A History of the Federal Reserve, Volume 2

by Allan H. Meltzer

  Burns had no problem finding support in the FOMC for more expansive policy. There was not unanimity, but he had sufficient support for increased money growth to get agreement.

  The president was not satisfied. At a meeting with the president, Burns complained about public pressure (White House tapes, tape 1480, November 24, 1971). He was sure he knew the source. He gave the president the commitment he wanted.

  Burns: There is a campaign on to write me letters to urge more expansion. I will make good on my promises.

  Nixon: I have no doubt about it. I just want to be sure I’m not misreading you.

  Burns: Burns does not forget.

  Nixon: I’ll keep them off your back.55

  At the November 14 FOMC meeting, reports and staff continued to express optimism, but the unemployment rate did not change. The staff expected slow money growth to end; their forecast called for 7 and 8 percent growth for M1 and M2 in first quarter 1972.

  Maisel described the debate on current policy as “one of the most protracted that there had been” and “the greatest split there had ever been between the presidents and the Board” (diary, December 15, 1971, 10–11). Burns told the members that “the System was getting a good deal of criticism on the fear that the monetary policy appeared to be inconsistent with the New Economic Policy. If one used the aggregates as a measure of monetary policy, he said that people in the administration, perhaps the President too [sic], had raised questions with him as to whether the System had been trying to offset the New Economic Policy which obviously required that demand rise” (ibid., 10). He urged them to state that their goal for M 1 growth was 6 to 7 percent.

  The division was about as before. Presidents Hayes, Kimbrel, and Clay wanted a more restrictive policy. Mayo and Morris were somewhat more expansive. Among Board members, Mitchell, Daane, and Burns “wanted a very aggressive move. . . . Robertson and I [Maisel] went along and Brimmer dragged his heels only slightly” (ibid., 11).

  The instructions to the manager were very explicit. The Committee voted several times, once to set upper and lower bounds on the federal funds rate, 3.75 to 4.62. Then the committee voted on the desired money growth rate, 5 percent for December and January, and it instructed the manager to reduce the funds rate if money growth fell below the target. Each vote was split, but the final vote was unanimous.56 The funds rate dropped to a 3.5 percent average for January; money growth remained low in December but rose to a 10 percent annual rate in January.

  55. The president continued to express concern, and Burns tried to reassure him. In a letter, he described his policy by quoting his recent public statement. “The System will provide adequate reserves to finance a vigorous, but sustainable expansion” (letter, Burns to President, Burns papers, Box B_N1, November 24, 1971, 2).

  56. Maisel (diary, December 10, 1971, 8) reports on a reduction in the discount rate to 4.5 percent effective December 13 at three reserve banks. By December 24, the 4.5 percent rate became uniform.

  Burns met with the president and George Shultz on December 22. The president again brought up money growth. Burns explained that he had had trouble with the reserve bank presidents. “I had difficulty at the last meeting. I kept them there until four o’clock to get what I want” (White House tapes, conversation 640-3, tape 1588, December 22, 1971).

  Nixon: “You’re independent (laughter), independent (laughter). Get it up! I don’t want any more angry letters from people. . . . The whole point is, get it up!” (ibid.).

  After Burns left, the president remarked to George Shultz: “He made his commitment. You heard it again” (ibid.). Shultz pointed out that the FOMC had voted to increase the money growth rate and the reported growth rate rose the previous week, but it could have been random fluctuation.57

  The president believed that Burns had committed to an expansive monetary policy that would achieve strong growth and lower the unemployment rate. Burns, on his side, worked to get higher money growth. Instead of concentrating only on interest rates, the account manager sent the FOMC members his recommendation that the FOMC suspend until the next meeting the lower bound on interest rates charged on repurchase agreements so that he could supply more reserves (Holland to FOMC presidents, Board Records, December 22, 1971). The FOMC voted nine to one to suspend the floor on the rate. Governor Robertson objected that the manager should use open market operations, not repurchase agreements. In 1972, the FOMC changed to require bidding for repurchase agreements, so the rate became market determined.

