President Jimmy Carter was up against it. “It” was high, rising, and seemingly intractable inflation. And by 1979 it seemed to be complicating, even blocking, every policy initiative.
Price measures were rising 13 percent a year, driven in part by the oil crisis (the second in a decade) that followed the early 1979 Iranian revolution in which Grand Ayatollah Khomeini replaced the US-supported shah. A gasoline shortage led to long lines and rationing, dominating the news. New budget programs were politically, even economically, nonstarters. The forceful effort to stabilize the dollar in late 1978 had not produced lasting results.
To put it mildly, the public was growing restive. The president retreated to Camp David. For more than a week he consulted with advisors, titans of business, politicians, teachers, clergy, labor leaders, and even some private citizens. Notably, not the Federal Reserve.
On July 15 he descended from the mountain and made a speech. I thought it was a good speech, rightly recognizing the sour and divisive mood in the country, its “crisis of confidence.” It came to be famous as the “malaise” speech. He never used that word but it encapsulated the message.
Days later he accepted the resignations of some cabinet secretaries including Michael Blumenthal at Treasury. Carter liked Bill Miller, who had been chairman of conglomerate Textron before succeeding Burns at the Fed less than two years earlier. So Miller became Treasury secretary.
That left a vacancy at the Fed. Given that the Fed chairman is often considered the most important economic policy official, that vacancy was not confidence building.
Two or three days later, Bill Miller called. Would I be willing to come to Washington and meet the president?
It was not a call I expected. I had never met the president. I had voted against Miller in Open Market Committee meetings. But, of course, I got on the shuttle.
When you’re cleaning out old files to write a memoir, long-forgotten things show up. I found a note scribbled on a prescription pad that listed three points I wanted to make to the president: I felt strongly about the independence of the Federal Reserve; the Fed would have to deal head-on with inflation; and I would advocate tighter policies than Miller had.
They were simple points. I followed that script in the Oval Office, even pointing a (friendly) finger at Miller, sitting nearby and still the Fed chairman. It was a short meeting, as it was often accurately described later, including by the president himself.
I got back on the plane and called Bob Kavesh and Larry Ritter, two of my closest friends, to join me for dinner at Parma, a new neighborhood Italian restaurant. “I just blew any chance of becoming Fed chair,” I told them.
That didn’t disappoint Barbara one bit. Increasingly suffering from her own health problems, including a complicated combination of diabetes and rheumatoid arthritis, she wanted to stay in New York, close to doctors, friends, and Jimmy (then living at home and studying at New York University).
The next day I got a call from the president himself. It was seven-thirty in the morning. I was still in bed. I managed to say yes, I would agree to become the chairman of the Federal Reserve Board. Later I wondered whether the early-rising Georgia peanut farmer would have called if he knew I was still in bed.
Barbara was understanding. She knew this was one job I couldn’t turn down. Her final verdict was succinct: “You go, I stay.” We agreed I would try to return on weekends.
Malaise may have been the mood of the country in 1979, but the governing process in Washington moved far more efficiently than it does today. Less than a week after my July 25 nomination I had a Senate hearing, days later I was unanimously confirmed, and on August 6 I was sworn in.
Due to a quirk in the Federal Reserve system, the chairman was paid just $57,500, much lower than the $110,000 I received as New York Fed president. I rented a $400-a-month one-bedroom apartment in easy walking distance from the Fed. The building was full of George Washington University students. I furnished the place—in effect, a dormitory room with a kitchen—with little more than a bed, table, and a couple of chairs. Janice, by this point living in nearby Northern Virginia and learning the world of hospitals and nursing, took to inviting me for a weekly dinner and agreed to do my laundry.
The debate in the White House over my appointment, which had essentially pitted the economists (who supported me) against the politicians (uneasy about naming an overly independent Fed chairman) was over. I could get to work with the board and the Federal Open Market Committee that I knew well, with a mutual sense of mission to salvage an economy nearing the end of its inflationary rope. The board’s new vice chairman was Fred Schultz, an investment banker from Florida with a talent for politics. He had been confirmed just weeks before I became chairman. He became an essential partner, running interference with members of Congress and taking on difficult assignments. I brought Jerry Corrigan down from New York to be my chief of staff.
