Now that the Reagan administration is starting to score substantial congressional victories in its efforts to slash the federal budget, even while lobbying vigorously for its tax-cut proposal, it would be remiss to overlook the third and, in many ways, most crucial component of the President's overall strategy for reducing inflation and revitalizing the US economy. That is monetary policy --money supply.
In his address to the nation in February, Mr. Reagan argued that "a successful program to achieve stable and moderate growth patterns in the money supply will keep both inflation and interest rates down and restore vigor to our financial institutions and markets." In zeroing in on money supply, the monetarist-bent Reagan approach is much tougher than previous policy, which sought sometimes to hold down interest rates rather than control growth of the money supply. Largely because of the congressionally mandated "independence" of the Federal Reserve System, however, monetary policy is to some degree outside the hands of Mr. Reagan --
The challenge for Mr. Reagan must be somehow to ensure that the Fed does not exceed its targeted money-supply "growth levels" for 1981, since to do so could undermine the administration's overall economic package. Yet the three presidents before Mr. Reagan -- Messrs. Johnson, Ford, and Carter --Fed's money supply policies at one time or other. Lyndon Johnson even found it necessary to fly a Fed chairman to his Texas ranch to apply the famous Johnson pressure. The fact is that, although the Fed just about met its money supply targets last year , it has failed to do so in three out of the past five years. And even in years when targets were met there were erratic roller-coaster spurts and declines in money growth.
All current indications point to a relatively close degree of cooperation between the white marble offices of the Fed down on Constitution Avenue and the White House. The President has gone out of his way to underscore the central's bank's continuing independence. Fed chairman Paul Volcker, whose term expires in late 1983, agrees with Mr. Reagan that ending inflation is the primary economic goal facing the US. Moreover, the Fed is committed to meeting its money supply targets for 1981, a goal enhanced by technical changes made by the Fed in October 1979. The central bank now sets figures for growth of monetary reserves, rather than seeking to control growth by setting figures for interest rates.
Two lines of action seem warranted in meshing fiscal and monetary policies:
* For the short range, the administration must internally keep the pressure on the Fed to meet its targets and hold to a "gradualist" decrease in the rate of growth of money supply. To that end, Mr. Reagan has promised that he will "consult regularly" with the central bank.
* For the long term, Congress should consider holding hearings on the whole knotty problem of Federal Reserve Board accountability. Surely the US would be ill served if the Fed were to be politicized in the sense of being made subservient to the administration in power at any given time. On the other hand , a legitimate (and tough) question arises as to whether there is now adequate accountability by the central bank.
In that regard, the Shadow Open Market Committee, a private group of business and university economists headed by Prof. Allan Meltzer of Carnegie-Mellon University of Rochester, recently campe up with some ideas worth considering.
The committee believes that the most crucial problem regarding the Fed today is not technical in nature (i.e., making improvements in reserve procedures, etc., although these are not overlooked) but political. Consequently it proposes that the Fed be required to choose a single target rate of money supply growth and then publicly announce their choice. If this figure were missed by more than one percentage point the Fed governors would have to submit their resignation to the president. If they wished, they could also submit an explanation of why the announced goal was missed.
Under the proposal, the president could either accept the explanation or dismiss the governor or governors. New governors would then be nominated by him subject to congressional approval for the regular 14-year term.
Whether workable or not, the proposals at least are a starting point for Congress in exploring the question of Fed accountability. In doing so, lawmakers might recall that when the Fed was created back in 1913 the US was on a gold standard, and most financial authorities assumed it would remain on such a standard (with its objective of long-range stability in the price structure) for the indefinite future. So "independence" as interpreted then, as analysts like Dr. Meltzer correctly note, was different from the more free-wheeling "independence" in today's environment of floating exchange rates.
Presidents, as Mr. Carter discovered last year, are subject to strict public judgment about the performance of the eco nomy. So is Congress. Why not the Fed?