Mr. Chairman and Members of the Committee. It is a pleasure to appear before you today as President Clinton's nominee to be a Member of the Board of Governors of the Federal Reserve System. If the Committee and the rest of the Senate approves my nomination, I look forward to serving in this important position. I promise to work with the other Members of the Board, and with the Committee, to carry out the objectives that the Congress has established for the Federal Reserve, both for overall monetary policy and to assure the safety and soundness of our nation's banking and payment system.
Were I to rejoin the Federal Reserve System, this would complete the cycle for me. After receiving my Ph.D. in Economics from Yale University in 1965, my first professional job was with the research staff of the Fed. I served there for five years, being part of a new and at the time avant garde project to build an econometric model explaining the workings of monetary policy. This was a very heady project for a young economist, and one that I think was very productive. A successor version of this model is still in use at the Fed. I will never claim, nor did I then, that models could explain everything, but the attempt to specify the workings of monetary policy in hard and cold terms has led to great insights on appropriate overall macroeconomic targets for monetary policy and on strategies to achieve these objectives.
I left the Fed in 1970 to become Director of the Policy Research Division at the Office of Economic Opportunity. After that I became first a Senior Fellow at the Brookings Institution, and later a Professor of Economics and Public Policy at the University of Michigan. At Michigan I have served for eleven years as either Dean of the School of Public Policy or Director of the Institute for Public Policy Studies (die predecessor institution). I have also spent four years as Chair of Michigan's Economics Department, and while on leave, two years back in Washington as Deputy and Acting Director of the Congressional Budget Office.
Over this time my work has spread out widely from my early econometric model days. I have both taught and written on macroeconomics, income distribution, state and local fiscal issues. benefit-cost analysis. education, and in recent years have delved into the economics of professional baseball (I was staff director for baseball's Economic Study Commission) and Social Security (I was Chair of the Quadrennial Advisory Council on Social Security).
While the particular topics are very different, there is a common theme to this work. Throughout my professional life I have believed in, and tried to promote, policies that are economically practical but still provide opportunities for human growth and advancement. The Social Security plan I proposed, for example, is the one that I feel best preserves the important social protections now built into Social Security, but also provides for enough total saving that future benefits can be afforded economically. At the CBO I and others there argued for humane ways of cutting deficits; at OEO for economically efficient ways of dealing with poverty. I strongly feel that both economic and social goals are important. Sometimes one's advice must be weighted towards economic practicality, sometimes towards humanity. A good economist should know how to balance both objectives, which is what I have tried to do throughout my career.
Turning now to issues facing the Federal Reserve, the overall objectives of Federal Reserve policy, listed in the Federal Reserve Act, are "maximum employment, stable prices, and moderate long term interest rates." Let me discuss each.
In the long run the most fundamental of these objectives is stable prices. In the short run there are many factors -- oil price shocks, exchange rate movements, bad harvests -- that can influence price movements. But in the long run I believe, along with most other economists, that the fundamental responsibility for controlling a nation's inflation rests with its central bank policies. It used to be felt that inflation could be related in a very mechanical way to the rate of money growth. These days this linkage has become more complicated because of the impact of financial innovation on holdings of various monetary assets. But while the relationships may have become more complicated, Federal Reserve policy is still the dominant influence in determining US inflation rates in the long run. I believe both that it is important to keep inflation under control, and that the Fed must play an important role in doing so.
Since nominal interest rates equal real interest rates plus the rate of inflation, controlling inflation also controls nominal interest rates. Real interest rates can then be controlled by fiscal policy. Modem day macroeconomic thinking suggests that when economies are open to international trade and capital flows. monetary policy becomes the key policy to stabilize employment and fiscal policy determines overall national saving rates and real interest rates. If the Federal Reserve is adequately guarding stabilization needs, fiscal policy is free to keep national saving rates high and real interest rates low. That would be my idea of a desirable monetary - fiscal policy mix.
Previously I have worked mainly on the fiscal side. At the Congressional Budget Office I was a strong proponent of deficit reduction, as a way to raise national saving. In the Social Security Council I was a strong proponent of policies to raise national, and retirement, saving. Joining the Fed will give me an opportunity to work on this issue from the monetary side, but I will retain an interest in fiscal restraint as a key way to assure long run low real interest rates.
Finally, the objective of "maximum employment" brings up the famous tradeoff between inflation and unemployment. Along with most other economists, I believe that ultimately there is not much of a tradeoff -- some unemployment rates are so low that, if continued, will lead to steadily accelerating price increases. In the economic literature, the lowest sustainable rate of unemployment rate has come to be called NAIRU -- the non-accelerating inflation rate of unemployment.
While I am often asked whether I believe in NAIRU. I think that this simple question glosses over the key policy issue. For it turns out to be rather difficult to measure and identify NAIRU. When I first came out of graduate school the target unemployment rate (we did not use the term NAIRU in those days) was said to be about four percent. Later on, as US inflation became virulent, the standard estimate shifted to above six percent. Now, the economy has been operating for a while in the range of five percent unemployment, with as yet few signs of incipient inflation. Given all this uncertainty, one can believe in a loose sense in the existence of NAIRU, but still find it hard to say how one would vote on monetary policy in particular circumstances. I would put myself in that category.
Part of the reason for this uncertainty could be that the manifestations of inflation are rather subtle. Chairman Greenspan in the past has defined stable prices as a set of economic circumstances where inflation per se plays little role in economic decisions. The US economy may be close to this point now. The soaring stock market may be one indication that the inflation monster has at least for now been tamed. Another suggestive indication is that thespre ad between long and short term interest rates is very narrow -- there has never been much explanation for this spread, other than that bond markets have distrusted the central bank's long term commitment to stopping inflation. Right now, bond markets seem to have become more trusting of the Fed. There are still other advantages of stable prices, and it stands to reason that one of those is that NAIRU might decline a bit -- that is, in the end stable prices may even advance the goal of maximum employment.
Hence I would be an advocate, of promoting maximum employment within the Fed's long term important responsibility to control inflation. These conditions would assure a healthy economy, a reasonable growth in living standards over time, and a realistic chance for workers of all income levels and ethnic backgrounds to prosper.
Finally, the Federal Reserve has other significant responsibilities that extend beyond overall monetary policy. It has important responsibilities for regulating the safety and soundness of the banking system, for promoting efficient payments systems, and for insuring fair and nondiscriminatory allocations of credit. While I have studied these issues less than overall monetary policy, I see them as particularly important right now. Regulatory issues have become very complicated with the rapid financial innovation now proceeding within the nation's banking system. The Fed has to provide a regulatory environment that facilitates financial innovation, but yet preserves safeguards. I will work with the other Board Members to try to fashion a forward-looking, but safe, regulatory strategy.
Mr. Chairman and Members of the Committee, I would be happy to answer any questions
you might have.
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