To all the doubters who though they would relent, the members of the Fed have said in essence: We mean it. We're going to be extra tough. In doing so, the Federal Reserve Board has confounded many market watchers, who believed an ease in monetary policy was imminent.
Releasing a midyear report to Congress, Fed chairman Paul A. Volcker told House and Senate committees that fourt-quarter growth targets have been lowered for M-1B, a closely watched measure of money. And he said the target range for next year will be a bit lower than this year's.
"Curbing inflation will require persistent restraint on the growth of money and credit," said Mr. Volcker. "An attempt to escape from high interest rates and strains on financial markets and institutions by abandoning that restraint would be self-defeating."
Chairman Volcker has been repeating this theme for months. But over the past few weeks, many economists and brokers had begun to think economic conditions presaged a change in tune.
"This destroys the illusions that Wall Street had been building," says Monte Gordon, director of research for Dreyfus Corporation. "What had been building was a flicker of hope that the Fed was going to ease."
These "illusions" sprang from the fact that M-1B growth has recently been below its target range. Optimists began to think some of the Fed's day-to-day moves reflected a change of heart.
"They were beginning to see what they wanted to see," says Mr. Gordon.
But earlier this month, the Fed's Open Market Committee (OMC) voted to hang tough. The midyear report is the first official announcement of that policy.
The OMC agreed to aim M-1B (shift- adjusted) near the lower end of its 3.5 to 6 percent target range for the rest of 1981. It decided to publish a single M-1 figure next year, equivalent to M-1B. M-1's 1982 targeted growth range was set at 2.5 to 5.5 percent.
Congressional reaction was mixed. Members of the House Banking Committee, after hearing Mr. Volcker testify, complained about high interest rates and the demise of small business.. Henry Gonzalez (D) of Texas called for the resignation of the entire Federal Reserve Board.
The Senate Banking Committee was more respectful.
"I feel we are experiencing a tremendous amount of demagoguery," said chairman Jake Garn (R) of Utah, commenting on his demonstrative House colleagues.
Still, Volcker was sharply questioned about the effect of his continued tough stance on interest rates, already at record "real" levels.
Volcker reiterated his belief that interest rates should follow the inflation rate downward, though he said, "I think it's too much to expect that relationship to follow week by week or month by month."
Some don't think the relationship will follow at all.
"I'm revising my interest rate predictions up for the rest of the year," says David Jones, chief economist at Aubrey G. Lanston. "Essentially, we're going to have monetary policy that's too tight and fiscal policy that's too loose."
Mr. Jones says the Fed only pays attention to bad news. When the money supply shows and unexpected buldge, as it did last April, the Fed slams the window on money growth. But when the money supply shows an unexpected shortfall , says Jones, the Open Market Committee pretends nothing has happened and doesn't ease up.
Critics also claim the Fed's policy slaps the little guy around while leaving the big borrower untouched.
"It's gotten to the point were small business can't survive," exclaims Mike Sumichrast, chief economist of the National Association of Home Builders.
"Merger-mania" has put a new twist on this longstanding complaint. Why can Mobil raise $5 billion in a day, while thousands of auto dealers go out of business because they can't afford to finance their inventory?
"These people are more willing to pay the interest rate than other people," said Volcker, responding to the question. But he admitted "there are aspects of this that cause me concern."
Volcker said pressures on financial markets could be relieved by actions other than monetary policy. Congress, he said, should continue its efforts to corral government spending.
"There is a compelling logic, from an overall economic view, in looking toward a sense of greater caution and restraint in both wage and pricing behavior," he said.
Claiming we are at a critical point in the fight of inflation, Volcker said "the hardest part of the job faces us now and in the months immediately ahead."
But for those institutions buffeted by high interest rates, the relief of lower inflation seems a long way away.
"I used to be on the board of two S & Ls," says Mr. Sumichrast, "but I resigned. It was no fun anymore."