  The FOMC meetings in 1972 became the subject of charges and claims about Burns’s efforts to expand money growth to help President Nixon’s campaign for reelection. Sanford Rose (1974, 186, 188) made two shocking charges: (1) “A majority of the FOMC recognized the need for a turn to a more restrictive monetary policy in 1972, but Burns held out for continued stimulus, arguing that the Fed should do nothing that could snag the ongoing recovery or cause interest rates to rise any more rapidly than they already were rising”; (2) Burns left an FOMC meeting for an hour. When he returned, he told the committee, “I have just talked to the White House.” The implication was that the FOMC adopted an easier policy out of concern for possible retaliation by “the White House” against Federal Reserve independence.

  57. The president was not the only one receiving angry letters about money. Milton Friedman wrote to Burns: “What in God’s name is happening” (letter, Friedman to Burns, Burns papers, Box B_K12, December 13, 1971). Friedman compared money growth to experience in 1959 and found “a far sharper slowdown . . . than in 1959” (ibid.). On his computation M1 growth averaged 0.4 percent for the past four months, down from 10.8 percent from January to August.

  The minutes that later became available show that the first, more general, charge is false. Although some members dissented at times, a majority never opposed the policy. The second, more specific, charge is not only implausible, everyone at the meeting has denied it.58 Wooley (1984, 161) interviewed almost all FOMC members. They said “such a blatant tactic would have been strongly repudiated.” My interviews confirm this result, as did Abrams (2006) and Governor John Sheehan. No one to whom I spoke that was present at the meeting recalled the incident. All denied it occurred. Sheehan (2002, 14) pointed out that the Board was dominated by Democrats. “I never in monetary policy observed anyone voting because he was a liberal Democrat or a conservative Republican. . . . Every time that Burns went up to Capital Hill, Proxmire would beat up on him, that you’re not expanding the money supply enough.”

  Wooley (1995, 8) returned to the issue after the Nixon, Burns, Haldeman, and Ehrlichman papers became available. His new conclusion was that “Rose was much closer to the truth than Fed officials wanted to admit or than many scholars believed.” This conclusion is also contentious. Others who have studied the period concluded that Burns, and many others, accepted that there was ample slack in the economy. The unemployment rate remained at 5.6 percent as late as October 1972. The standard presumption was that full employment would not be reached until the unemployment rate was about 4 percent (Matusow, 1998, 187–90; Wells, 1994, 99–101). Wells quotes Walter Heller and Herbert Stein as favoring expansive policy because of the distance from full employment. Wooley (1984, 168) lists several prominent economists who usually advised the Democrats. Until August 1972, none favored more restrictive policies. And he quotes leading Democratic members of Congress as favoring “fairly rapid money growth” (ibid., 175). As late as July, the Joint Economic Committee warned the Federal Reserve not to tighten its policy (ibid., 176).

  58. Issues about Burns’s role continue. Joseph Burns, a son, responded to criticism of his father in a letter to the Wall Street Journal. “In hindsight, there is little question that monetary policy in 1972 was expansionary, but the evidence strongly contradicts the assertion that Arthur Burns manipulated it to support Nixon’s re-election campaign” (Burns, 2004, A15). The first part of the quoted statement is true; regrettably the second part is at best ambiguous. The issue arose at the B
oard meeting in 1978 after a New York Times article claimed that Burns aided President Nixon’s reelection. The Times asked for early release of the 1972 transcript. Burns opposed but said that he would agree to release it to the president if asked by the president. He then denied that the record contained any matters of personal concern. “There’s nothing in that record that would concern me for one moment. . . . [T]he Chairman’s record in 1972 was an honorable record” (Burns papers, tape 6, August 16, 1977, 22).

  Both positions have support. Ample evidence cited above supports the claim that President Nixon urged Burns to follow a very expansive policy and that Burns agreed to do it. Evidence also suggests strongly that many economists and politicians believed that the economy was far from full employment, and they wanted to reduce unemployment using highly expansive policies. Much of the previous literature neglects the fact that typically the FOMC voted unanimously. There were rarely more than three dissenting votes. At several meetings, including the critical meetings in January and February 1972, Hayes (New York) made a strong case for less expansive policy. He never drew more than two additional votes. Burns’s policy drew support from such independent-minded Board members as George Mitchell, Sherman Maisel, and Andrew Brimmer, all appointed by Presidents Kennedy and Johnson. And Governor J. L. Robertson (one of the most independent members, initially appointed by President Truman) did not dissent until September, long after the economy had strengthened.

