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U.S. House of Representatives,
Committee on Banking and Financial Services,
Washington, DC.

    The committee met, pursuant to call, at 11:00 a.m., in room 2128, Rayburn House Office Building, Hon. James A. Leach, [chairman of the committee], presiding.

    Present: Chairman Leach; Representatives McCollum, Roukema, Bachus, Castle, Royce, Lucas, Kelly, Paul, Cook, Riley, Ryan, Ose, Sweeney, Biggert, Terry, Green, Toomey, LaFalce, Vento, Frank, Kanjorski, Waters, Sanders, C. Maloney of New York, Watt, Bentsen, J. Maloney of Connecticut, Hooley, Sherman, Sandlin, Lee, Goode, Mascara, Inslee, Schakowsky, Moore, and Capuano.

    Chairman LEACH. The committee meets today to receive the Semiannual Report of the Board of Governors of the Federal Reserve System on the Conduct of Monetary Policy and the State of the Economy, as is mandated in the Full Employment and Balanced Growth Act of 1978.

    Chairman Greenspan, welcome back to the House Banking Committee. To ensure that all Members have an opportunity to question Chairman Greenspan, it is the intention of the Chair to limit opening statements to the Chairman and Ranking Member of the Full Committee, as well as the Subcommittee on Domestic and International Monetary Policy. All other opening statements will be included for the record.
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    This is our second Humphrey-Hawkins hearing this year and the last such hearing mandated under current law. As Members may recall, the Semiannual Report is one of several thousand reports, including approximately one-hundred under the jurisdiction of this committee, which are scheduled to sunset on December 31 under broad legislation approved by Congress four years ago.

    As Chairman of the committee of jurisdiction, let me emphasize that I believe these Humphrey-Hawkins hearings are the most important oversight hearings conducted by the Congress. The Federal Reserve System has become, in effect, a fourth branch of Government, and the reports to this committee and its Senate counterpart by the Chairman of the Fed have become the chief mechanism for democratic review of the monetary policy decisions of the Federal Reserve.

    To discontinue these oversight hearings would be congressionally negligent. The Fed should not be de-democratized.

    Thus, it is my intention to move forward with legislation immediately after the August break to require continued semiannual Humphrey-Hawkins hearings by the Federal Reserve on the Conduct of Monetary Policy. In addition, certain selected other reports by Federal banking, housing, and international financing agencies will be reauthorized.

    We meet today, at a propitious moment, to review the Fed's conduct of monetary policy. The current economic expansion is now one-hundred months old. It is already the longest peacetime expansion in American history and in six months could become the longest expansion ever recorded anywhere. Despite robust domestic demand, core inflation is running into a 34-year low.
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    Over the past several years, the economy has performed in a way that has defied historical precedents and modern academic theory. Perhaps the most significant macro-economic views of the last generation is that the Fed appears to have concluded that we are in an economic terra incognita and that the productivity gains associated with the unprecedented age of information technology means that past economic modeling doesn't fit today's circumstances. Yesterday's models may fit tomorrow's, but for the moment, belt-tightening interest rates don't seem to be necessary to curb an inflation that hasn't emerged with the low levels of unemployment that were once assumed to trigger it.

    To some degree, luck has been a factor on the inflation front, with a silver lining appearing in what otherwise were dark clouds in the world economy. Last summer's troubles abroad impoverished a lot of people in Asia and Russia, but the crisis pushed down the prices of goods that we buy from these countries, boosting America's consumer purchasing power.

    In addition, more restrained congressional spending—producing surpluses rather than deficits—has helped high-tech investors find capital at credible rates, even though America's saving rate has declined to a negative level.

    More fundamentally, the economy has been propelled by gains in productivity.

    I would just like to conclude by stressing that there are two Americas, however, and that on the farm side in the Midwest we are experiencing difficulties associated with the deflation. And Congress, in my judgment, is going to have to act forthrightly on the agricultural problem, including the approval of Fast Track trade authority.
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    I would also like to comment on an issue involving another base of the committee, and that is gold. It is my intention to move swiftly on a debit relief initiative immediately following the August break, but I would stress that it is unlikely that the committee will endorse the Administration's proposal to authorize the IMF to sell 10 percent of its gold holdings as a method of payment for debt relief for the world's poorest countries. Debt relief is a societal and indeed moral imperative, but care must be taken not to jeopardize the mining industry that provides many of the most stable jobs in the developing world.

    At this point, let me turn to Mr. LaFalce, our distinguished Ranking Member. I would ask unanimous consent to expand my statement as well as Mr. LaFalce's and to put in the record anyone else's statement.

    Mr. SANDERS. Mr. Chairman, reserving the right to object, I would respectfully request that any Member who wants to make an opening statement have a minute-and-a-half to do so. I know that you want to get on to the questioning, I don't know how many Members do, but I think it is appropriate that any Member have at least a minute-and-a-half to make a statement.

    Chairman LEACH. I appreciate the gentleman's request. The gentleman has led in that concern at each Humphrey-Hawkins hearing. But opening statements are at the discretion of the Chair and it is the belief of the Chair that we are better off holding opening statements to the four institutional positions, and that the gentleman would be allowed to comment as he sees fit during the five-minute question and answer session.

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    Mr. LaFalce.

    Mr. LAFALCE. I thank the Chairman. I thank him for his opening statement, too. In large part I associate myself with his remarks. I am especially pleased that we will be marking up the bill that we have co-sponsored on debt relief as soon as we return in September. I think it is extremely important. As a matter of fact, I can't think of anything that we could do that is more important to help the people in the highly indebted impoverished countries in the world.

    I also want to join in the high praise that was recently given both by President Clinton and Vice President Gore to Chairman Greenspan for his outstanding stewardship of the Federal Reserve Board and the conduct of domestic international monetary policy during his tenure as Chairman. You have done an outstanding job, Chairman Greenspan, and we are all very grateful for that fact.

    This is now the 99th month of economic expansion, the longest peacetime expansion in American history. We have reason to be pleased, but we do not have reason to be overconfident. We need to work to continue this prosperity. It is not inevitable. We also must work, primarily within the Congress and the Administration, to make sure that this prosperity is shared by all. This has not happened and we must address this.

    But I am profoundly concerned that the Congress might be taking actions today that could jeopardize our future economic prosperity. I am concerned about the economic implications of the massive and, in my judgment, very misguided tax cut proposal proposed by some of our colleagues.
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    In the first year of this Administration, it worked with the 93rd Congress to control the record deficits of the 1980's and put us on a clear and consistent path toward economic prosperity. We have been successful. It would be foolhardy in the extreme to jeopardize that success. A massive tax cut at this juncture, I believe, would be fiscally irresponsible and threaten the economic growth that we are now enjoying.

    I appreciate very much that both the Administration and the Congressional Budget Office are estimating a Government surplus over the next decade. But these are projections, projections of what could be under a very highly suspect set of assumptions. They are not forecaster predictions of what actually will be.

    If there is a surplus, I do not think that we should throw this surplus away on huge tax cuts, especially since the preponderance of those cuts would go to those already very well off. Further, that projected surplus is premised on further significant cuts in spending for education, defense, and the environment, cuts that are problematic at best. Those cuts would also deter us from taking the meaningful steps that we should to shore up Social Security and Medicare.

    Chairman Greenspan, I hope during the course of your testimony or certainly in response to questions, you would address certain issues. First of all, what are your thoughts on the likelihood of the projected surplus becoming a reality? Second, you have said before that placing priority on Government debt reduction would be a sounder economic policy than massive tax cuts. I am anxious to know if that remains your view. Third, I would like to know what effect an approximate trillion dollar tax cut over a ten-year period might have on interest rates and on your ability to conduct the type of domestic and international monetary policy you would like to.
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    There are a number of other subjects in which I am interested, but time is limited so I will just mention two additional ones.

    First, yesterday the Department of Commerce announced that our trade deficit had ballooned to a record $23.1 billion in May, one month. I understand the economic theory that suggests this may not be a problem, but I am nevertheless concerned that this trade deficit reflects reliance on the United States, either alone or certainly overwhelmingly amongst all of the other industrialized nations, to help pull the world out of a recession; that we are by far the primary and most exclusive escape valve.

    As everyone knows, our current account has swelled as well, reflecting primarily capital inflows associated with global financial problems. I am concerned that this has led to our having the highest short-term interest rates amongst the G–7 and that our short-and long-term interest rates, though nominally low, are still very high in a real sense, once inflation is taken into account.

    And as a second additional concern, earlier this year many analysts suggested that the international economic and financial crisis was over. I remain skeptical about that. Japan's economy has not recovered. Germany's is in recession, and other European Monetary Union economies are suffering. Russia's economy remains a basket case and Latin America is still vulnerable.

    I want to thank you and your staff for being very helpful to us, my staff, in monitoring all of these situations and I look forward to your thoughts on these and other issues.
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    Mr. GREENSPAN. Thank you very much.

    Chairman LEACH. Thank you, John.

    Mr. Bachus.

    Mr. BACHUS. Thank you, Mr. Chairman. Welcome, Mr. Chairman.

    Chairman Greenspan, you have focused on productivity a lot. You have talked about technology, the advances we have had in technology. And I think we all tried to figure out when that might slow and if it will slow. I am curious as to what the Federal Reserve's predictions or outlook or how you track productivity as far as looking into the future. I saw this morning where I think Internet growth may have finally slowed. I would like your comments on where you think maybe we are on the S-curve as far as innovation. I know biotech, there is an explosion of activity in that regard, and whether that is something that is sustainable for five, ten, fifteen or twenty more years or whether we may be at the end of a wave there.

    Mr. LaFalce mentioned the $21.3 billion trade deficit. I think we all realized that is not sustainable. It has obviously brought a lot of good-quality products to American citizens. We have all benefited from it.

    I have a chart here of raw industrial costs and I thought I would ask you about this chart. Basically it shows that we had kind of a flat raw industrial cost until about September of 1997. And then we had a dramatic downward trend in raw industrial cost until the end of February of this year. It has flattened out again. That to me indicates that we have sort of had the wind at our back with falling costs and cheap foreign goods perhaps even aiding in that. And then technology innovation, all of those, bringing down the price of computers.
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    But I am wondering if this particularly—I know that is a gauge that you pay a lot of attention to. I am going to ask you about the significance that that at least appears on the chart that raw industrial cost may have stopped their fall and have flattened out.

    The last thing that I want to ask you about is again what Mr. LaFalce mentioned, and that is the global situation. This morning there was a survey out that deflation, that there is evidence again of deflation again in Japan. So things may not be as good. That is one survey. As here, we have one survey showing one thing one day and another the next. But I am curious as to your opinion on the world economy, Europe, Latin America, the Far East, and how you see that affecting our economy. Just maybe some thoughts on that. I will be interested in hearing your comments.

    I will close by saying I think that, as others have said, we are in the longest peacetime expansion in the history of this country. In fact, in February it will be longest economic expansion in the history of our country. It is a record-setting economy. I think you are the chief architect of that sound monetary policy, and I want to commend you on that.

    And in that regard, I want to say this. I know that the Fed has this super-secret high-tech econometric modeling system over there where you plot plausible scenarios in the U.S. economy. I would like to ask you to go back this afternoon and have your top economist feed two ''what ifs'' into this multi-million dollar computer and examine near-term—give us near-term and long-term results of this.

    Here are the two scenarios. Number one is Greenspan is renominated as Chairman of the Federal Reserve. And number two, you are not renominated.
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    So could you feed that in and could your economist run those two scenarios and get back to us on the results of that?

    Mr. GREENSPAN. Is that supposed to be a dummy variable?

    Mr. BACHUS. If you would rather reply in writing, I appreciate that. I appreciate that very much.

    Chairman LEACH. I thank the distinguished Chairman for his macro-economic query.

    Ms. Waters.

    Ms. WATERS. Mr. Chairman and Members and Mr. Greenspan, a few days ago President Clinton was in South Central Los Angeles and it was the last stop on a tour that he made around the country to talk about his new markets initiative. He came basically to the area where you have been, Mr. Greenspan. If you recall, you were my guest and you created such a stir when you came to South Central Los Angeles. Hundreds of photographers came, the community leadership was there. You encouraged CEOs of some of the major banks to be there. And we talked about the lack of growth and economic development in inner cities and in that community in particular. So really the President was following on the tails of the tour that you made there and the conversations and the discussions that we had at that time about the fact that the well-performing economy in this country had missed inner cities and other areas. I think the President went on an Indian reservation, and so forth.
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    So we remain puzzled about what to do. The President's new initiative may offer a glimmer of hope, but I am wondering as we are trying to figure out how to get investment in these inner cities so that we can reduce the awesome unemployment rate that still exists among young blacks—about a 35 percent rate, I am told. And if you factor in incarceration and some other things, it is about 50 percent. At the same time that I am trying to figure that out, and perhaps you and others, we have to guard against and we have to be a little bit worried about whether or not you are going to raise interest rates and what that will mean to poor communities. In addition to that, we have to be concerned about a Congress of the United States that is now discussing a huge budget surplus and the desire by some of my colleagues to give great tax cuts to somebody, I suspect the rich and the more fortunate of our society.

