STABILI PROGRA ECONOMIC STABILIZATION PROGRAM WASHINGTON, D.C. 20508 Wednesday, March 6, 1974 PREPARED STATEMENT OF DR. JOHN T. DUNLOP DIRECTOR OF THE COST OF LIVING COUNCIL BEFORE THE HOUSE BANKING AND CURRENCY COMMITTEE ON THE ADMINISTRATION'S PROPOSALS FOR THE FUTURE OF ECONOMIC CONTROLS Mr. Chairman and Members of the Committee: I appreciate the opportunity this morning to present the Administration's proposals for the future of economic controls to this Committee and to answer questions on those proposals. As you know, Secretary Shultz and I presented the recommendations on February 6th before the Subcommittee on Production and Stabilization of the Senate Committee on Banking, Housing and Urban Affairs; I also testified before the Joint Economic Committee on February 19, 1974. Since the proposals were detailed before those Committees, it may be appropriate to limit myself today to some general introductory remarks based on questions which have been raised since our earlier analyses and recommendations. I The inflation in the prices of primary commodities in 1973-74 has been world wide, unexpected and beyond the range of previous experience. Ferrous scrap, essential to various branches of steel production, sold for $30 to -2 $40 a ton a year ago and today sells for $115 to $130 a ton. The cash price of No. 1 Hard Red Winter Wheat at Kansas City on February 25, 1974 was $6.19 a bushel, the highest price recorded. Prior to 1972, the highest price was $2.97 in December 1947. Cotton prices at Memphis reached 92.75 cents a pound last September; they are still in the 70-75 cent range compared to an average of less than 35 cents in 1972 and the years of the preceding decade. The rise in world crude oil prices needs no statistical citation. Thus, the full range of primary commodities feed grains, fibers, metals and energy year. - have reflected a virulent price inflation this past - The basic explanation for these unprecedented price surges consists of a number of factors the simultaneous boom in the advanced industrial countries during 1973; the rapid rate of expansion in the last half of 1972 and early 1973 here and abroad; the decline in agricultural output in several countries including the 6 percent decline in gross farm product in the United States; the oil embargo; and the dollar devaluations which further raised dollar prices of imports and made our exports more attractive. During the past 13 months this country has learned as never before how closely our economy is related to those of the rest of the world. In this difficult economic setting, wage and price controls cannot be a powerful tool to constrain domestic inflation. We have sought to use controls during this period to contribute to five major objectives consonant with economic expansion and higher employment levels: (1) To allow the passthrough of the costs of imports that are absolutely necessary to the domestic economy, as in the case of imported -3 oil, and to allow domestic prices to be high enough so that a serious drain of additional exports to world markets would not create business hardship and unemployment. Most importantly, at the same time we have sought to protect the American consumer by providing for no more than a dollar-fordollar passthrough of imported costs and have allowed prices of domestic products like aluminum and copper to rise gradually toward world levels only when necessary to preserve supply. (2) To constrain price increases at finished goods levels from the large cost increases derived from the primary price explosions. Such constraint is achieved through the devices of prenotification, labor productivity offsets, strict accounting of costs actually incurred (not anticipated costs), and in some cases further postponement or denial of price increases otherwise cost justified that are found to be unreasonably inconsistent with the goals of the stabilization program. (3) To constrain the impact of these price increases on wages by programs to improve collective bargaining and to moderate wage increases while recognizing the need to provide for equitable adjustments in individual cases. (4) To use all available means to modify government and private policies to increase supply and productivity. basis. (5) To pursue the policy of gradual decontrol on a sector-by-sector Any dispassionate observer in the economic environment of 1973 and 1974 with these large world wide primary price increases, will agree that wage and price controls can have only very limited impact to restrain -4 inflation and that there are risks that controls will effect substantial economic damage. It is my judgment that in this difficult and complex economic setting the Economic Stabilization Program has made an incremental contribution to price and wage restraint. Nonetheless, the authority for mandatory controls should, with the exception of a few sectors, be allowed to lapse after April 30, 1974. As you know, the health sector is one for which the Administration recommends continued mandatory controls. In addition to the rationale presented in the testimony, on page 19, I have submitted for the Committee's consideration a separate and more detailed statement regarding the justification and necessity to continue controls in the health sector. II In any appraisal of wage and price controls it is essential, as my detailed testimony sets forth on p. 39, to avoid two extreme positions that are often advanced. One view is that controls can do no good, can only do harm, can make no contribution to the restraint of inflation, and that controls are an entirely unwarranted interference with the "free market." The other view is that direct controls are a powerful and ready tool in the fight against inflation which should be a permanent and continuing part of the government arsenal. In my judgment, neither view is supportable by experience. Wage and price controls can make an incremental contribution to price stability or may cause adverse effects on production, depending on the profile of the inflation and the way in which controls are designed and administered. Moreover, short-term and longer-term consequences of controls -5 should be distinguished. The consequences of controls, for me, are a pragmatic and quantative matter. For the past 13 months, the evidence and conclusions as to the results of the controls program have been collected and analyzed and are presented on pp. 17-35 of the detailed testimony. III The first half of the year 1974 gives evidence of being characterized by severe inflationary pressures from the same fundamental forces that characterized 1973, except that there is generally expected to develop less pressure on capacity as the year develops, save in certain industries where long-run supplies continue to be short. The table on page A-159 of the testimony shows a number of econometric projections of the GNP deflation by quarters for 1974, generally with declining price increases. These projections, in most cases, were based on the assumptions that controls will lapse on April 30, 1974. The economic environment of 1974 will require in many industries and within many firms very considerable readjustments to substantially higher energy prices, temporarily higher and in some instances permanently higher raw materials and feedstock costs and rapid variations in demand for products. For example, the automobile industry must adjust to the higher demand for small cars and the relative drop in the demand for large cars; the plastics industry faces acute readjustments with permanently higher costs of feedstock more than likely; a number of industries face adjustments toward or away from low-end products, depending on demand and capacity conditions; large adjustments in transportation costs require major reviews in many sectors; long term capacity decisions are required in many industries. International markets also involve considerable uncertainty and change. |