  Burns was able to get a majority vote of the FOMC because he could appeal to beliefs that considerable resources were idle, that inflation would be held back by price controls, and that their principal mandate was to contribute to full employment. This was compatible with service to the president’s reelection campaign. There is no doubt that he urged an easier policy in January 1972 after his discussions with President Nixon. He cited the unemployment rate and compared Treasury bill rates in previous periods of unemployment to conclude that bill rates were high (FOMC Minutes, January 11, 1972, 64). Most members agreed. Even Hayes favored 6 to 8 percent growth in M 1 for the next two months (ibid., 69).

  Based on the FOMC’s usual measures of policy thrust, monetary policy tightened in 1972. The federal funds rate reached a monthly average low in February, 3.29 percent; by June it was 4.46, and by October and November it was just above 5 percent. Reported inflation (under controls) for the most recent twelve months rose only from 3.3 percent in January to 3.45 percent in November, so the real federal funds rate ranged from zero to one percent. The Society of Professional Forecasters put the year-ahead increase in the deflator between 3.4 and 3.7 percent, about the same as before price controls. Free reserves fell from $152 million in January to −$300 million in October–November. Twelve-month average growth of base money, however, rose from 7 percent in January to 8.4 percent in November. The November rate of increase was the highest annual rate since 1946. It was soon exceeded. Twelve-month growth of M 1 rose from 6.5 percent in January to 7.8 percent in November.

  The FOMC divided again. It did not readily accept Burns’s choice of directive. Many wanted less expansive reserve growth than he did, and some objected to the shift from money market indicators to reserve growth. After a break, during which Burns and some staff redrafted the proposed directive, the committee reached agreement on projected reserve growth of 20 to 25 percent from December to January with a floor of 3 percent to the federal funds rate. Monetary base growth from December to January rose from 2 percent to 11.5 percent at annualized rates, then fell back to 7.4 percent in February. As is often the case, the aggregates and the money market measures have different implications about the direction of policy. This time, however, the FOMC gave more attention to the monetary aggregates. At its January 11 meeting, the FOMC voted nine to three to “promote the degree of ease in bank reserve and money market conditions essential to greater growth in monetary aggregates over the months ahead” (FOMC Minutes, January 11, 1972, 95; emphasis added). Hayes, Brimmer, and Kimbrel (Atlanta) dissented. Hayes’s and Brimmer’s dissents made clear that they opposed reference to a reserve target not to the money growth decision. Only Kimbrel objected to “pushing short-term rates down to unsustainably low levels” (ibid., 96).

  Responding to administration pressures to “get it up,” Burns advanced the date for the January meeting by a week. Time was critical. Most studies suggested a lag of six to nine months from the start of monetary ease to the response of output, and President Nixon had said that February was the cutoff point. To stimulate the economy and reduce unemployment no later than the third quarter, monetary growth had to move up substantially from one percent M1 growth in fourth quarter 1971. M2 had increased nearly 8 percent, and interest rates had declined, but the president watched M 1 , and Burns wanted it to increase.

  The staff had accurately forecast slow M1 growth at the end of 1971. They now forecast a reversal, 10 percent M1 growth in the first quarter with unchanged money market conditions and a 5.4 percent unemployment rate in the fourth quarter. Both forecasts proved accurate, although money market conditions eased in the winter.