Ten days into my term, and less than a month since the previous increase, the board took action to raise the discount rate half a percentage point, to 10 ½ percent, a record.
Market interest rates were already high by historical standards, but inflation was still higher, growing by then at an annual rate of close to 15 percent, the fastest ever in the United States during peacetime. The Fed staff, running their models and “regressions,” concluded that, of all things, a recession was likely, and soon.
The next time I led the board in voting to raise the discount rate, on September 18, it presented a problem of credibility. The vote was split 4-3. Three rate increases in little more than a month, without much to show for it and recession risks looming, was a little too much for some of my colleagues to swallow.
At first I saw little cause for concern. The three members who backed me—Fred Schultz, Henry Wallich, Philip Coldwell—could be counted on to maintain an anti-inflation crusade. So, in my view, I had a solid majority.
But the market saw it differently. In their eyes, this split vote was the latest sign that the Fed was losing its nerve and would fail to maintain a disciplined stance against inflation. We would flinch against further increases in interest rates even if the prevailing rates were still below the rising inflation rate. The dollar came under pressure and the price of gold hit a new record.
The Fed was losing credibility. Our long-established pattern of adjusting short-term market interest rates by small increments—either by means of a discount rate change or by direct intervention in the government securities market—tended to be too little, too late to influence expectations. We needed a new approach.
To have more direct impact, we could strictly limit growth in the reserves that commercial banks held at the Federal Reserve against their deposits. That would effectively curb growth in deposits and the overall money supply. Put simply, we would control the quantity of money (the money supply) rather than the price of money (interest rates). The widely quoted adage that inflation is a matter of “too much money chasing too few goods” promised a clear, if overly simplified, rationale.
I knew that a number of Reserve Bank presidents years earlier had been pushing for such a monetarist approach, emphasizing greater attention to the money supply. I myself, some years ago, had raised a question as to whether the Fed should pay more attention to growth in the money supply with an approach later labeled “practical monetarism” (in contrast with the more extreme and mechanistic monetarism that Milton Friedman had advocated).
Now, after years of compromise and flinching from a head-on attack on inflation, it was time to act—to send a convincing message to the markets and to the public. The dollar’s ties to gold, and to the Bretton Woods fixed exchange-rate system, were long gone. There was widespread understanding that the dollar’s value now depended on the Fed’s ability to control the money supply and end the inflationary process.
Then, as now, we could not escape the fact that price stability is the ultimate responsibility of the Federal Reserve—in my judgment of all central banks.
Before leaving for the IMF’s annual meeting in Belgrade, I charged two Fed officials—Peter Sternlight, who then ran the trading desk in New York, and Stephen Axilrod, who managed the execution of monetary policy in Washington—to prepare a new approach. It should be directed emphatically toward restraining the growth of money rather than toward setting some perceived appropriate level of interest rates.
Joining Bill Miller and Charlie Shultze, chairman of the Council of Economic Advisers, on a government plane to Belgrade, I filled them in on my thinking. They understood the need to reinforce our inflation-fighting credibility but urged caution in adopting such a radical change in approach. They recognized that interest rates might climb sharply higher and worried about the effects on economic growth.
Our trip included a short stopover in Hamburg at the request of German Chancellor Helmut Schmidt. I knew Schmidt, and his blunt manner, well from his days as finance minister. Generally sympathetic to the United States, he had become disenchanted with what he perceived as American policy inconsistencies and ineffectiveness, including, if not confined to, monetary affairs.
For almost an hour he harangued us about how waffling American policy makers had let inflation run amok and undermined confidence in the dollar and Europe’s efforts to restore exchange-rate stability.
I sat there quietly. There could be no more persuasive argument for why I had to act. I invited Bundesbank president Otmar Emminger, who had accompanied Schmidt and long been an interlocutor of mine, to fly with us to Belgrade.
I used the opportunity to hint at the new approach I was considering. Predictably, Emminger was supportive. I became impatient to get back home and to work. I stayed long enough to hear Arthur Burns deliver his Per Jacobsson Lecture, “The Anguish of Central Banking,” in which he (infamously) expressed doubt that central banks were even capable of controlling inflation anymore. I left Belgrade before the formal IMF proceedings were over, hoping but failing to escape notice in a nearly empty airport.
