 94.4 91.8 96.4 105 5.1 25.0 395 69.8 382

,~.iu,’ee: raMp UFS 2, ~ irnate.i Owner,~hip’’I ftibI:c I), Si r,sr.ics by P,h~,’..fnv,.~1m’%7 1’z?~a,Lg~Bcd,’h,. cSc’~ nj..’ Ii:,:

In fiscal 196. Uic ~uppl~ of credit iICre:LSCJ n9a— Mw Inkral Rewt\e cliii ;IO~ punhase a large pin— ti~etodentzwd, so (hit the ini’rpased budg&’( drfa’U purton tilt dciii ill IL’L’,ll UJ75 tiut WT6. ‘OI;I~~~iIed agali did not ha~t We rise ufirt’ts Oil lIftErsi ra(e~ to the pn’~ou~fR’ fiscal \ Pals, iii act file t’cdeial and pi-i’ ate boriu~~iu~W liteli bUd bPCti f’~pec’ted I)\ lkWfl’CS ‘hurl Of tile toLil Oh!, aucIi:t~ ([phi di’uhii’d SOHIC aIiaIvSt,%. A,~a rt%uIt ol the large drclinc in lie ii, ~lit’ list N~ufRed \t’ar’. 1 lie ( 0\ rrniiu’ut (lrIit’it 1 pr\atc demand for credit in lEad l~75alit tia ‘TI— ~ ril:tIIIlv fiTt,LIICCII I,> hit’ flrl\ ‘Ac ~i’etor. wilL Iargc’i’ 1 cret~ed ‘upflJ’ O~ (‘rCdj( iii hS~ti 19,6. wp.~ard fl’CS~ pflIpnrIH)fl% of tiii’ (kbt lit’Id by (‘fl!ilfllt’rL’18 kinks, sure on iI,ter(’’t flttJc &lid iu,I riatcn;tlijt. t’t)r )I)riItion’~. flu’ %i~lil( ll(nl!}a,lk fiii’tnt’ial ij~titIitit)ii~. 1

Table VI Percentage Ownership of Federal Debt

ProporHon of Fede-al Debt Held By: - Por&qn Period Federal Mulual State and and Ending Reserve Comme’ciol Instirance Sav~nqs Local interna- OUter June: Banks Banks Individunls Companies Banks Co-porctons Gøverncnnntc tiopol Invc’stos

1965 15,4% 22,9% 27,8% 4.2% 2.2% 60% 9.5% 6.2% o.o% 1966 16.6 21.6 28.8 3.9 2.0 5.6 9 / 6,1 67 1967 I 8.6 22.1 28,1 3.6 1.7 4.4 9.4 5.9 7.7 1968 9.2 22.0 27.3 3.1 1.5 4.4 9.2 4.7 8.4 i9o9 20.1 206 28.7 3.0 1.3 41 9.8 4.1 8.2 ~97O 209 19.~ 29.7 2.6 L2 3.] 10.5 5.1 7.6 197] 22,2 20.7 25.5 2,4 1 I 25 8.B 1.1 5.8 1972 22.6 19.3 23.2 2.1 1.] 2.9 85 15.8 4.4 19/3 22.4 17.6 227 19 1.0 2.9 3.6 16.0 50 ~974 23.9 15.8 24.0 1.8 0.8 3.2 8.4 11.1 5.1 1975 21.8 17.8 22.5 1,8 09 34 7.6 17.0 7.1 T976 20.0 ~9 5 20,5 2.2 Ii 53 8.4 14.8 al

Suwc’ci ‘ahi, I) FS—~. Est marc.,! (h~nersh’ r Vub Ic DelL Sec us jes by Ii I’ ‘tv In e.t’,’’,’’ 75, rzj Ba 11”t i S’~‘‘~‘ni&- rI!‘ ii , p.

Page 3 The negligible impact of the 1975-76 Federal defi- $12-iG billion program like that recently proposed by cits on credit markets suggests that these deficits the new Administration for fiscal 1977, the current were primarily due to passive rather than active ele- thidget deficit will probably be larger than the $65.6 ments in the budget. Thus, increased Government billion fiscal 1976 deficit. borrowing due to the decline in economic activity tended to be offset by a concomitant reduction in If the private demand for credit remains sluggish private borrowing. For example, it has been esti- in 1977, as was the case during most of 1976, then mated that two-thirds of the budget deficit during this there will be little upward pressure on interest rates period was due to passive elements.16 as a result of the large amount of Government borrow- ing required to finance the 1977 deficit. On the other Large budget deficits such as those experienced in hai~d,if private borrowing increases rapidly in 1977, 1975 and 1976 will continue to be a matter of concern the large amount of Government borrowing will con- for the next few years. The projected deficit for fiscal tribute to strong upward pressure on interest rates. 1977 is $57.2 billion, somewhat lower than the fiscal Without a matching increase in the supply of credit, 1976 deficit, arid this is before any new tax cuts or such an increased demand will increase interest rates. spending programs which the new Administration Under these circumstances, the large Government may propose to include in this year’s budget. With a deficit co~aIdlead to the crowding-out effects which l6Carlson, “Large Federal Budget Deficits” p. 6. some feared would occur ill 1975-76.

Page 16