  In late January, the president met with the Quadriad. Burns described his efforts and spoke about opposition from Hayes especially but Brimmer also.59 The president sent him a letter, marked “eyes only,” commending Burns’s efforts to increase money growth and promising to appoint a new member, to replace Maisel, who “will follow your leadership” (letter, Nixon to Burns, Burns papers, Box B_N1, January 28, 1972, 1). The president then expressed his “absolute confidence” in Burns’s pledge and Burns’s “absolute assurance that the money supply will move adequately to fuel an expanding economy in 1972” (ibid.).60

  59. The president supported Burns’s criticisms of Hayes. In language reminiscent of Morgenthau’s in the 1930s, he concluded that the bankers were “timid,” reluctant to lend and wanted higher, not lower, interest rates, and that Hayes would represent their viewpoint in opposition to Burns (letter, Nixon to Burns, Burns papers, Box B_N1, January 28, 1972).

  Then came the threat. “What could happen out of all of this is that a major attack on the independence of the Fed will eventually develop. I do not want this to happen—particularly I do not want it to happen when the Chairman of the Fed is a man in whom I have such enormous confidence and for whose economic advice I have such great respect” (ibid., 3).

  Despite his annoyance, and possible anger, Burns replied a few days later. “I have read and reread your recent letter. I share your basic thought, and I am confident that monetary policy will promote rather than impede economic expansion this year” (Burns to the president, Burns papers, Box B_N1, February 3, 1972, 1). The rest of the letter criticized the president’s budget message because there was not enough stimulus.61

  President Nixon’s interest in policy actions continued for a few months. In mid-February, he described the economy as “in fairly good shape” but he wanted “to do everything to help the expansion” (Ehrlichman notes, February 14, 1972; emphasis in the original). Although money growth had increased, the president continued to be annoyed by Burns. He accused him of “putting himself on all sides,” telling Congress that the deficit was too high and telling the president to increase fiscal stimulus (ibid.).62 When Burns joined the meeting, he assured the president that there was no reason for complaint. The money “supply was growing and interest rates had fallen” (ibid.). The president asked about Burns’s problems with Alfred Hayes. Burns reassured him.63

  With real growth reported in the minutes at 9.5, 5.5, and 8.5 percent in the first three quarters and revised real growth at 9.1, 8, and 4.2 percent, the unemployment rate declined slowly from 6 percent in December 1971 to 5.5 percent in September 1972. President Nixon asked about money growth less often.

  60. Burns wrote at the end: “Absolute assurance! What nonsense! No answer to be made to this letter. It’s outrageous” (letter, Nixon to Burns, Burns papers, Box B_N1, January 28, 1972, 5).

  61. By mid-year M 1 and M2 had increased 8 and 11 percent respective
ly. In testimony to the Joint Economic Committee, Stein lauded monetary policy.

  62. The president decided to have no more Quadriad meetings “for AB [Arthur Burns] to lecture others” (Ehrlichman notes, February 14, 1972). President Nixon’s relation with Burns went up and down throughout Burns’s tenure. Burns often lectured the president on policy and politics, sometimes at length.

  63. Sheehan (2002, 23) reports that Hayes had little influence. “Burns despised him.” At a meeting later that day, the president told Ehrlichman that he wanted weekly reports from each cabinet member showing the spending they authorized to stimulate the economy.

  In September, Burns told the president that M 1 growth averaged 8 percent so far that year and he “promised” that it would remain expansive until November. Interest rates had remained “level, below August 1971” values (Ehrlichman notes, September 7, 1972).

  Once the election was over, the president had little interest in monetary policy. He had won decisively. The benefits of expansion helped; the costs were in the future. He shifted attention to the budget, impounding spending on many programs. Also in January 1973, the administration began phase 3 of the controls program despite the 5 percent increase in the GNP deflator for third and fourth quarters 1972.64 Large increases in prices, especially food prices, began in the winter of 1973 and made phase 3 unpopular. But monetary stimulus in 1972 and annual base money growth of 9 percent in the first half of 1973 added to the problem.65 By March-April, the president considered alternatives, including a new freeze of prices and wages. Shultz warned that there was no longer much excess capacity, so it would not work as well as phase 1. In April, he told the president that “Burns did the job before the election, and we’re paying some price now” (Ehrlichman notes, April 5, 1973). Burns, for his part, believed that firms and unions expected inflation to continue, so money growth had to remain high (Wells, 1994, 99). Incomes policy had to change these anticipations.