By Thursday, October 4, I reviewed the options with the board. Even the “doves” who had opposed our last discount-rate increase were broadly supportive, having been taken aback by the market’s violent reaction to the split vote. A special meeting of the Open Market Committee was scheduled for Saturday. Helped by the distraction of Pope John Paul II’s visit to Washington, there were no leaks. There were, however, plenty of rumors adding to the turmoil, including that I had resigned or died.
I have had the patience to read carefully only one Open Market Committee meeting transcript, but some years ago I did read this one. It misses the nuance and tone of voice. To an uninformed reader it would appear that I was reluctant about, even opposed to, the proposed program of targeting the money supply directly with the implicit loss of influence over interest rates. I was simply making sure that each member was aware of the risks and of the opposing views of key administrative officials, conscious of the potential recessionary force from sharply higher interest rates. President Carter, aware of those concerns, had also quite properly said to them that he would not intervene with his new appointee.
My objective, of course, was to achieve unanimity and forestall second-guessing and finger pointing. In that I succeeded. Late that Saturday afternoon, on short notice, the media were called from their homes or from their papal coverage. Joe Coyne, our Fed press officer and a good Catholic, convinced them that the pope would understand.
We aimed the whole range of Federal Reserve ammunition at the market: a full percentage point increase in the discount rate to 12 percent, a requirement that banks set aside more of their deposits as reserves, a call for an end to lending for “speculative” activities, and, the heart of the matter, a commitment to restrain growth in the money supply whatever the implications might be for interest rates.
We knew that the immediate market reaction would be higher short-term interest rates. The committee agreed to meet again if those rates rose beyond a tentatively set “upper limit.” We (or at least I) hoped that long-term rates would not rise, reflecting market expectations that we would succeed in bringing inflation down.
No such luck. Long-term rates mirrored the short-term rise. And the short rates soon reached our so-called upper limit. After some discussion, we didn’t intervene. Neither did we when subsequent upper limits, set in each meeting, were breached. The rate on three-month Treasury bills eventually exceeded 17 percent, the commercial bank prime lending rate peaked at 21.5 percent, and, most sensitively, mortgage rates surpassed 18 percent. Those rates had never been seen before in our financial history.
Perhaps more surprising: right into the new year there was no recession. The mood, and the continuing upward momentum of prices, was reflected at a lunch I had with a cross-section of small business owners and Arthur Levitt, then president of the American Stock Exchange. They listened patiently to my carefully polished analysis: times were tough, money was tight, but relief was on the way. Inflation would soon come down. A businessman sitting to my right was the first to respond. “That’s all fine, Mr. Chairman, but I have just arrived from a meeting with my union where I happily agreed to wage increases of 13 percent over each of the next three years.”
It was suggestive of the skeptical mood. But I have often wondered whether his firm remained in business.
There were, of course, many complaints. Farmers once surrounded the Fed’s Washington building with tractors. Home builders, forced to shut down, sent sawed-off two-by-fours with messages to the board. (I was intrigued by one that read: “Get the interest rates down, cut the money supply.”) Economists predictably squabbled. The monetarists, led by Milton Friedman, instead of claiming victory that the Fed was finally adopting a more monetarist approach, insisted we weren’t doing it just right, in a manner that somehow more painlessly could eliminate any negative effects on economic growth. Mainstream economists had the opposite complaint: whether we had sufficiently considered the risk of increasing unemployment, which in fact did not rise for months.
Community groups protested at our headquarters on more than one occasion. In April 1980 a group of about five hundred, led by Gale Cincotta of the National People’s Action Group, marched outside our building and demanded a meeting with me.
I told Joe Coyne to invite a couple of the leaders to my office to meet after the regular board meeting. It was a hot and rainy day, and when I got there I found more than a dozen people camped out in varying degrees of dishabille. For half an hour we exchanged views. I talked about the need to contain inflation; they asked for interest-rate breaks for community housing projects. I agreed that Fed staff would help explain our policies by attending their regional meetings. On that basis, we walked out to the steps of the Fed and Gale praised our willingness to meet and our agreement to stay in contact. Applause followed, all happily recorded on every evening TV broadcast. Sometimes you get lucky. (Staff members who attended subsequent meetings were aggressively heckled.)