    I would like you, in your presentation to us, to comment on the discussion that is going on, and if there is a big tax cut or rebate what will that do to interest rates, what will that do to the economy. I want you to specifically help us to understand whether or not it is going to drive up interest rates if in fact we have this tax cut. I want to know if you have any new thoughts about what we can do to spur investment in the inner cities so that we can deal with the still unconscionable unemployment. And I want you to commit that you are not going to raise the interest rates, no matter what.

    Thank you. I yield back the rest of my time.

    Chairman LEACH. Well, thank you, Ms. Waters.

    Mr. Chairman, please proceed.
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    Mr. GREENSPAN. Thank you very much, Mr. Chairman, and other Members of this committee for the opportunity to present the Federal Reserve semiannual report on monetary policy.

    To date, 1999 has been an exceptional year for the American economy, but a challenging one for American monetary policy. Through the first six months of this year, the U.S. economy has further extended its remarkable performance. Almost a million-and-a-quarter jobs were added to payrolls on net, and gross domestic product apparently expanded at a brisk pace, perhaps near that of the prior three years.

    At the root of this impressive expansion of economic activity has been a marked acceleration in productivity of our Nation's work force. This productivity growth has allowed further healthy advances in real wages and has permitted activity to expand at a robust clip while helping to foster price stability.

    Last fall, the Federal Open Market Committee eased monetary policy to counter a seizing-up of financial markets that threatened to disrupt economic activity significantly. As those markets recovered, the FOMC had to assess whether that policy stance remained appropriate. By late last month when it became apparent that much of the financial strain of last fall had eased, that foreign economies were firming, and that the demand in the United States was growing at an unstainable pace, the FOMC raised its intended Federal funds rate a quarter of a percentage point, to 5 percent. To have refrained from doing so, in our judgment, would have put the U.S. economy's expansion at risk.
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    If nothing else, the experience of the last decade has reinforced earlier evidence that a necessary condition for maximum sustainable economic growth is price stability. While product prices have remained remarkably restrained in the face of exceptionally strong demand and expanded potential supply, it is imperative that we do not become complacent.

    The already shrunken pool of job-seekers and the considerable strength of aggregate demand suggest that the Federal Reserve will need to be especially alert to inflation risks. Should productivity fail to continue to accelerate and demand growth persist or strengthen, the economy could overheat. That would engender inflationary pressures and put the sustainability of this unprecedented period of remarkable growth in jeopardy. One indication that inflation risks were rising would be a tendency for labor markets to tighten still further. But the FOMC also needs to continue to assess whether the existing degree of pressure in these markets is consistent with sustaining our low inflation environment. If new data suggest that it is likely that the pace of costs and price increases will be picking up, the Federal Reserve will have to act promptly and forcefully so as to preclude imbalances from arising that would only require a more disruptive adjustment later—one that could impair the expansion and bring into question whether the many gains already made can be sustained.

    Data becoming available this year have tended to confirm that productivity growth has stepped up. It is this acceleration of productivity over recent years that has explained much of the surprising combination of a slowing in inflation and sustained rapid real growth. Increased labor productivity has directly limited the rise of unit labor costs and accordingly damped pressure on prices. This good inflation performance, reinforced also by falling import prices, in turn has fostered further declines in inflation expectations over recent years that bode well for pressures on costs and prices going forward.
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    In testimony before this committee several years ago, I raised the possibility that we were entering a period of technological innovation that occurs perhaps once every fifty or one-hundred years. The evidence then was only marginal and inconclusive. Of course, tremendous advances in computing and telecommunications were apparent, but their translations into improved overall economic efficiency and rising national productivity were conjectural at best.

    That American productivity growth has picked up over the past five years or so has become increasingly evident. Non-farm business productivity—on a methodologically consistent basis—grew at an average rate of a bit over 1 percent per year in the 1980's. In recent years productivity growth has picked up to more than 2 percent, with the past year averaging about 2 1/2 percent.

    To gauge the potential for similar, if not larger, gains in productivity going forward, we need to attempt to arrive at some understanding of what has occurred to date. A good deal of the acceleration in output-per-hour has reflected the sizable increase in the stock of labor-saving equipment. But that is not the whole story. Output has grown beyond what normally would have been expected from increased inputs of labor and capital alone. Business restructuring and the synergies of the new technologies have enhanced productive efficiencies. They have given businesses greater ability to pare costs, increase production flexibility, and expand capacity that are arguably the major reasons why inflationary pressures have been held in check in recent years.

    Other factors contributing to subdued inflation have included the one time fall in the prices of oil, other commodities, and imports more generally. In addition, a breakdown of barriers to cross-border trade, owing both to the new technologies and to the reduction of Government restrictions on trade, has intensified the pressures of competition, helping to contain prices. Coupled with a decline in military spending worldwide, this has freed up resources for more productive endeavors, especially in a number of previously non-market economies.
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    Despite the remarkable progress witnessed to date, history counsels us to be quite modest about our ability to project the future path and pace of technology and its implications for productivity and economic growth. We must remember that the pickup in productivity is relatively recent, and a key question is whether that growth will persist at a high rate, drop back toward the slower standard of much of the last twenty-five years, or climb even more. By the last I do not just mean that productivity will continue to grow, but that it will grow at an increasingly faster pace through a continuation of the process that has so successfully contained inflation and supported economic growth in recent years.

    The business and financial community does not as yet appear to sense a pending flattening in this process of increasing productivity growth. This is certainly the widespread impression imparted by corporate executives and it is further evidenced by the earnings forecasts of more than 1,000 securities analysts who regularly follow S&P 500 companies on a firm-by-firm basis. Except for a short hiatus in the latter part of 1998, analysts' expectations of five-year earnings growth have been revised up continually since early 1995. If anything, the pace of those upward revisions has quickened of late. Analysts and the company executives they talk to appear to be expecting that unit costs will be held in check or even lowered as sales expand. Hence, implicit in upward revisions of their forecasts, when consolidated, is higher expected national productivity growth.

    That said, we must also understand the limits to this process of productivity-driven growth. To be sure, the recent acceleration in productivity has provided an offset to our taut labor markets by holding unit costs in check and by adding the competitive pressures that have contained prices. But once output-per-hour growth stabilizes, even if at a higher rate, any pickup in the growth of nominal compensation-per-hour will translate directly into a more rapid rate of increase in unit labor costs, heightening the pressure on firms to raise prices of the goods and services they sell. Thus, should the increments of gains in technology that have fostered productivity slow, any extant pressures in the labor market should ultimately show through to product prices.
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    Meanwhile, though, the impressive productivity growth of recent years also has had important implications for the growth of aggregate demand. If productivity is driving up real incomes and profits and hence gross domestic income, then gross domestic product must mirror this rise with some combination of higher sales of motor vehicles, other consumer goods, new homes, capital equipment, and net exports. By themselves, surges in economic growth are not necessarily unsustainable—provided they do not exceed the sum of the rate of growth in the labor force and productivity for a protracted period. However, when productivity is accelerating it is very difficult to gauge when an economy is in the process of overheating.

    In such circumstances, assessing conditions in the labor market can be helpful in forming those judgments. Employment growth has exceeded the growth of working-age population this past year by almost one-half percentage point. It implies that real GDP is growing faster than its potential. To an important extent, this excess of growth of demand over supply owes to the wealth effect as consumers increasingly perceive their capital gains in the stock and housing markets as permanent and evidently, as a consequence, spend part of them.

    There can be little doubt that if the pool of job-seekers shrinks sufficiently, upward pressures on wage costs are inevitable, short—as I have put it previously—of a repeal of the law of supply and demand. Such cost increases have invariably presaged rising inflation in the past and presumably would in the future, which would threaten the economic expansion.

    By themselves, neither rising wages nor swelling employment rolls pose a risk to sustained economic growth. Indeed, the Federal Reserve welcomes such developments and has attempted to gauge its policy in recent years to allow the economy to realize its full enhanced potential. In doing so, however, we must remain concerned with evolving short-run imbalances that can constrain long-term economic expansion and job growth.
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    In its deliberations this year, the FOMC has had to wrestle with the issue of what policy setting has the capacity to sustain this remarkable expansion now in its ninth year. For monetary policy to foster maximum sustainable economic growth, it is useful to preempt forces of imbalance before they threaten economic stability. But this may not always be possible. The future at times can be too opaque to penetrate. When we can be preemptive, we should be, because modest preemptive actions can obviate more drastic actions at a later date that could destabilize the economy.

    Preemptive policymaking is equally applicable in both directions, as has been evident over the years both in our inclination to raise interest rates when the potential for inflationary pressures emerge, as in the spring of 1994, or to lower rates when the more palpable risk was economic weakness, as in the fall of last year. This evenhandedness is necessary because emerging adverse trends may fall on either side of our long-term objective of price stability.

    In the face of uncertainty, the Federal Reserve at times has been willing to move policy based on an assessment that risks to the outlook were disproportionately skewed in the one direction or the other rather than on a firm conviction that, absent action, the economy would develop imbalances. For instance, both the modest policy tightening of the spring of 1997 and some portion of the easing of last fall could be viewed as insurance against potential adverse economic outcomes.

    As I have already indicated, by its June meeting the FOMC was of the view that the full extent of this insurance was no longer needed. It also did not believe that its recent modest tightening would put the risks of inflation going forward completely into balance. However, given the many uncertainties surrounding developments on both the supply and demand side of the economy, the FOMC did not want to foster the impression that it was committed in short order to tightening further. Rather, it judged that it would need to evaluate the incoming data for more signs that further imbalances were likely to develop.
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    As a result of our Nation's ongoing favorable economic performance, not only has the broad majority of our people moved to a higher standard of living, but a strong economy also has managed to bring into the productive work force many who had for too long been at its periphery. The unemployment rate for those with less than a high school education has declined from 10 3/4 percent in early 1994 to 6 3/4 percent today, twice the percentage point decline in the overall unemployment rate. These gains have enabled large segments of our society to obtain skills on the job and the self-esteem associated with work.

    The questions before us today, Mr. Chairman, are what macro-economic policy settings can best extend this favorable performance. No doubt, a monetary policy focused on promoting price stability over the long run and a fiscal policy focused on enhancing national saving by accumulating budget surpluses have been key elements in creating an environment fostering the capital investment that has driven the gains to productivity and living standards. I am confident that by maintaining this discipline, policymakers in the Congress, in the Executive Branch, and at the Federal Reserve will give our vital U.S. economy its best chance of continuing its remarkable progress.

    Thank you very much, Mr. Chairman. I would appreciate it if my full remarks were included for the record.

    Chairman LEACH. Without objection, so ordered.

    Let me just begin by noting that Ms. Waters asked if you would promise never to raise interest rates, which I suspect is as likely as asking liberal Members of Congress to never ever raise spending or taxes.
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    But that aside, the question that I have is will the Federal Reserve Board of the United States be as vigilant in combating deflation as it has been vigilant in combating inflation? As we look at American history, particularly the Great Depression, we saw an example of deflation. As we look around the world, possibly Japan has suffered a bit from deflation today. And in the farm belt, there is real deflation in aspects of agricultural policy. My concern is, is this a concern of the Fed; and if it becomes evident in the statistics, is the Fed prepared to act in this area as well?

    Mr. GREENSPAN. Most certainly, Mr. Chairman. As I indicated in my prepared remarks, the evidence is becoming increasingly persuasive that price stability is that which contributes to maximum sustainable growth. It is our judgment, based on the evidence, that both inflation and deflation create levels of uncertainty which inhibit capital investment, economic growth, and stability. And in our view, both must be avoided if our goal is maximum sustainable economic growth.

    Chairman LEACH. Thank you.

    My second question is an esoteric one that relates to a conference that is about to take place on banking modernization. A year ago you testified before the Senate that the Federal Reserve Board favored elimination of the unitary loophole. Is that still your position?

    Mr. GREENSPAN. It is, Mr. Chairman.

    Chairman LEACH. Thank you very much.
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    Mr. LaFalce.

    Mr. LAFALCE. I thank the Chair.

    I have to point out that provisions in the law which explicitly call for a certain course of conduct or legal structure are not loopholes. They are provisions of the law, especially if they have been in existence for 30 or 40 years. You may not like them, but you mischaracterize them when you refer to them as a loophole.

    Having said that, let's return to the questions that I posed in my opening statements. First of all, there has been a lot of talk, by both the Democratic Administration and the Republican Congress, about surpluses. I suspect these surpluses are in large part a mirage.

    What are your thoughts on the likelihood of the so-called surplus ever coming about, becoming a reality?

    Mr. GREENSPAN. Congressman, projecting five or ten years out is a very precarious activity, as I think that we have demonstrated time and time again. If you look at the assumptions that are employed by both OMB and CBO, they are not unreasonable. I wouldn't say they are reasonable, I would say they are not unreasonable. I use that phraseology purposely because the range——

    Mr. LAFALCE. That is why I purposely used the word ''likelihood.''
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    Mr. GREENSPAN. The range of error on those types of projections are quite large. For example, we observe that there has been a very significant proportion of increased revenues in recent years, which is the consequence of what is euphemistically called technical adjustments, which is essentially factors that we cannot explain. If we were to presume that those uncertainties, those technical adjustments which are plus at the moment—they have been in the area of plus 1 percent of the GDP, which is not an insignificant number.

    Mr. LAFALCE. It is a rather large number.

    Mr. GREENSPAN. This is a regularly reversed sign. Indeed, we are not certain at all that that is the absolute upper magnitude, so that there is a great deal of uncertainty about the range of possibilities with respect to what that surplus will look like, if it continues to exist.

    Mr. LAFALCE. Well, given the tremendous uncertainty, and given the precarious nature of the projections, would you recommend that we pass a tax cut of approximately $1 trillion over the next ten years?

    Mr. GREENSPAN. Mr. LaFalce, I remain where I was last time I was here and the time before. I think that the reduction that is occurring in the Federal debt at this stage as a consequence of the ongoing surplus is an extraordinarily effective force for good in this economy. It has moved interest rates lower than they otherwise would have been. The cost of capital is lower. And for a number of other reasons, I think it has been a major factor in the expansion of economic growth.
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    As I have said before, I would therefore prefer—because we are being confronted with a very large demographic change down the road, which means the ratio of retirees to workers is going to go up very dramatically—that our emphasis be on national savings, which creates capital investment, which creates increasing productivity and therefore the capacity, when finally the baby boomers retire, so that their standard of living will be kept high without creating problems in growing standards of living for our working population.

    Mr. LAFALCE. Chairman Greenspan, would it be unreasonable for me to conclude that you have just said no?

    Mr. GREENSPAN. I was about to conclude. Therefore, as I have said previously, my first priority, if I were given such a priority, is to let the surpluses run. As I have said before, my second priority is if you find that as a consequence of those surpluses, they tend to be spent, then I would be far more in the camp of cutting taxes, because the least desirable is using those surpluses for expanding outlays.

    Mr. LAFALCE. Thank you.

    Chairman LEACH. Mrs. Roukema.

    Mrs. ROUKEMA. Thank you, Mr. Chairman. I am glad that you added that qualification there about surpluses tending to be spent, because that has been an endemic problem here in our Congress. I don't want to go into every bit of the tax cut question and know there is going to be a lot of questions on both sides here, but having been one of those Republicans that worked with the committee, the Ways and Means Committee, over several hours yesterday, and one that is equally concerned about bringing down the debt and the cost to all of us of the continuing debt. We tried to work out a proposal. You and I had some conversations as to what—not what the general purposes of the proposal were, but exactly how it would be worked out. Whether the proposal is tied to interest rates or tied to the public debt was the issue.
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    I want to give you an opportunity for a general statement on this, because it relates to the question that you just answered regarding national savings. The tax bill—in particular on the Senate side—is very much targeted toward national savings; increasing national savings.

    People like myself that were involved in those negotiations yesterday were very concerned that we shouldn't be having some portions of the tax cut, if we are not able to demonstrate a reduction in the national debt; whether it is measured by the interest rates or whether it is measured by the total amount of debt. It seems to me that is good policy, and therefore, we had integrated into the tax bill a proposal that anything for the first—I think it is six or seven years, and it is in the tax bill—would trigger a delay or a postponement of the across-the-board tax cut. In other words, there would be no tax cut across the board for any of those first years unless we demonstrated that surpluses had been used to reduce the debt.

    No tax bill is perfect, but I would think that this would be a great plus in terms of how we balance out the need for more national savings and block the unfortunate prospect of surpluses increasing Government spending.

    So I wonder if you could just make a general statement on that, recognizing that you haven't yet seen the precise language, but in principle we are talking about putting debt payment—reducing debt payment as a priority over the across-the-board tax cuts.

    Mr. GREENSPAN. Congresswoman, I definitely agree that a trigger is a very useful device in this particular problem, which, I must admit, is really sort of a highly favorable type of problem to be confronted with considering all of the years that we have been trying to confront the deficit.
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    I would add one other important element. At some point, I don't know when that is going to be, this economy is going to slow down and perhaps slow down quite significantly. The business cycle is not dead, and all of the technology with which we are dealing and which is very crucial doesn't really relate to the dynamics of the business cycle, only to long-term growth. At that point I would suspect that a significant tax cut mainly of marginal tax rates and capital gains tax rates might be a very useful and timely vehicle to sustain an economy which is otherwise weakening.

    So in the way in which you devise the law, I would not only keep a trigger for making certain that, in effect, that we do have the surpluses before you reduce taxes, but we also had better be keeping in mind the fact that we can get some very powerful positive incentives imparted to an economy which is weakening by an across-the-board marginal tax cut and a capital gains tax cut, which would be far more difficult to do if we didn't have the surplus. But if we have the surplus, we have the capacity to very substantially alter the tax structure in a way which would be a positive fiscal policy for us. So I would really add that to your contingencies of when it would be appropriate to allow the tax cut to emerge.

    Mrs. ROUKEMA. Thank you very much. I do appreciate that. It is certainly very helpful. We will apply the wisdom of it. Thank you.

    Chairman LEACH. Thank you, Mrs. Roukema.

    Mr. Vento.

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    Mr. VENTO. Thank you, Mr. Chairman. It is always a pleasure to be in a debate and discussion with our Republican colleagues as they give us a lot of the Republican hyperbole and generally shower the Federal Reserve Board, and you specifically, Mr. Greenspan, with credit in a noble effort to deny any credit to the Administration with regards to our remarkable economic performance. I think you are due some of that credit, but I think a goodly part of it is due to a functioning of a responsible Congress and Executive as well as an independent Fed. We might disagree on monetary policy, as we have most recently, as you immodestly raised interest rates while at the same time, large trillion dollar tax cuts are being considered here for the next ten years.

    I heard that next year, in the year 2000, we may actually have an on-budget surplus. That surplus may be surging out of control. So our remarkable economic performance is what we are talking about today. But you know, as my professor told me, he stated—and I've always remembered—that ''nobody lives on the average.''

    We are really reminded of that in the Midwest as we look at the sectorial displacements that are going on with regards to the rural economy. I don't represent farmers, I just come from them. So I feel deeply and very, very concerned about what is happening there as we look at all of the aspects of this economy in terms of record trade deficits, which are backloading the cost of today's positive economic news.

    And as we look at programs nationally which disinvest in people—you were quick to point out—productivity. But if I remember my economics right, it was capital, research and investment in people. I would expect the last one is perhaps the most important. We are charged with that through the Federal Government's fiscal policy. I know monetary policy you can't do much other than with student loan interest rates, but we really have a responsibility.
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    As we look at poverty in our society, we have knocked it down. Frankly, 20 percent of our children are under the poverty line. That is twice the number that are in poverty. Twenty percent of our children live in poverty.

    The lack of health care coverage, the number of housing problems that we have, are greatly accelerated with 5.3 million families living in inadequate and poor housing.

    And, of course, we have the weakened advocacy roles of labor unions because of changes in the economy and other legal factors. And we have the merger phenomena we all see going on, which seems to me to weaken the very basic markets that we advocate.

    Everyone likes free enterprise, they don't like to practice it so much. They don't like the part about losing money. Certainly we at the Federal Government, the Federal Reserve, must be free to address the monetary policy and the integral independent function to which reasonable people may disagree, but also of course the fiscal policy. And this fiscal policy, is topic A of the discussion on the floor today as we move forward with this practically trillion-dollar change in terms of what is going down.

    Last, in an effort to try and gain a majority on the floor, we have now apparently tied the fiscal policy to the monetary policy train. It has been hitched up, welded together as it were, and placed on this automatic pilot. This, in essence, surrenders, in my judgment, our constitutional responsibility and that of the Executive upon the altar of monetary policy.

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    Indeed we could say to the people that we represent, ''Look, Mom, no hands.'' The fiscal locomotive will follow, would be welded, as I said, to these non-elected individuals' actions of the Federal Reserve Board, led by, of course, our revered Chairman today. Who knows who tomorrow?

    The Federal Reserve Board, which disavows establishing interest rates, masks its actions and decisions in the cloak and clothing of market-oriented responses. In reality, frankly, that garment has worn paper-thin as the Fed has nakedly stepped forward in the past; and, just most recently, with such actions as preemptive strikes in judgments, a market irrational exuberance.

    I don't deny you that role. I think it is an important role. I think what you did and your governor did in New York with the hedge fund problem was very important. I just wish that there would be a little more candor with regards to admitting to the role that was played.

    We need a full functioning team, in my judgment, not one that is surrendered and subservient, and not one that places the so-called crown jewel decision of policy on the Federal Reserve Board midnight express train. That is my concern.

    What do you think, Mr. Chairman, about our decisions that are predicated on other things in terms of monetary policy? Do you think it is important from an economic sense that Congress remain responsive and have the decisionmaking ability to in fact exercise sound fiscal judgments with regards to productivity investment in people, with regards to housing, with regards to the litany of issues that I have expressed here?
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    Mr. GREENSPAN. I certainly do, Congressman. Congress has to make decisions on what the fiscal policy of this country is, and because you have created effectively a central bank to which you delegate the responsibility of monetary policy, it is important that Congress continuously oversee what we do. Because as you point out, we are not elected representatives, we are appointed. What we endeavor to do is carry out the will of the Congress as mandated by the law. That, in my judgment, requires—and indeed necessitates—appropriate oversight on the part of the Congress.

    Mr. VENTO. My time is expired.

    Chairman LEACH. Thank you.

    Before turning to Mr. Bachus, I would say that he asked the question what the Fed computers would indicate if the Chairman wasn't reappointed. I have asked staff to check our Cray computers in the Banking offices. They have indicated by the year 2008, there would be a 6.32 percent reduction in the GDP. So then we asked it should the Chairman be reappointed and it came out with a little card that said, ''no brainer.''

    Mr. Bachus.

    Mr. BACHUS. What you are saying, Mr. Chairman, is that in our models it is not a dummy factor.

    We talked about the surpluses here this morning. You have been asked about—you have commented it is difficult to project surpluses. I would most definitely agree. I would say to my colleagues on both sides of the aisle that if we don't have Social Security reform and real Social Security reform, there are not going to be any surpluses. I think that we can certainly project that. I am not going to ask you to comment on that or try to draw you into that.
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    I asked you about the trade deficit, the $21.3 billion record trade deficit. Is that sustainable? What are the ramifications? We have got a strong dollar right now. Can that continue?

    Mr. GREENSPAN. The issue of what has the broader definition, namely the current account deficit which is essentially what we borrow from abroad, or what is invested from abroad, which is the other side of that, is becoming an increasingly larger proportion of the GDP.

    We have obviously asked ourselves how long could that be sustained without inducing imbalances to the structure of our economy. One of the reasons for it is the fact that we have a far higher sensitivity to import goods; namely, that the relationship between imports and domestic income is far more sensitive in the United States than it is abroad. What that means is that if you have a generally flat world economy, the United States would continue to import more and create a larger deficit, offset by larger surpluses abroad.

    In other words, our elasticity to import is out of whack. If you put that into a computer indefinitely and if you project indefinitely into the future, you get very large numbers.