Not all of the disagreements were resolved so harmoniously. By December 1980 the Fed insisted I agree to “personal security escort protection.” A year later an armed man somehow entered the Federal Reserve, threatening to take the board hostage. My speeches were occasionally interrupted by screaming protestors, once by rats let loose in the audience, typically organized by the far-right radical Lyndon LaRouche and his supporters.
In early 1980 the Federal Reserve, and more importantly President Carter, couldn’t show much progress. Inflation and interest rates remained sky high. The absence of recession and practically no increase in the already high unemployment rate were small comfort.
The president’s initial budget, some $16 billion in deficit and with no major cuts to social programs, was deemed unacceptable even to some members of his own party as interest rates surged. He decided to redo it and asked if I would join his staff in consulting with the Congress. This was not really any of my business as Fed chairman, but I did end up sitting in as an observer at the internal White House session where he agreed on the final cuts. One by one, tentative cuts were presented to him. Time and again he would agree to them, only to have a staff member demur, telling the president that one pressure group or another would object. In the end, the message of restraint was diluted. President Carter’s instincts, as I saw them, were more conservative than those of his staff and the Democratic Party.
The president had another request. He had the ability, enacted by the Congress years earlier in an effort to pressure President Nixon, to “trigger” credit controls. The Fed would then have the authority to administer those controls.
It was a transparently political ploy. We didn’t want to do it. Excessive credit wasn’t the problem. The president clearly felt he could help by providing political and moral support for our highly restrictive monetary policies. Adding credit controls to a package of budgetary and monetary restraint would forestall any doubts about our common purpose in fighting inflation and speeding a decline in interest rates.
In the circumstances we could hardly object. We quickly designed “controls” that we hoped would lack real teeth. Lending for auto or home purchases was exempt. Credit card lending wouldn’t be restrained until it reached the previous peak, which was unlikely to happen until the Christmas season, nine or ten months off. The remaining forms of consumer credit didn’t amount to much.
The president’s anti-inflation program of budget cuts and credit controls, designed to support Fed policy, was announced in a big East Room ceremony on the afternoon of March 14.
Within weeks, we began getting unanticipated reports. The money supply dropped sharply. There was scattered evidence that orders for manufactured goods were falling. The long-predicted recession seemed to have started.
The picture became clearer when we learned that the White House was being deluged by cut-up credit cards sent in by supportive citizens. “Mr. President, we are with you” was the refrain. The immediate consequence of so many Americans paying off their credit cards was a sharp drop in bank deposits and the money supply.
Given our commitment to target the money supply, we had to backpedal fast. Interest rates plunged. We eased the credit controls, such as they were, in June. The controls were lifted entirely in July and in August the economy and the money supply began a strong recovery. By late September we felt we had no choice but to tighten policy and to signal restraint by raising the discount rate to 11 percent from 10 percent. It was uncomfortably close to the presidential election. Mr. Carter couldn’t resist a mildly critical comment at a Philadelphia garden party, calling the Fed’s decision to focus on the money supply “ill-advised.”*
The National Bureau of Economics later placed that short-lived downturn on its widely respected list of recessions. To me, it should be labeled with an asterisk as an artificial construct. It was, for sure, another lesson, a serious lesson, of the unanticipated consequences that regulatory “controls,” even weak ones, could have on the economy.
As I look back, that mistake cost us six months. The delay in the attack on inflation certainly didn’t help President Carter’s campaign for a second term. To his credit, only once did he express concern about our tightening of policy.
By the beginning of 1981, with a new Republican president in office, we were back in the trenches, fighting to restrain monetary growth. The much predicted recession finally arrived in full force. But it was hard to see progress on the inflation front. Interest rates and the money supply, while increasing at a slower rate, remained stubbornly high. The Fed board remained determined to carry on.