    Nonetheless, what we see is the fact that in the current environment, as I point out in my prepared remarks, a goodly part of the opening up of the current account deficit is apparently being driven by the high rates of return on new facilities in the United States, largely high-tech type facilities, which has attracted capital to the United States, kept the dollar strong—which is one way that you know this is in fact what is happening. And the result of that, effectively—because capital is being moved into the United States—is that it necessitates that the current account deficit, meaning the difference between exports of goods and services on the one hand and imports of goods and services, widens; meaning a higher proportion of imports relative to exports.
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    Theoretically, that obviously cannot go on indefinitely. Something has got to give somewhere. And where it apparently will give at some point in the future is a lesser inclination to hold dollar claims on the United States. At the moment, there is almost no evidence that that is the case. Indeed, it is the other way around. So the first sign that we may be in some difficulty would be a disinclination on the part of foreigners to continue to purchase dollar-denominated assets in the quantity in which they are, on net balance.

    Mr. BACHUS. I have handed you a chart showing the raw industrial cost and they basically are flat through about October of 1997. Then there is a steep decline through March of 1999. Then we see a flattening out again. I think what the flattening out shows is that we are not—you are not—it is not having an influence one way or the other. But how significant——

    Mr. GREENSPAN. Well, we have looked at these data in some detail. We obviously find them useful but, strangely, in ways different from the ways that most people would think. Because we are becoming increasingly high tech—an economy which is more conceptual than physical—the impact of commodity prices on the general price level is overwhelmed by the high-tech price effects. As has been mentioned on many occasions before this committee, the prices of computers, software, and telecommunications equipment are all going down as we move toward this outer edge of technology.

    I find the raw industrial component of the Commodity Research Bureau (CRB) futures index, which is what we measured here, actually is a pretty good measure of what industrial activity is likely to do. You are talking about, I presume, what is happening to steel scrap, copper wire bar—not so much wire anymore, but copper, aluminum—these are all highly sensitive industrial commodities which tend to fluctuate far more than general industrial production. These prices tend to reflect the order intake that is going on, which in turn is not a bad measure of what activity is.
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    So as we go to a more impalpable economy, things far less physical than they were 50 years ago, the actual impact of industrial commodities on the general price level diminishes, but they are nonetheless fairly important indicators to tell us what is going on in still a very significant part of our economy; namely, basic industrial activity.

    Chairman LEACH. Thank you.

    Mr. Frank.

    Mr. FRANK. Preliminarily, Mr. Chairman, I was interested in your comment in response to Ms. Waters' comment of the proclivity of Democrats to increase spending. And I was particularly interested in how that would fit with your strong plea for increased agricultural spending. So I don't know whether that passage is some further switch, although I guess it does reflect the view that to many of my conservative friends, agricultural spending is somehow exempt from Government spending.

    On that point, I was very pleased to see Mr. Greenspan repeat a point that he has made before on page 3—page 5 rather—where he notes that the decline in military spending worldwide has freed up resources for more productive endeavors. We have a mistaken view around here that military spending somehow has, as a partial justification, the effect of stimulating the economy. It is important if you need it for defense, but as Mr. Greenspan has noted on several occasions, it is a negative rather than a positive, everything else being equal in terms of the economy.

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    Chairman LEACH. If the gentleman would yield, this gentleman acknowledges sin, but he does believe that it is rooted in Biblical aphorisms; that is, that we want to move from swords into plow shares spending.

    Mr. FRANK. Are you going to put that up on the wall, too, like you voted to put everything else up on the wall in the Bible?

    The question is, though, about preemption. I find much of the statement is very admirable and I appreciate you talking about the social importance of bringing people into the economy. You have been on the periphery, and I appreciate your acknowledgment that preemption is a two-way street, as you did I think when we had the international crisis in 1997 when you raised interest rates to preempt depression or recession.

    But I have a question about preemption. The tone of the statement, the tone of much of what the Federal Reserve has said, is to acknowledge that there are no present indicators of inflation and no indicators that it is coming. The argument for preemption is, and I understand it, that a little now would be better than a lot later. But it assumes in part—and this has all been part of the argument for preemption—that inflation was a particularly infectious problem in the economy. The argument for preemption has often been that once inflation begins, it is too late to try to stop it, that you must in effect preempt it because it travels so fast.

    The point I would make is this. In your statement you have a couple of arguments which I think note that is no longer as much the case. For example, on page 5, ''The consequent erosion of pricing power has imparted an important imperative to hold down costs.''
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    On page 2, ''The good inflation performance reinforced by fallen import prices has fostered further declines in inflation expectations over recent years.''

    There have been, as you noted, structural changes in the economy over and above technological change: deregulation; removal of oligopoly and semi-monopoly. My point would be this. Isn't it the case that many of the same factors that have reduced inflation, in fact, also not destroy, but lessen the infectiousness of inflation? In other words, the diminution of inflation is in part a diminution of inflationary expectations of reactions built into the economy, and it does seem to me that that weakens somewhat one of the arguments for preemption which was, oh, my God it is too late, you can't be a little bit inflationary, and so forth.

    So to what extent do the factors that have changed the economy, that have helped reduce inflation, also alter one of the arguments that says do you really have to pounce on it like a hawk? Which I must say I think applies to some of the other members of the FOMC rather than to yourself.

    Mr. GREENSPAN. Well, Congressman, it is not at all clear the extent to which the degree of infection was as virulent as a lot of us thought it was indeed in the past. It is an open question. The issue of preemption, as I point out in my remarks——

    Mr. FRANK. To clarify, Mr. Greenspan, if I could on that point, what you are acknowledging, it seems to me, is that it is less virulent than people thought it used to be. Whether they are correct in thinking that or not, we can debate. But clearly it is not now as virulent as people thought it used to be.
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    Mr. GREENSPAN. Yes. And it is also the case that the issue of being preemptive is something which, by definition, we really ought to be if we can. I mean, the alternative is to say we perceive things occurring and we won't do anything about it. So it is an issue of the capacity to perceive that something may be emerging and decide whether something is desirable to do.

    Mr. FRANK. I understand. But the preemption, the more preemptive you get, the less reality you need to trigger the preemption. I think I understand that reality is one of the more important factors, given the negative factors that preemption can have.

    Mr. GREENSPAN. Most of the time we can't be preemptive because, as I point out in my remarks, the future is opaque. It is very difficult to forecast successfully. We do not believe that it is appropriate for us to act until we have a reasonable conviction that certain imbalances will arise.

    Mr. FRANK. I appreciate that very much. I think preemption has been somewhat overrated. One other question which you may not want to answer, or convey in writing if we run out of time. You talk about the trend in the economy. For instance, page 11, ''Mechanisms are in place that should help to slow the growth of spending and will pace more consistent with that of potential output growth.'' And you acknowledge that our capacity for growth appears to be greater than it was. There has been an increase. You talk here that you expect the growth rate of real GDP to be between 3 1/2 and 3 3/4 percent. What is it? What is the potential output growth rate of the economy? At what rate can we grow without giving you agita?

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    Mr. GREENSPAN. I will answer the question in a very unusual way.

    Mr. FRANK. Like, directly?

    Mr. GREENSPAN. That would give you a heart attack.

    Mr. FRANK. It would, it would.

    Mr. GREENSPAN. We cannot tell at any particular point in time what the actual potential is, because it is a very difficult thing to measure. But it shouldn't be our concern. Our concern should be the imbalances that emerge, not an issue of a judgment as to what a fixed rate of growth is and, beyond that, problems of imbalances.

    Mr. FRANK. That is very important. I appreciate that. I must say I was under a misapprehension, I think maybe others were, and I appreciate the indulgence, briefly, Mr. Chairman, because I do think that many had thought—some of the financial writers talk about a number. You speak 2 and 2 1/2 percent. It is now 3 percent. What you are saying is that the number is actually irrelevant in the sense that the number is the product of these forces and you wouldn't get the forces. So that people should not get too concerned if it is 3, 3 1/2, or 4.

    Mr. GREENSPAN. I don't. Other people do.

    Mr. FRANK. If you don't, a lot of people don't. Thank you.
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    Chairman LEACH. Mr. Castle.

    Mr. CASTLE. Thank you, Mr. Chairman, and thank you, Chairman Greenspan. Unfortunately, I have been over in the Intelligence Committee and haven't heard all of what you have said. I want to talk about an important matter on the House floor today that we are going to be dealing with shortly and that is obviously of tremendous interest to you, of overwhelming interest to the United States of America, and that is the tax cut package of $792 billion.

    First, my understanding from all you have said here today and you have always said in the past is that you believe that debt retirement is probably the best thing that we could do; and if not that, perhaps the thing that could really get us in trouble from your perspective is to spend it all. That is a generalization, but I want to know what your thoughts are about the specifics of a tax cut of that magnitude. I am not interested in the individual subject matters therein. One could kick that in terms of who benefits and who does not.

    But this is a tax cut of significant proportions and I am sure that—or I would hope, because it is both in the House and the Senate the same number—that you and your folks have spent some time analyzing not only—how you predict ten years, I don't know, but not only projecting what is happening over the next ten years, but even the out ten years. I would be interested in your views on that.

    Mr. GREENSPAN. As I indicated earlier, it is very difficult to project with any degree of conviction when you get out beyond twelve or eighteen months. As a consequence, if you try to simulate what is going on out there, you need to answer an awful lot of questions which we don't have the answers to.
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    For example, as I indicated in my prepared remarks, the rate of productivity growth has been increasing; that is, the rate of growth itself has been rising. The normal projections that we make with respect to what the economy will be doing in the longer run requires that we have a very firm judgment on what the long-term productivity growth is.

    I would submit at the moment we don't have that good judgment, so that the potential, if you want to put it that way, of what the economy is doing and therefore what the impact of a specific type of cut in taxes will do is not easy to judge.

    As I said earlier, I think that we would be well-advised to be prepared in the event of the next weakening of the economy—which as I indicated is bound to occur. I don't know when it is. I hope it is extended out very significantly into the future. But there will come a time. And because of the fact that we have seen such a remarkable expansion in the surplus and a reduction in the debt, which is a very positive effect as a consequence, I can very readily see that we will get out to a period where the debt has been reduced very significantly—indeed, according to some of the projections to zero—and at that point I would think that all of the surplus would be going to tax reduction.

    Mr. CASTLE. Let me be specific on this. I don't know if you agree with CBO or have looked at CBO's estimates that we are going to have an on-budget surplus of $996 billion over the next ten years or not, but I would like to know, if you have and if you have, if you agree with our estimates.

    That involves two things. It involves not only revenue projections but predicting the behavior of Congress in terms of spending habits. If that is the case, are we safe in allocating 80 percent of that now for tax reductions, or is that a step too far at this point? Or what are your views——
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    Mr. GREENSPAN. Congressman, I don't want to get into the specific details of any of the bills up there, but I will say the following: that we do know a significant amount of the revenue projections presuppose what I was mentioning before, namely, the so-called technical adjustment. The technical adjustment, as I indicated earlier, is a euphemism for our lack of understanding of the relationship between what is going on in the economy generally and what happens to tax receipts.

    There are very complex reasons for that degree of uncertainty. We can make usual adjustments on average, and what has happened to those usual adjustments in the last four or five years is that they have been wrong. Very significantly wrong.

    If you go back and look at the long-term projections of the budget deficit four or five years ago, it looks remarkably unlike what is actually happening. And so I think we have to understand if you are dealing with a level of outlays and receipts approaching $2 trillion, very small changes in your estimate on either side of those come together and they can create a very significant deficit. As a consequence, our ability to project is weakened.

    That is the reason why I have argued that we ought to allow the surplus to run the debt down. Remember, if we reduce the debt, for every dollar we reduce it we are increasing the capacity to borrow it back by one dollar. So you always have the capability of, if need be, letting the surplus run, run down the debt to the public, and then if we decide at some later date that there is some structural positive force there, we can borrow all of that back and cut taxes with it if we so choose. So it is not an issue that that decision has to be made immediately.
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    There is nothing that I can see that would be lost by allowing the process to delay unless, as I have indicated many times, it appears that the surplus is going to become a lightning rod for major increases in outlays. That is the worst of all possible worlds from a fiscal policy point of view and that, under all conditions, should be avoided.

    I have great sympathy for those who wish to cut taxes now to preempt that process, and indeed if it turns out that they are right, then I would say moving on the tax front makes a good deal of sense to me. I hope that that is not true. In any event, I think that we can wait a short while to make a judgment whether it is true.

    Mr. CASTLE. Thank you, Mr. Chairman. I yield back, Mr. Chairman.

    Chairman LEACH. Thank you very much.

    Mr. Kanjorski.

    Mr. KANJORSKI. Thank you, Mr. Chairman.