There had been, of course, much speculation about President Ronald Reagan, a former Hollywood actor and California governor, and his new administration’s attitude toward economic policy. Arthur Burns, almost apoplectic, had urgently returned to Washington to warn me about a meeting he had attended where efforts were under way, supported by Milton Friedman, Walter Wriston, Bill Simon, and others, to rein in the Fed, not just in monetary policy but as an institution. More openly, there was another small group asked to consider a return to the gold standard in one form or another.
Against that background, I was more than a little concerned when I received a message that President Reagan would like to visit me at the Fed just days after the inauguration.
So far as I knew, apart from a visit by President Franklin Roosevelt at the dedication of the new building in 1937, it was unprecedented for a president to come to the Federal Reserve. Given the attitudes of some of his advisors toward the Fed, it would be sure to raise questions. I suggested it would be more appropriate for me to visit the White House, following the time-honored practice. Somehow, a strange compromise was arranged. We would meet in the Treasury with the new Treasury secretary, Donald Regan, and several advisors.
At the meeting I found myself sitting next to the new president, wondering what would happen when he opened the conversation.
“There’s good news that the gold price is way down. We may be getting inflation under control,” he said. I don’t kiss men, but I was tempted.
The president did raise a question or two he had received about the role of the Federal Reserve. But the conversation drifted off into my area of concern: the importance of getting the deficit under control.
There’s no doubt there were times over the next few years when the president, preparing for press conferences or otherwise, was urged by his staff to take on the Fed. He never did so publicly. He once explained to me that a professor at his small college in Illinois had impressed upon him the dangers of inflation. He understood the importance of our mission.
Reagan also made one important but little-recognized contribution to the fight against inflation. In August 1981 he fired thousands of striking air traffic controllers. While the strike was aimed at working conditions more than wages, the union defeat sent a powerful psychological message that there would be limits on wage demands.
Still, relationships with the Treasury were uncomfortable. Secretary Regan, the former Merrill Lynch & Co. chief executive officer, was not experienced in the ways of Washington. He had been saddled with a staff of strong-minded monetarists and supply siders, both highly critical of the Federal Reserve for their own reasons. Fortunately for me, they were even more critical of each other. The result was an absence of mutual trust. I avoided discussions of specific near-term policy action; Don didn’t welcome my “wisdom” on tactics with respect to budgetary or other financial policies. We had a common interest, but not always agreement, on matters of financial regulation.
There was a good deal of carping from Treasury officials, including Regan himself, about the Federal Reserve’s seeming inability to assure, week by week, confidence-building control of the money supply, something that we learned is technically impossible to do. At one point, I sent Don, an avid golfer, an elaborate panorama showing a golfer hitting into the rough, right or left, sometimes into a sand trap, but finally ending up with the ball in the hole after a par round. He didn’t appreciate the humor of the message.*
Almost from the start, the press reported grumblings about the Fed from the White House staff. But my occasional meetings with the president remained cordial. David Stockman, Reagan’s outspoken budget director, shared his anti-inflation instincts and regularly urged me to stick with it. Murray Weidenbaum, my former Treasury colleague, was understanding in his role as CEA chairman, as was his successor, Martin Feldstein.
From time to time, I faced highly skeptical, even hostile, questioning in congressional hearings. I didn’t take the threats of impeachment seriously. I knew I had defenders in Senate Banking Committee chairman William Proxmire, as well as certain members of the House Committee on Financial Services. My sense was that the Fed had a well of unspoken or even overt support from the public. There was a willingness to endure some near-term pain to conquer inflation. Even in those groups with the most at stake—farm groups, community activists, and home builders—there was understanding.
One rather dramatic occasion for me was reassuring. In January 1982 I was invited to address the annual meeting of the National Association of Home Builders in, of all places, Las Vegas. On my way to the meeting, I happened to run into a rather sour, unfriendly senator. “What are you doing here? The home builders will kill you.”
Well, maybe because I was a bit concerned by his comment, I was more eloquent than usual. I told them I knew they were suffering but that any letup in our inflation fight would mean all of the pain was for nothing. My message boiled down to the concluding words “Stick with us. Inflation and interest rates will come down. There are a lot of homes to be built.”