    Mr. Greenspan, I am starting to suffer from a problem of thinking that, rather than being in the House of Representatives, I am in the House of Orwell. Some thirteen months ago the House of Representatives passed a resolution to terminate the tax code by 219-to-9. I suspect that vote was rather along party lines. Today we are about to add 500 pages to that tax code.
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    It seems to me that all hope of simplification has now disappeared. While we are on this tremendous march to hand out the benefits of the surplus that none of us is certain is going to occur over the next ten years, we cannot spend the time to solve the problems of Social Security, Medicare, defense spending, and other programs that seem to have had a high priority prior to this time.

    Just last week I had occasion to travel across America with the President. I visited places like the Mississippi Delta, where 44 percent of the people do not even continue on past high school and all suffer from relatively high unemployment and very low income. I visited areas of Kentucky, where the income borders just a little above the minimum wage and they are obviously not sharing in the prosperity that presently exists in America. I visited the Indian tribe country of South Dakota where 75 percent of the adult population is unemployed.

    Then I had occasion to witness some inner-city Hispanic communities, newly-arrived in this country, and becoming part of the American opportunity, as it were. Finally, I visited youths who, a few years ago, were in gangs and are now studying computer technology, helping to design automobiles and doing things that are really, surprisingly, pleasurably, shocking.

    However, we have been focused on this theme today of tax cuts, and I go back to what I said about the House of Orwell. One day we were for devolution. Then I go out and I find Mississippi, the 50th-ranked State in education, and very poor. Here we can test this methodology and determine how is is being used on the State level to help things out. We have this dry run on the national level to get out of education, to get out of these responsibilities and turn them back to the States. But yet we have these bad problems, these serious devolution problems.
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    I know in the past you have expressed dissatisfaction with the ongoing shift of income distribution toward the very highest earners. As you know, two-thirds of the benefits of this tax bill on the floor today go to the top 10 percent of earners in this country, those people earning over $115,000. It hardly promotes what you would call a shift in the distribution of income to solve the imbalances that obviously have been exacerbated by the prosperity of the last few years.

    How is monetary policy, under the present conditions, affecting this trend and what might be done to address the shift in the future? More specifically, would the President's plan to promote economic growth in our underserved areas, harnessing the power of the private sector's capital markets, help us to achieve the goal of evening the income distribution across all wage earners? Can you express your opinion on that?

    Mr. GREENSPAN. Congressman, first of all, let me say that the shift toward concentration of income, which has been quite pronounced from the early periods of the expansion, is now at least flattening out. In other words, it is not progressing in the last couple of years, largely as a consequence of a significant number—as I indicated in my prepared remarks—of people, for example, with less than a high school education moving into the work force, learning skills, and getting up on the first step of the ladder to economic capability.

    The basic problem that I am concerned about, as you mentioned, is that we should be moving to a society where the broad segment of society believes that the distribution of rewards are fair. And the issue of fairness is a very subjective issue, but I think that it really means that people earn what they get. And what is good about our society is that it has never, as best I can judge, been envious of those who make huge amounts of income, because they have earned them. There is always concern about the unearned income, and I think that is a very legitimate issue.
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    I can't comment very specifically on the President's program, because I am not sufficiently knowledgeable about the specific detail. But as I mentioned to your colleague to your right many times in the past, I believe that we should be very proactive in endeavoring to find means to get equity into those areas of our society where the level of productiveness—the level of employment is low and the amount of capital investment is subnormal. And in my judgment, the way to come at this is to try to create the same forces of economic incentives which have done so much to the vast proportion of our economy and apply it to the inner cities and apply it to those areas of our economy which are falling far short, which is what I hope most would like to see.

    Chairman LEACH. Thank you, Mr. Kanjorski.

    Mr. Royce.

    Mr. ROYCE. Thank you, Mr. Chairman.

    Chairman Greenspan, the first question that I would ask you is, some of the Asian countries that were in crisis seem to be recovering, others not so well. What is your assessment of the region's economies and what, if anything, we should be doing to promote Asia's economic recovery?

    Second, I am well aware of your views on capital gains tax relief, but for those who haven't heard it, could you tell us your views on capital gains taxes and what the effective rate should be?
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    Lastly, high taxes do cause distortions in the economy. What we will probably end up with here, in terms of the Congress, the vote in the Congress, is something that sets aside two-thirds of the surplus for Social Security and Medicare and the other one-third for tax relief. But probably we will tie that to some type of tax trigger where, if the surplus continues to grow, one-third would be for tax relief.

    The question I have is, if it comes down to the two different choices, the Archer plan or the Roth plan, they both address distortions in the economy, but the Archer plan addresses higher marginal rates and that reduces incentives to work and reduces the return on savings and thus reduces economic growth. The Roth plan, on the other hand, reduces the distortion in savings and capital formation by creating the tax free savings accounts and allows individuals to receive the full pretax return, and this causes the creation of additional capital and increases productivity and increases real wages. So we have got a choice here between the 401(k) plans and the IRAs and the Roth plan, to go from 15 to 14 percent, versus the Archer plan that has the 10 percent rate on the lower capital gains and the reduction of the inheritance tax over time.

    Which of those—in terms of distortions in the economy, which of those would be preferable if we do come up to making a choice between them?

    Thank you, Mr. Chairman.

    Mr. GREENSPAN. Congressman, with respect to your question on Asia, I think that the evidence does indicate that there has been significant recovery in some of the countries. Certainly in South Korea there has been fairly dramatic increase in both industrial production and gross domestic product. The other areas of East Asia are also recovering somewhat slightly less so than South Korea.
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    In all cases, there is considerable concern, however, that that very fact is probably lessening the intensity of the willingness to create the types of reforms that they are going to need in those economies to prosper in the years ahead. And I am fairly well convinced that the economic policymakers within those governments are acutely aware of that problem and are concerned about it. One can only hope that the areas where progress has been most significant, namely where they have opened up their economies and done the types of things which in the long term are very productive, they will continue to do so.

    With respect to the capital gains taxes, I have said here before that I think the capital gains tax is a very poor tax to raise revenue. I think it inhibits capital allocation and capital productivity; and as a consequence, if it is a bad tax, the obvious rate should be zero. That is where I come out.

    On the issue of the choices of the various different types of tax cuts, I don't wish to characterize the plans of either of the two people who are both good friends of mine for a long period of time. I will merely repeat what I have said in the past, namely, I very strongly favor that tax cuts be directed at marginal tax rates and at capital gains tases, largely because I think to enhance economic growth and maintain the type of viability that we have seen in this economy in recent years, we should be focusing on incentives and incentives largely are reflected in their impacts at the margin.

    Mr. ROYCE. Thank you, Mr. Chairman.

    Chairman LEACH. Thank you, Mr. Royce.
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    Ms. Waters.

    Ms. WATERS. Thank you very much.

    Mr. Greenspan, Mr. Kanjorski and others have talked with you, raised questions about the intractable problems of the inner cities and areas where the economy is not performing in the glorious ways that you have described overall—about the overall economy. And this problem persists. You mentioned that there was a flattening out of the gap, or the haves and have-nots. But my latest information shows that the richest 1 percent of Americans now control 40.1 percent of America's wealth, and that is double the 19.9 percent of wealth the top 1 percent held in 1976, I believe it is, or 1996. So it does not appear that there is a flattening out, and if that is not correct, please correct me.

    Second, when you talk about maximum sustainable growth, is there anything that prevents against a discussion about a surplus being used for the poorest of our society in some ways? For example, there are people that come with capital formation plans that talk about Government providing capital, not giving it, but providing capital that would be used for loans and investments to entrepreneurs and business persons who cannot get capital from our traditional institutions, and the Government being paid back because there is a strong belief that this capital can be invested in ways that can reap profits and the money can be paid back. But there is never any discussion.

    Of course, we discuss the debt and why it is important, perhaps, to have the surplus pay down the debt. But can you discuss any positives relative to surpluses being used for investment in these communities that were described on this tour by Mr. Kanjorski in ways that can help fuel—that would be helpful to the economy? I never hear that kind of discussion, as you talk about what it takes for maximum sustainable growth. I would like to know if you can entertain some discussion in that area.
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    Second, Mr. Frank alluded to some comments or discussion about the agricultural community and investment, I suppose, of dollars that would go into the agricultural community. We have seen historically that Government dollars spent in the agricultural community have grown the ability of farmers to produce wealth in this country, whether it was the old electrification or investment in infrastructure that would support agriculture. It appears to have been very, very productive in this country in the same communities where we are talking about a lack of capital, a lack of investment.

    I know your response about what equity investment can do. Aside from that, can you also discuss what perhaps it could mean for investment to close the digital divide and the computer gap, so that we don't continue to have these communities fall further and further behind. It appears that unless these communities are wired, unless they can build what is referred to as backbone or have portals, and so forth, that again this new technology is going to elude these communities and create more poverty.

    So I would like to hear some discussion about Government investment in capital formation, moneys that will be paid back, can be paid back with interest; but the capital is not available in these traditional institutions, so it has got to come from somewhere. And while we allude to what good equity investment can do, it is just not forthcoming. They who have it don't do it.

    Can Government play any role in that?

    Mr. GREENSPAN. Well, Congresswoman, let me say first, there is no question that in the agricultural area there has been a very dramatic increase indeed. Productivity growth in agriculture far exceeds the rate of growth in the rest of the economy. It is a very questionable proposition, however, in my judgment, that that has been the consequence of Government programs. I don't think so.
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    A substantial part of what has been going on there is the result of many technologies which have occurred outside of agriculture and happen to apply in the agricultural area—biotech, electronic, and computer-type of technologies.

    I do think the same type of focus in the inner cities is an appropriate issue. My own priorities are twofold. I think, one, you cannot have a dramatically extended type of high-tech capital stock without the people there who know how to use it and can function with that technology. So in my judgment, the crucial issue is education, to get people to know how to use and apply these things. I don't think it automatically happens if you put a computer in front of somebody that they learn how to use it. That is effectively a presumption which, in my judgment, doesn't work, and I have had considerable unfortunate experiences in that regard.

    We have to build up basic learning skills in math, in all numerical types of professions, to enable people to address this new high-tech reality. If you cannot do that, if you cannot get the people to do that, if you cannot get the resources to do that, it is going to be hard to get the investment in those particular areas.

    I am not very sanguine about Government finding a way to create investment which somehow the private sector does not perceive to be desirable and end up with some new, great, higher standard of living. All of our experience, regrettably, with Government investment where private sector does not wish to go, both in the United States and, I might add, elsewhere, has been, in my judgment, most ineffective.

    What we have got to keep focusing on is the issue of getting private investment in our inner cities. I will reemphasize, it has got to be largely equity investment. There is too much debt being engendered and subsidized in our inner cities and in our lower-income communities. We have got to create incentives, because it is only in that way, I am convinced, that we can move these economies up to a viable level which gets them into the mainstream of the American economy.
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    It is a crucial priority. I think it is very important that that be done. Unless all Americans perceive that our society works, I don't think that we can look forward to having a functioning system the way that we would want it to be.

    So, I fully agree with your purposes. I don't think that endeavoring to try to get Government programs to do it will succeed. We have done that time and time again in the past, and I think we have failed in doing so. And I think that we have to try to do something different, because we cannot take continuing failure time and time again without creating huge levels of discouragement among people. That would be terribly destabilizing to our society.

    Ms. WATERS. Mr. Chairman, I wish I had more time to really engage Mr. Greenspan in some of the comments that he just made. I don't have that time. I hope that I will have time to get with him to talk about subsidies, irrigation, sponsored activities by Government, electrification, SBICs that have fueled MCI and others, because it is all Federal. It is all Federal.

    And beyond that, certainly education is extremely important, and we have got to push and fight for it. But I want to tell you about young folks graduating from high school in Silicon Valley, who are making $70,000 and $80,000 a year the first year, not because they are not capable of doing so, but simply because the investment was there and the opportunities were there. Now is not the time, I don't have the time, but I certainly want to talk to you about that.

    Mr. GREENSPAN. I would be most interested in discussing that with you.
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    Chairman LEACH. The Chair would simply note the gentlelady's contributions to this committee have been extraordinary, and I would hope that the staff, in particular, would be willing to come up and speak at any time with the lady.

    Dr. Paul.

    Dr. PAUL. Thank you, Mr. Chairman. I appreciate this opportunity.

    First, I would like to say that I hope the Humphrey-Hawkins requirement continues; I think that is important. I do also note that frequently at these hearings we don't talk much about monetary policy, which is the purpose of the meeting. We frequently talk about taxes and welfare spending.

    I would like to concentrate more on the monetary policy and the value of the dollar. There are some economists who in the past, such as Mises, von Hayek, as well as Friedman have emphasized that inflation is a monetary phenomenon and not a CPI phenomenon, it is not a labor cost phenomenon. When we incessantly talk about this, whether it is the Federal Reserve, the Treasury, Congress, or the financial markets, we really distract from the source of the problem and the nature of our business cycle.

    I certainly agree that technology has given us a free ride and has allowed us this leverage, but we have also been permitted a lot of inflation, that is, the increase in the supply of money and credit. Since 1987, we have had a tremendous increase in money. The monetary base has doubled; M3 has gone up $2.5 trillion. This money has gone into the economy, but we have reassured ourselves that the CPI has been stable so therefore everything is OK. Yet the CPI has gone up 44 percent since 1987.
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    Real growth in the GDP has not been tremendous. It is about 2.3 per year. But we have had a tremendous increase in capitalization of our stock market going from $3.5 trillion up to $14 trillion. That is where the money is going. This generates revenues to the Government. This has helped us with our budgetary problems.

    At the same time, we ignore the fact that hard money people emphasize that not everybody benefits, and there has been a lot of concern expressed that people are left behind, farmers are left behind, the marginal workers are left behind. Some people suffer more from a higher CPI than others. These are all monetary phenomena that we tend to ignore.

    But you have admitted here today and in the past that the business cycle is alive and well and that we shouldn't ignore it—in your opening statement, you said that we should be especially alert to inflation risks. I think that we certainly should be. And you have expressed concern today and at other times about the current account deficit, and this is getting worse, not better. Our trade balances are off. But I would suggest maybe we have seen some early signs of serious problems because foreign central bank holdings now of our dollars have dwindled to a slight degree. In 1997, they were holding over $650 billion and they are slightly below $600 billion. At the same time, we have seen the income from our investments dwindle to a negative since 1997. So I think the problems are certainly there.

    But I would like to talk a little bit more about, or ask you a question about, this balance of trade and the value of the dollar, because history shows that these dollars eventually will come back. And you have assumed that, that they will, but that essentially the problem that we got into in 1979 and 1980, there is no guarantee that that won't happen again. That means that the markets will drive interest rates up, we will have domestic inflation, the value of the dollar will go down.
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    My question is, what will your monetary policy be under the circumstances? In 1979 and 1980, you were—not you, but the Fed—was forced to take interest rates as high as 21 percent to save the dollar. My suggestion is, it is not so much that we should anticipate a problem, but the problem is already created by all of the inflation in the past twelve years and that we have generated this financial bubble worldwide and we have to anticipate that. When this comes back, we are going to have a big problem. We will have to deal with it.

    My big question is, why would you want to stay around for this? It seems like I would get out while the getting is good.

    Mr. GREENSPAN. Dr. Paul, you are raising an issue which a significant number of people have been raising over the years and for which, frankly, we are not quite sure what the answers are. It is by no means clear, for example, that one can trace the increase in money supply, which presumably has not reflected itself in CPI, into stock values. A lot of people say it is happening and a lot of people assume that is what it is, but the evidence is not clear by any means.

    Dr. PAUL. May I interrupt, please? Did you not write that that was the case with the 1920's and that was the problem that led to our Depression?

    Mr. GREENSPAN. No, I didn't raise the issue that it was in effect the money supply, per se. What I was arguing many, many years ago, and I still think, is that in 1927 involving ourselves with an endeavor to balance the flow of gold in favor of Britain at that time, we did create a degree of monetary ease which was one of the possible creators of speculation in the market in 1928 and 1929. What is not evident in today's environment is anything like that is going on.
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    We cannot trace money supply to a speculative bubble. If a bubble, in fact, turns out to be the case, after the fact, we will have a considerable amount of evaluation of where it came from. But as I have said before this committee and, indeed, before the Congress on numerous occasions, we are uncertain as to the extent to which there is a bubble because, as I said in my prepared remarks, to presume there is a bubble of significant proportions at this particular stage and that the bubble isn't significant doesn't have any meaning; we have to be saying that we know far more than the millions of very sophisticated investors in the markets. And I have always been very reluctant to conclude that.

    We do know that a significant part of the rise in prices reflects rising expected earnings, and a goodly part of that is a very major change in the view of where productivity is going. What we do not know is whether it is being overdone or to what extent it is being overdone.

    I have always said I suspect it is, but firm, hard evidence in this area is very difficult to come by. It is easy to get concerned about it on the basis of all sorts of historical analogies, but when you get to the hard evidence, we do know that inflation is a monetary phenomenon, but what we have a very great difficulty in knowing is how to measure what that money is.

    Remember, M2, M1, all of that are proxies for the money that people are talking about when they are referring to money being the creator of inflation. We have had great difficulty in filtering out of our database a set of relationships which we can call true money. It is not MZM, that is, money with zero maturity, it is not M2, it is not M1, it is not M3, because none of those work in a way which would essentially describe what basically Hayek and Friedman and others have been arguing, and I think quite correctly, on this issue.
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    Chairman LEACH. Thank you very much, Dr. Paul.

    Mr. Sanders.

    Mr. SANDERS. Thank you, Mr. Chairman.

    It is nice to see you again, Mr. Greenspan. I have just a few questions that I would like to ask, Mr. Greenspan.

    In 1973, the average American worker earned $502 a week. In 1998—with a good increase, I should add, over 1997—the average weekly income was $442, 12 percent less than in 1973. So if the average worker is earning 12 percent less in 1998 compared to 1973, if the typical married couple is now working 247 hours more in 1996 than in 1989—we have seen people all over this country working two or three jobs, and so forth—I don't quite understand; maybe I live in a different world than my colleagues—how the economy is booming. That is question number one.

    Number two, we talked a little bit about the distribution of wealth. The wealthiest 1 percent of our population now owns more wealth than the bottom 95 percent. One man, as I understand it, owns more wealth than the bottom 40 percent of our population. CEOs now earn over 400 times more money than do their workers; and we continue to have, by far, the most unequal distribution of wealth in the entire world, proliferation of millionaires, and 22 percent of our children living in poverty. Please be as direct as you can in a moment: How do we address this growing inequality of wealth and income in this country?
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    Third, you made a statement a moment ago that income distribution was leveling out. I have in front of me a recent CBO report that just came out last week. What it says is that between 1991 and 1999 the top 1 percent of family income went from 12 percent to 15 percent, a very significant increase, whereas every other quintile—lower second, middle fourth—sort of declined in their percentage of income.

    Mr. Chairman, I would like to submit that chart to the record. It seems that income distribution in this country is not leveling out, but the rich are continuing to gain more and more.

    The other question that I have is, a couple of years ago you and I dialogued, and I know you were public upon this, about your views on the minimum wage. You and some other people argued that if we raise the minimum wage from $4.25 an hour to $5.15, there would be more unemployment and more inflation. But the fact of the matter is, unemployment is lower than it has been in many years. There is virtually no inflation.

    Is it still your view that we should not raise the minimum wage so that our lowest-wage workers can escape from poverty?

    You, a moment ago, I think reiterated your views on capital gains tax cuts. It seems to me that the evidence is pretty clear, however, that capital gains tax cuts primarily benefit the wealthiest Americans. According to an analysis by Citizens for Tax Justice, the wealthiest 10 percent of all Americans would enjoy more than 90 percent of the capital gains tax cuts in the House tax bill which is before us today. If we are honestly concerned about addressing the growing gap between the rich and the poor, why would we give upper-income people the lion's share of tax cuts?
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    The bottom line of my questioning, Mr. Greenspan, is, I do not agree with my friends here. I do not agree with what I see on television every day, that the economy is booming for the middle class and the working families of this country. I think people are stressed out. They are working incredibly long hours. In many instances, they are working for lower real wages than was the case before. I think that we have an obscenely unfair distribution of wealth in this country where so few have so much and so many have no health care, having a hard time sending their kids to college.

    These are a few of the points that I would very much appreciate your speaking about.

    Mr. GREENSPAN. Congressman, let me come at this seriatim. First of all, the numbers that you are using on decline in the average worker's income, I believe come from a faulty set of data that are being published by the BLS in that if you look at real per capita income, you indeed find there is significant growth and that this is a statistical problem, which we have been struggling with for a while, as to what to do with that set of data.

    Second, on the CBO numbers, I was referring to the last two years. The numbers you were referring to, or the CBO was referring to, were the last eight years. Indeed, from 1991 to 1997, I suspect that that is correct. It has not been correct in the last couple of years where the increased concentration, as best I can judge, has not been occurring. It has stabilized and may even flatten out.

    We do not yet have detailed data for this year, and as a consequence, it can only be a conjecture. I merely reflected the fact in looking at, as I indicated earlier, the unemployment rate of those who tend to be in the lower income groups, that my impression is that when those data come out, you will find in the last couple of years that the economy has had an extraordinarily positive effect in this direction.
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    On the issue of wealth and the like, let me just say that a crucial question I think you have to answer is whether or not if somebody gets wealthy, it is at your expense. This is not a zero sum game. What we have seen is a very dramatic increase in overall wealth in the United States, and while I do not deny that there are very major holdings of wealth by individuals, it is by no means clear to me that these have in any way been extracted from other people in the society. They are the consequence of new ideas, new wealth creation, and have been fundamental factors in pulling the whole economy up. I would in no way consider that that is a negative force in a free society that we experience and, I hope, enjoy.

    On the issue of the minimum wage, I still hold to what I said previously. I never argued, nor would I, that in a period of strong pressures in the labor market, which is indeed what we have been seeing recently, that you find any result from the minimum wage on the issue of employment. Indeed, I think that it is very unlikely when these labor markets are as tight as they are, that the minimum wage has a significant effect in preventing people from getting on the lower ends of the economic ladder to get a job.

    My concern is that when the labor markets begin to weaken, those people who are not allowed by law to accept a wage beneath a certain number can find no job. As a consequence, they do not get on the first rung of the ladder, cannot achieve job skills, cannot achieve the self-esteem that is necessary to move up the ladder.

    I do not perceive that the minimum wage is something which is a benevolent force for people in the lower part of our income groups. I frankly think that it is something that deprives them of gaining what they should be obtaining by right, and I do not consider the minimum wage as a positive force in our society. I think it is precisely counterproductive to what you suggest it is trying to do.
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    Mr. SANDERS. I certainly wish we had the time to engage in a dialogue on this, because I think that you are wrong in many instances. I would just simply say, Mr. Chairman, that I think there is something profoundly wrong when we read in the papers—last week in The Washington Post, some 40,000 kids in this city, in the District of Columbia, go hungry—and at the same time, we have a proliferation of millionaires and billionaires. And there are those who want to cut back on taxes for the richest people and, therefore, cut back on programs like nutrition programs. I think that is wrong and fundamentally flawed.

    Chairman LEACH. Mr. McCollum.

    Mr. MCCOLLUM. Thank you, Mr. Chairman.

    Chairman Greenspan, in a section of your testimony entitled ''Near-Term Outlook,'' the quotes are in here that the bank presidents and the governors expect the growth rate of real GDP to be between 3.5 and 3.75 percent over the four quarters of 1999 and 2.5 to 3 percent in 2000. The unemployment rate is expected to remain in the range of the past eighteen months; we talk about the unemployment rate remaining in that range for the next eighteen months.

    I assume in the context—I am asking if I am correct to assume that the preceding statement about the GDP rate in 2000 that we are talking about, the expected unemployment rate, to remain in this past range is for the period of the next eighteen months. In other words, your near-term outlook when we talk about the unemployment rate, you are talking about the anticipation of it remaining the same for the year 2000. In other words, we are looking ahead eighteen months here in this portion of your testimony; is that correct?
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    Mr. GREENSPAN. That is correct. That is a result of a poll of the presidents and the governors as to what they view the outlook to be from their point of view.

    Mr. MCCOLLUM. That is what I was getting at. I just wanted to make sure that I had the timeframe you were looking at for all of us. There is no mention of there being polls, so I am going to ask your opinion on this, because I don't see it here as a polling part.

    Is there any sign for this next eighteen months, on this near-term outlook, of a slowdown in the rate of productivity in the economy, or is it expected, in your judgment, to continue, based on current signs for this period? I am not talking about the next eighteen months, roughly the same.

    Mr. GREENSPAN. We don't ask the individual presidents and governors for their forecast of productivity. I guess we could infer it by looking at the relationship between their growth rate and their unemployment rate and knowing that the labor force is growing at a reasonable rate, but we haven't done that.

    My presumption is that in all of the numbers there is a reasonably good growth in productivity, but I do not know nor can I infer what the numbers implicit in their forecast would be.

    Mr. MCCOLLUM. I understand that, but I am just asking you personally now, do you see any sign in the slowing of the——
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    Mr. GREENSPAN. I am sorry. I didn't catch that.