Standing ovation!
In May 1982 I received a particularly poignant one-page typewritten letter from a young man who introduced himself as a recent college graduate in a management training program at a small international bank. He said he’d been following my career closely, had read the recent magazine cover stories that described the sacrifices my family and I had been making, and wanted to lend his support and praise in this difficult time as he felt a “curiously strong sense of identification” with me. It was from my son, Jimmy. I responded in the same tone, thanking him for his gift of a crossword puzzle subscription and assuring him that I realized his admirable family upbringing was largely “a reflection of the maternal side.”
Impatience is a mild description of my mood in the spring of 1982. The unemployment rate reached a postwar record. Even though the inflation rate had dropped, the money supply remained well above target. I started thinking, “Fifteen percent interest rates and the money supply still high? Good God, come on.” But I didn’t see how we could overtly ease. We stuck with the program.
Finally, in the summer of 1982, the inflation rate was clearly falling well down into the single digits. The forward indicators seemed to be turning favorable. There were glimmers of slower growth in the money supply, which for technical reasons had become difficult to interpret. Excesses in bank lending to Latin American countries, especially to Mexico, were posing new risks to the financial system and needed urgent attention.
In July we started easing, lowering the discount rate three times in a four-week period. By mid-August the shift was heralded by Wall Street’s “Dr. Doom” (my old friend Henry Kaufman) as a sign that the worst was over. The markets took off.
By year’s end, the inflation rate had dropped all the way to 4 percent. Short-term interest rates were at half their peak. While the unemployment rate was still close to 10 percent, a recovery had clearly begun.
My Federal Reserve driver, Mr. Peña, provided the conclusive evidence of victory. On the way to speak at a big Washington dinner, I spotted a book on the front seat next to Mr. Peña with the title How to Live with Inflation.
Shocking that my own driver had no confidence in me! But, Mr. Peña explained, he’d only bought the book because its price had been marked down to $1.98 from $10.95. The crowd at the dinner appreciated the story.
After much discussion with the Federal Reserve Board, and a good deal of reluctance for fear of losing our hard-won credibility, the decision was taken to abandon priority attention to the money supply. The fact is that institutional developments, most importantly the end of interest-rate controls on bank deposits, had led to a revision of narrow money supply measurements and definitions. The so-called M1a, M1b, M2, and M3 too often diverged as banks took advantage of their new freedom to set deposit interest rates.
In remarks to the annual meeting of the Business Council on October 9, I expressed satisfaction that inflation had come under control. I also noted that the money supply signals were erratic and unreliable. At the same time, I emphasized that our basic anti-inflation policy hadn’t changed; it was a matter of tactics. The substantial declines in the inflation rate enabled us to credibly change tactics while maintaining policy. And then we could help to sustain the economic recovery.
By mid-1983 most signals were positive, but one personal issue remained unresolved. Would the chairman be reappointed? There was one strong vote against: Barbara Bahnson Volcker.
Her rheumatoid arthritis was getting worse. The family’s financial squeeze had led her to take on a part-time accounting job and, at one point, she rented out our back room. I made a family deal. If the president chose to reappoint me, I’d stay on for only half of the four-year term.
I asked to meet with the president and a bit of serendipity intervened.
A White House garden party was getting under way as I awaited President Reagan in the large hallway off the family quarters that overlooked the back lawn. Unexpectedly, Nancy Reagan appeared in a gorgeous red dress. We had never met. By nature I’m not forthcoming with compliments, but somehow the words spontaneously burst forth: “Mrs. Reagan, you look beautiful!”
After that, my meeting with the smiling president himself was short and amiable. My only plea was that he should decide soon; it was in our mutual interest to quell the inevitable speculation about my possible reappointment. My family deal was that in any event I would not serve a full term, perhaps a couple of years. The president recorded that understanding in his diary.
A few days later, as I was about to leave my New York apartment for a weekend of fishing, I got a call. The president said he would, in the next few minutes, announce my reappointment in his weekly radio broadcast. Barbara cried.
The Senate confirmation vote this time was not unanimous. It split symmetrically: eight right-wing Republicans and eight left-wing Democrats opposed my nomination. The eighty-four senators in the center approved.