    The answer is, I have not; in other words, the productivity growth in the very latest data with which we are dealing shows no evidence of which I am aware that suggests an imminent slowdown.

    Mr. MCCOLLUM. In the next paragraph of their outlook, it says, for the nearest term, ''Inflation, as measured by the fourth quarter percent change in the Consumer Price Index, is expected to be 2.25 to 2.5 percent over the four quarters of this year. CPI increases thus far in 1999 have been greater than average in 1998, but the governors and bank presidents do not anticipate a further pickup in inflation going forward.'' .

    I assume this also is the context of the next eighteen months.

    Mr. GREENSPAN. That is correct, yes.

    Mr. MCCOLLUM. It also goes on to say, ''An abatement of the recent run-up in energy prices would contribute to such a pattern, but policymakers' forecasts also reflect their determination to hold the line on inflation through policy actions if necessary.'' But I assume, again going back to your perspective on this—not theirs, because theirs is not obviously here for me to ask this of—that there is no reason to anticipate that there is going to be a pickup of inflation going forward over the next eighteen months, whether there are any policy changes or not. There is nothing out there right now to anticipate inflation being picked up, is there, Mr. Chairman, over the next eighteen months at this moment?
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    Mr. GREENSPAN. Well, as I have said many times, our ability to forecast is really quite limited. What we can do and, hopefully, do well, is try to evaluate what is currently going on in trying to infer what that might imply about the future; and hopefully—I hope at least—that our monetary policy reflects that. In other words, we cannot know—nor can anybody precisely know—what the economy is going to look like eighteen months from today. We don't need to know that, provided we can be aware of what is currently developing and how it is likely to go. We are, of necessity, always dealing with probabilities, and it is a judgment of cost-benefit analysis and probabilities which govern our specific actions.

    Mr. MCCOLLUM. Mr. Chairman, I have been in these hearings enough with you to know better than to ask, nor do I want to imply that I am asking, any prediction about policy in terms of Federal Reserve Board. But what I am wanting to tie down here, so I fully understand this in the same context as I have asked the other questions, is that over the next eighteen months—at the present moment, as things stand today, not as they might change—is there no reason to anticipate, based upon what I am seeing here, that the governors and the bank presidents have said, to anticipate any inflation picking up, whether there is any action taken or not.

    Mr. GREENSPAN. Mr. McCollum, I have a problem with the question in the sense that there are always reasons to be concerned, if you are a central banker, that inflation will be picking up. If we become complacent and say there is really no reason, then I think we could get ourselves in trouble. I certainly would hope that inflationary forces will remain submerged. I certainly would hope that if we begin to see them emerge, we will take action to forestall that.
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    Mr. MCCOLLUM. I hope you do, too.

    I don't want to quibble over words. My only point was this: At this moment, this day, at this hour, there is no reason to anticipate that, at this moment, based on what we see now. That is what you are saying, that is what the Board of Governors——

    Mr. GREENSPAN. I am saying that the forecast that you are alluding to is the projection of the governors and the presidents. I don't want to characterize that, Congressman.

    Mr. MCCOLLUM. I understand. I am not trying to quibble. I just wanted to make sure that I put in that context that we are looking at eighteen months.

    Mr. GREENSPAN. Correct.

    Mr. MCCOLLUM. Thank you.

    Chairman LEACH. Thank you, Mr. McCollum.

    Mrs. Maloney.

    Mrs. MALONEY. Thank you, Mr. Chairman, and welcome, Mr. Greenspan. I am interested in the international effects of raising the Federal funds rate. In the current issue of economic review of the Federal Reserve Board of Atlanta, there is an article entitled ''Understanding Recent Crises in Emerging Markets.'' and in this article, they place an emphasis on the rapid rise of the U.S. dollar between 1995 and 1997 as a prominent cause of the Asian crisis in 1997. I would like to quote, and I quote now, ''Changes in the value of the dollar had a direct effect on the economics at the center of the Asian crisis because all those countries were tying their own exchange rates fairly closely to the dollar.''
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    If the Fed continues to raise the Federal funds rate as it has recently done, how soon do you think there will be increased capital inflows to the United States and increased demand for the United States dollar and then increasing value for the United States dollar; and what effect will such a policy have on the economies in Asia and South America, which are trying to recover?

    Mr. GREENSPAN. Well, Congresswoman, if I understand you correctly, what you are saying is that because a number of countries chose to lock their currencies into the dollar, but didn't take the types of policies that would be required to maintain the type of discipline that would be necessary to tie into the dollar, the cause of their problems is the Federal Reserve. It strikes me that if you try to lock your currency into a hard currency, you have the obligation to develop policies that are consistent with that. There is no way of getting the advantages of a hard currency without taking the actions which a country which hosts the hard currency are taking.

    I object to a view which stipulates that somehow we are responsible for those who wish to tie their currencies to ours, but not do what is required to achieve the stability that is implicit in that. I don't frankly think that is true. I think the characterization that you imply in that or what——

    Mrs. MALONEY. As I said, I was quoting from the——

    Mr. GREENSPAN. All they are saying is, the exchange rate was running against them. They had several choices. They could have floated their exchange rate, they could have done many things, but I object to that sort of analysis. I object largely because it presupposes that we are in charge of other people's policies; and we shouldn't be.
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    We want to be as helpful as we can. Over the years we have tried to create environments where we can be helpful where we can, but I do not believe that the presumption that the central bank of the United States is responsible for the rest of the world is an idea that we should foster, because I am concerned that were we to do that, we would become the central bank not for the United States, but for the rest of the world.

    I do not think that is proper for us, and I certainly do not think it is proper for those with whom we deal in international financial markets or in trade.

    Mrs. MALONEY. So, finally, what part do these concerns, if any, play in the current development of the Federal monetary policy?

    Mr. GREENSPAN. Congresswoman, I have mentioned time and time again that it is good economic sense for us to remember that we are the central bank of the United States, that our focus has got to be on the stability and viability of the American economy. We are not without awareness of the impacts; one, that we have on others or two, they have on us. And we endeavor in various international fora to find comity among ourselves in integrating policies, one government, one central bank, to another. But the bottom line has got to be that we cannot be the central bank for others. Our problems are difficult enough in the United States.

    Mrs. MALONEY. So you don't look at international concerns, only American concerns.

    Finally, in today's Wall Street Journal there is an article where they welcome more immigration to alleviate the tight labor market. How do you feel about that? Did you see the article?
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    Mr. GREENSPAN. Yes, I did. I have always been of the view that we have always been a country which has people—indeed, everybody, except for a very small proportion of our society—that have roots in other countries. I have always thought that under conditions such as we now confront that we should be very carefully focused on the contribution which skilled people from abroad, unskilled people from abroad, can contribute to this country, as they have for generation after generation.

    Mrs. MALONEY. I have heard you testify many times that the tight labor markets will lead to inflation, yet we seem to have astonishingly low unemployment. It is 4.3 percent right now, and we are creating 170,000 new jobs a month. Could you comment on that? Do you see that moving toward inflation, or do you feel there is a new phenomenon in our economy with high technologies?

    Mr. GREENSPAN. If you look at the figures, what we are seeing is that it is the acceleration in productivity which has had such an extraordinary effect on our economy that, indeed, what it has done is enabled us to grow at a fairly pronounced clip. It has kept inflationary pressures in check. A number of forces, which I described in my prepared remarks, join in with accelerating productivity to sustain a low inflation rate. And, indeed, the only point I make in my prepared remarks, which I have made previously, is that the total pool of those who are job-seekers—in which I include the official unemployed, plus a significant number of people who are not in the labor force, but nonetheless say they would like a job—the combination of those two has been declining.

    And the point that I have been making for quite a while is I don't know where that is—the level where that will trigger market pressures. But I do know, because the law of supply and demand has got to work eventually, that there is a point at which, if that pool of people seeking jobs continues to decline, at some point it must have an impact.
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    If we can open up our immigration rolls significantly, that clearly will make that less and less of a potential problem.

    Mrs. MALONEY. My time is up. Maybe we will have a second round. Thank you very much.

    Chairman LEACH. Thank you, Mrs. Maloney.

    Mr. Cook.

    Mr. COOK. Yes, thank you, Mr. Chairman.

    Chairman Greenspan, a $1 trillion tax cut, or $792 billion tax cut over ten years, like we are going to be voting on today, seems like an awfully large tax cut until you consider that in light of approximately $28 trillion to $30 trillion of Government spending that is going to take place during the next ten years and a gross domestic product that will be going through this country of about $125 trillion over that same ten years.

    And my question to you is: Is this tax cut that we are considering today not kind of a modest attempt, but rather positive step toward trying to create some incentive for boosting private savings and investment, something that you have always been very concerned about?

    Mr. GREENSPAN. As I have commented before, Congressman, in the short run, I think not. If our purpose is increasing private savings at this particular point, we are probably going to do it at a considerably greater pace if we allow the surpluses to run and Government debt to run down.
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    Over the longer run, you can only get savings through the private sector. And eventually what you need is to get a significant amount of incentives to increase the aggregate level of output, which will engender the amount of savings that you need to create capital investment.

    I think we are in a very special period now, one of the extraordinarily rare periods where I, who have always advocated at any time marginal tax rate cuts and, indeed, as I have indicated to your colleague, a zero capital gains tax, am saying, hold off for a while.

    And the reason I am saying that is that I think that the timing is not right. We will need a very important reduction in marginal tax rates and in the capital gains tax rate at some point in the future when this economy inevitably falters; because I argue that the business cycle is not dead, I just don't know when it is going to turn. I frankly don't have a clue, because at the moment, we are exceptionally well balanced. I just know that human nature being what it is, eventually something is going to happen.

    I want to be sure that we are at that point prepared to initiate very substantial cuts in marginal tax rates, and hopefully, a major reduction in the capital gains tax rates because at that point, I think that will be the most effective means that we can have to regenerate the economy and keep the long-term growth path moving higher.

    Mr. COOK. Keeping in mind that this tax cut now has some kind of a trigger mechanism to make sure the debt doesn't really increase.

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    Mr. GREENSPAN. Which I approve. I think that is a very good idea.

    Mr. COOK. I really fail to see what is wrong with moving on that path simultaneously. In other words, clearly, this tax cut is at least a chance to build private savings and investment. But what are the best ways of stimulating the things that you have been so worried about over the years, and that is the lack of private savings and investment—what is the best plan for that?

    Mr. GREENSPAN. I think that the best way at the moment, in the short run, is to allow the surpluses to run for a while. And the reason I say that, as I said before, is that all we are doing is postponing decisions. Because if the Government debt goes down, as I said before, for every dollar it goes down, you are increasing the borrowing capacity of the Federal Government by that amount. And I see no reason why we have to make decisions crucially at this point until we are sure that we really have got the surplus in tow.

    The range of error on our forecasting capacity in the fiscal area is not very impressive. Once we know we really have got it locked in place and, hopefully, if we are not being confronted with large numbers of spending programs which try to eat up the surplus, I think at that point we can basically focus on getting important tax cuts in place.

    As I said previously, the only thing which would get me to be strongly in favor of major tax cuts now is if I became concerned that the surplus was going to be employed for increasing spending programs. I hope that is not the case. If that occurs, then I must admit that I would change my view, and I would be strongly in favor of tax cuts now. I think it is the second-best alternative.
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    To me, currently, the first-best is to allow the surpluses to run and the Government debt to run down.

    Chairman LEACH. The gentleman's time has expired. And I thank him.

    I would like to make an announcement and a proposal to the committee. I have been informed that we are going to have a series of three and possibly four votes on the floor in about ten minutes, which means the committee can go about fifteen minutes. And I think these votes will take close to an hour on the tax bill. And what I would like to propose is that we divide time, we have five Members that have not spoken at three minutes each. And I think it is unfair, but I think it is fairer than leaving someone out. Would there be objection to that?

    If not, that is the way we will proceed, and let me turn to Mr. Watt.

    Mr. WATT. Thank you, Mr. Chairman.

    I find myself always being exhilarated and depressed when I hear Mr. Greenspan give his presentation, and I don't know which one is greater. My depression, I think, always is centered around this question of employment and whether we can both grow the economy. Maybe the title of the Full Employment and Balanced Growth Act of 1978, which is what you come to report on every year, really is somewhat at odds, based on my understanding of where you come down on this every year.

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    The concern I have is, on page 2 of your testimony you have a statement: ''One indication that inflation risks are rising would be a tendency for labor markets to tighten further.'' I have heard you—the first time you gave this report, and I was on this committee, I was kind of shocked to hear you say that you thought, as I recall, that if unemployment fell below 5, 5.5 percent, that was going to be dangerous.

    And, of course, I guess that is in the context, over time, that I have come to understand that productivity has to be growing more than—in exchange for reducing unemployment, productivity has to be growing to keep inflation from taking place, I take it that is what you are saying.

    What is this ''tighten further''—well, let me not ask that question, but ask the question: Why is it that it is always the unemployment that is scary and not the earnings growth that is scary?

    It seems to me that all of this is a function of inputs and who gets what out of the growth. Wages are what the working people get out of growth. Earnings are what the capital gets out of the growth. Yet, on page 7 when you say ''Except for a short hiatus in the latter part of 1998, analysts' expectations of five-year earnings growth have been revised up.'' You seem to suggest that is a wonderful thing.

    What is the interplay here and where do we get to a point where we say—or do we ever get to a point that we say that earnings may be outrageously high as opposed to wages being outrageously high or unemployment being too low?

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    Chairman LEACH. The Chairman has 30 seconds to respond.

    Mr. GREENSPAN. It is unfortunate, because I think the Congressman is raising a very important and, I think, a very thoughtful issue.

    Let me say just very quickly that over the years, the ratio of profits to employee compensation tends to be very stable. The reason for this is that the markets are working in a manner in which, when profits go up, so do wages, but both are determined by the degree of productivity in the system. Real per capita income of the average American tends to move very closely with national productivity.

    And one of the things about a market economy which works so effectively is it does tend to distribute income between profits and wages and compensation in a remarkably stable way. There is a lot to be said about this issue, and I think it creates considerable concern, because it makes it appear that if wages go up, that that is bad. It is not. If real wages go up, that is good. If nominal wages go up in the context of inflation, that is bad, because it means real wages are not moving at all.

    Chairman LEACH. Mrs. Kelly.

    Mrs. KELLY. Thank you. Thank you for being here.

    In your last appearance before the committee in May, I asked you about the latest news on the trade deficit, which had then set a new record of $19.7 billion. On Tuesday, the Department of Commerce came out with even higher trade deficit numbers, $21.3 billion. It seems as though we are seeing a trend here.
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    And the last time I asked you about this, you said: ''the long-term equilibrium is working against us, but so far it appears long-term. There is very little, if any, evidence that there is anything immediate to create a problem for us.''

    In your reply to Mr. Bachus' question about the trade deficit, you said: ''Theoretically, this cannot go on indefinitely. It will result in a lesser ability to hold dollar claims.''

    How much bigger do you think the trade deficit would need to get before foreign investors relocate their portfolios out of the dollar denominated assets?

    Mr. GREENSPAN. I don't know the answer to that question, nor do I know anyone who does. I would merely repeat what I said to you the last time. So far, the current account is increasingly negative—the trade deficit is increasingly negative but it is being offset by increasing desire on the part of foreigners to invest money in the United States at rates of return which they perceive to be superior to what they can get elsewhere. So, as long as you can finance the deficit, it creates no imbalances.

    I must assume that somewhere it is going to change, but so far, it has been really quite impressive.

    Mrs. KELLY. What policy changes, if any, would be effective in closing the trade gap? Do you want to—will you be willing to answer that?

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    Mr. GREENSPAN. I would, if I could. It is a very tough set of questions, and I think the Chairman is suggesting that I had better limit my remarks. The bottom line is sound general monetary and fiscal policies are the best way of approaching this issue. The one thing we do not want to do is engage in protectionism or any other related restriction of movement of goods and services or capital because, in my judgment, that will turn out to be counterproductive.

    Mrs. KELLY. Thank you.

    Thank you, Mr. Chairman.

    Chairman LEACH. Thank you, Mrs. Kelly.

    Mr. Bentsen.

    Mr. BENTSEN. Thank you, Mr. Chairman.

    Chairman Greenspan, let me follow up on your comments regarding the sound monetary and fiscal policy. First of all, you sort of sound like a Keynesian today.

    Mr. GREENSPAN. I hope not.

    Mr. BENTSEN. I am not saying that in terms of a criticism, I am sure there are many who would. And I do have some other questions regarding monetary policy that I will ask for the record, and I will get those to your staff.
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    In response to Mrs. Roukema and our colleague from Utah, you had commented that it probably would be better to hold off on the tax cuts that we are debating or getting ready to vote on on the floor. In your statement, you talk about the action that the Open Market Committee took recently to push up the Fed funds rate because of fear that the economy, having rebounded from the Russian crisis and the Asian crisis, now appears to be on the verge of possibly overheating.

    You indicate that in the short run you don't see this tax plan as increasing investment—or private savings; thus, it would appear that you see it as increasing demand or increasing consumption and thus demand. Is that where we are heading with this tax cut?

    Second of all, what is your faith or how strong do you believe in the assumptions that have been made with respect to the on-budget surplus—not just one year, but five years and ten years; and what risks are there to the general economy of having locked in a tax cut that we then have to borrow more to pay for, and does that devalue the value of U.S. debt and the U.S. dollar?

    Mr. GREENSPAN. Well, let me say, first, Congressman, I think that the first principle that one should apply in this type of outlook is that you should not commit contingent potential resources to irreversible uses. And as a consequence of this, as I indicated to your colleagues earlier, the probabilities of errors around the forecasts we can make—surpluses, deficits, five, six or eight years out—are very large.

    Now, I don't think that the issue really at this stage necessarily comes to grips with the problem of demand-side or supply-side issues here, because most of the tax cut proposals do not really take on any volume for quite a while. So you cannot really argue that the proposal is to cut taxes next month. That is not what is being proposed.
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    These are long-term tax proposals which have, at root, a concern that unless the surpluses are absorbed, they will be used for increased outlays.

    I happen to have a very considerable sympathy with that particular concern, and as a consequence, I think that the notion of using a potential trigger in that regard is essential.

    But I will repeat, I would prefer that we allow the deficit to run down and, hopefully, that that, in turn, would not engender a whole new series of spending programs, because were that to happen, I think that we would be getting into serious difficulties.

    Mr. BENTSEN. Thank you, Mr. Chairman.

    Chairman LEACH. Mr. Ryan.

    Mr. RYAN. Given the fact that our beepers just went off to vote for this tax cut, I will pursue that line of questioning instead of something else that we wanted to talk about.

    Mr. Greenspan, several times in the past you have talked about the dynamic effects associated with certain types of tax cuts, specifically income tax rate cuts, capital gains tax cuts. In modern history, every time Congress has passed those kinds of tax cuts, we have actually stimulated economic growth and raised revenues from those very taxes. One of the things that I am hearing here from all of my colleagues and yourself is that we need to make sure that these surpluses actually materialize, and when these surpluses materialize, that will give us the chance of paying down publicly held debt and paying down the private debt.
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    Now, given the fact that that this current budget reduces $6 of debt for every $1 in tax cuts over the next five years, we are achieving substantial debt reduction; that is, $6 of debt reduction for $1 of tax reduction, and the tax reduction that we are imposing and voting on in a few minutes are the very tax cuts that in the past and present you have advocated as ones that increase economic growth and actually increase revenue growth.

    Wouldn't you say that this is the best chance, from a fiscal policy standpoint, of ensuring that these surpluses actually do materialize, that growth continues, that jobs are filled, taxes are being paid, and the surpluses actually do materialize?

    Mr. GREENSPAN. Well, Congressman, I start with the presumption that for a large number of reasons, not the least of which is the incentives that we have created in this economy, we have got a remarkable acceleration in technology innovations and new types of capital investment at very high rates of return.

    I do not foresee the need at this particular stage to argue the question as to whether new taxes or cuts will enhance this. I think it is going at the moment probably about as fast as we can do it technologically. So I would far prefer to hold off on significant further tax cuts to when we will need them to keep this process going.

    So I am not against tax cuts as such. On the contrary, I have argued for decades the great advantage of reducing taxes, and I am sort of quite pleased that that has become, to a certain extent, the conventional wisdom. It is merely the timing that I refer to. And at this particular time, the first priority, in my judgment, should be getting the debt down, letting the surpluses run, and, as has been suggested here, to put in contingency plans so that in the event that that is happening, that you could move forward at a later date with tax cuts provided that there is an additional trigger in there in the event that the economy is moving down.
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    Chairman LEACH. We have to move to the next two speakers.

    Mr. RYAN. I yield back the balance of my time.

    Chairman LEACH. I want to thank you, Paul, for being here the whole day; and I know how frustrated you are.

    Mr. Sandlin.

    Mr. SANDLIN. Thank you, Mr. Chairman.

    I will go quickly on that same subject, since we are talking about the tax cuts, as Mr. LaFalce mentioned earlier today, recently interest rates were raised in an apparent attempt to hedge against anticipated inflation. If these tax cuts that my colleague is talking about, if $800 billion to $1 trillion are unleashed on the economy, what effect would that have on interest rates? And if there are, in fact, some sort of savings, would not those savings be more than outstripped by the additional cost of the interest?

    Mr. GREENSPAN. It is very difficult to judge in the abstract what individual fiscal policies will do. We can in the theoretical sense; I haven't found that very effective. I think that what we in the Federal Reserve would be doing is, as we always do, observe what is happening to the economy and respond to the economy.

    You can argue effectively on both sides of this issue, and I don't think that we need to come out with a judgment one way or the other, because our response is not going to be to taxes; one way or the other, it is going to be what is happening in the economy.
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    Mr. SANDLIN. But you must think that inflation is slowed by an increase in the interest rate or you wouldn't do it. If there is money unleashed on the economy, the economy will be fueled and grow and interest rates will increase, and so it seems that American families and business will see a slight savings in tax, but with the interest rates being escalated, that will more than offset it.

    Mr. GREENSPAN. I understand the concern you have, and a lot of people hold that particular point of view.

    It is not easy to make a judgment in a particular case, especially with the degrees of unknowns that we have with respect to the rate of growth of productivity out there and a number of other elements, which are quite relevant to the decision of how a tax cut will affect the economy.

    Mr. SANDLIN. Would you agree that you raised interest rates to hedge against anticipated inflation?

    Mr. GREENSPAN. We mainly raised rates to restore levels of rates to where we thought they ought to be, granted that the actions we took last fall were to a substantial extent to address a seizing-up in the financial system which has gradually dissipated.

    Mr. SANDLIN. I assume the time is about out. Let me move to something else.

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    Chairman LEACH. Very quickly.

    Mr. SANDLIN. Then I will take that as a cue and thank you for responding. I yield back the balance of my time.

    Chairman LEACH. I want to give Mrs. Lee a chance. And I thank you, too. You have been terrific.

    Mrs. Lee.

    Mrs. LEE. Thank you, Mr. Chairman.

    Good morning. It is good to see you again, Mr. Greenspan. You pointed out in your statement that the employment rate for those with less than a high school education has declined from 10.75 percent in 1994 to 6.75 percent today, which is a very positive statistic. But we do know that many of these individuals are minimum-wage earners with little or no benefits and some are really part of the working poor.

    Now, as Congresswoman Waters pointed out earlier, not much attention is being given to use some of our surplus to help raise the standard of living for the poor, for children, for those who really have not benefited from this tremendous economic boom. And I agree that we should use most of the surplus or a large part for debt reduction, but that does, of course, reduce interest rates for middle- to upper-income individuals, but those that don't have credit cards, that don't have mortgages and that don't have incomes that will allow for them to benefit from our economic boom still are not part of the mix.
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    So what I am just asking you once again is, I believe I heard you clearly say to Congresswoman Waters that there should not be really many strategies you believe that utilize the surplus for the benefit of those individuals who have not really benefited, but that it should be the private sector's responsibility only?

    Mr. GREENSPAN. Congresswoman, the central thrust of my argument is that we have had program after program which hasn't worked, and I think that creates discouragement. And merely to take a number of programs which haven't worked and just add to them because it makes it appear as though we are doing something I think is counterproductive. I think we have got to really make certain that what we do does what we want it to do, and that is crucial to me.

    And so it is easy to talk in terms of Government programs, but they just haven't worked. We have got to find a way for the private sector to get in there, get real jobs, get things working and not have another failure. That is my major concern.

    Mrs. LEE. Thank you very much, Mr. Chairman.

    Chairman LEACH. Thank you, Mrs. Lee.

    And, Mr. Chairman, I thank you very much. This brings to a conclusion the Humphrey-Hawkins hearing, and we are very appreciative of your patience, your judgment, and the professionalism of the Federal Reserve Board. Thank you.

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    Mr. GREENSPAN. Thank you very much, Mr. Chairman.

    Chairman LEACH. The hearing is adjourned.

    [Whereupon, at 1:54 p.m., the hearing was adjourned.]