I am sometimes asked whether the October 1979 Saturday night program was deliberately designed to produce a recession.
Deliberately designed? No.
Designed with a clear understanding that sooner or later the accelerating inflation process would culminate in a recession? Certainly, I myself was convinced that the longer the process continued, the greater the risk of a deep recession.
It is an interesting fact that the Fed staff had concluded the economy was at the edge of recession even before the Saturday package was announced. Every month for the rest of the year, the staff position was that the anticipated recession was beginning, even as interest rates rose to high double-digit levels.
I suppose if some Delphic oracle had whispered in my ear that our policy would result in interest rates of 20 percent or more, I might have packed my bags and headed home.
But that option wasn’t open. We had a message to deliver, a message to the public and to ourselves.
A relationship between money and the price level is one of the oldest propositions in economics, going back at least to the Scottish philosopher David Hume in the 1750s. Milton Friedman and his acolytes had some success in impressing in the public mind an (overly) simple proposition: “Inflation is always and everywhere a monetary phenomenon.”
The simplicity of that thesis helped provide a basis for presenting the new approach to the American public.
At the same time, that approach enforced upon the Federal Reserve an internal discipline that had been lacking: we could not back away from our newfound emphasis on restraining the growth in the money supply without risking a damaging loss of credibility that, once lost, would be hard to restore. To overdramatize a bit, we were doomed to follow through. We were “lashed to the mast” in pursuit of price stability.
Did I realize at the time how high interest rates might go before we could claim success? No. From today’s vantage point, was there a better path? Not to my knowledge—not then or now.
As this memoir makes clear, the Federal Reserve must have and always will have contacts with the administration in power. Some coordination in international affairs is imperative given the overlapping responsibilities with respect to exchange rates and regulation. Sweeping use of “emergency” and “implied” authority requires consultation if for no other reason than to reinforce the effectiveness of the action. But that needs to take place in the context of the Federal Reserve’s independence to set monetary policy.
That was challenged only once in my direct experience, in the summer of 1984. I was summoned to a meeting with President Reagan at the White House. Strangely, it didn’t take place in the Oval Office, but in the more informal library. As I arrived, the president, sitting there with Chief of Staff Jim Baker, seemed a bit uncomfortable. He didn’t say a word. Instead, Baker delivered a message: “The president is ordering you not to raise interest rates before the election.”
I was stunned. Not only was the president clearly overstepping his authority by giving an order to the Fed, but also it was disconcerting because I wasn’t planning tighter monetary policy at the time. In the aftermath of Continental Illinois’s collapse (described in the next chapter), market interest rates had risen and I thought the FOMC might need to calm the market by easing a bit.
What to say? What to do?
I walked out without saying a word.
I later surmised that the library location had been chosen because, unlike the Oval Office, it probably lacked a taping system. The meeting would go unrecorded. If I repeated the incident to the other members of the Federal Reserve Board or to the FOMC—or to Senator Proxmire, as I had promised to do if such a situation arose—the story would have inevitably leaked to nobody’s benefit. How could I explain that I was ordered not to do something that at the time I had no intention of doing?
As I considered the incident later, I thought that it was not precisely the right time for a short lecture on the constitutional authority of the Congress to oversee the Federal Reserve and the deliberate insulation of the Fed from direction by the executive branch.
The president’s silence, his apparent discomfort, and the meeting locale made me quite sure the White House would keep quiet. It was a matter to be kept between me and Catherine Mallardi, the longtime faithful assistant to Federal Reserve chairmen.
But it was a striking reminder about the pressure that politics can exert on the Fed as elections approach. And it wasn’t the last I would see of Jim Baker.
* Years later, on a fishing trip with Carter, I asked him if he thought Federal Reserve monetary policy had cost him the 1980 election, which he lost to Ronald Reagan. A wry smile spread over his face as he said, “I think there were a few other factors as well.” I have become a strong admirer of the man.
* Several years later, when Regan was White House chief of staff, he tried to persuade me to leave the Fed to succeed Bank of America’s Tom Clausen as president of the World Bank. New York Congressman Barber Conable later took the role instead.