The Colossal Turnaround: Who's to Credit
The largest turnaround in the nation is not a commercial concern, but a dramatic change in the federal deficit picture. Following decades of government spending outpacing receipts, the deficit in fiscal 1997 dropped to its lowest level in more than two decades, and we are facing the first balanced budget in 30 years in fiscal 1999. At the same time, the U.S. economy has churned out exceptionally healthy numbers, with robust gains in output, employment and income while inflation has remained low over the course of the 1990s.
But who’s to credit for this dramatic change? Many politicians, both Republicans and Democrats alike, are claiming responsibility for this colossal turnaround. Some praise President Clinton’s 1993 budget package, while others credit "lucky factors" that have kept the economy humming.1 But the true impetus behind this rapid change can be found in the Federal Reserve’s stringent monetary policy and corporate America’s profit enhancements and business investments.
Monetary policy, as established by the Fed, has sought to maintain a steady posture in the money market while closely monitoring economic developments. Thus, the central bank’s proactive policy has reduced the deficit by controlling interest rates and spurring private investment.
Consequently, we are experiencing the lowest unemployment levels in 24 years, the lowest core inflation in 30 years, rising income levels, the highest home ownership in history and a global stock market boom.
The Fed’s policy has been formulated to ensure long-run stability. Virtually all of today’s news articles proclaim the economy’s exceptional performance and that the expansion remains well intact for quarters to come. Furthermore, the Fed’s actions have developed conditions in financial markets that are supportive of continued growth: Longer-term interest rates are in the lower portion of the range observed in this decade, the stock market has registered all-time highs, and credit remains readily available to private borrowers while output grows briskly.
Already, we are more than six years into the current economic expansion. In part, the recent confluence of higher-than-expected output and lower inflation has reflected in favorable influ-ences on consumer prices. But it also may be attributable to more durable changes in our economy, notably a greater flexibility and competitiveness in the private sector, particularly through labor and product markets and more rapid, technology-driven gains in efficiency.
Further still, the Fed’s monetary policy helps the nation achieve maximum sustainable growth and the high-est average living standards. For much of the 1990s, con-sumer spending has surged, fueled by a significant increase in income, upbeat consumer attitudes and the effects of the huge run-up in equity prices over the past couple of years on household net worth.
The advance in our nation’s output has provided considerable support for new hiring, with rising pay and greater job availability drawing additional people into the workforce. As a result, households have experienced hefty gains in income, and wealth, and their optimism about the future has soared to some of the highest readings since the 1960s.
These strengthened household balance sheets also have buttressed demand for home loans. With mortgage rates low and income growth strong, a relatively large proportion of families have been able to afford the cost of purchasing a home. In addition, consumer spending continued to increase due to support from these healthy advances in income, as gains in wages and salaries boosted personal disposable income.
In the business sector, bolstered balance sheets and profits and a moderate cost of external funds are prompting investment in equipment. Business fixed investment is strong as companies continue efforts to increase efficiency and operate with lean inventory levels. Most importantly, the underlying determinants of investment spending remain solid: strong business sales, sizable increases in cash flow and a favorable cost of capital, especially for technology-related equipment. In addition, intense competition and adequate plant capacity, together with ongoing efficiency gains, have helped to restrain inflationary pressures in the face of rising wages.
These strong corporate profits, rising 9 percent in 1997,2 advanced equity markets dramatically again last year. Analysts’ expectations of earnings growth over the next three to five years remain very favorable. In addition, we are witnessing an evolving global financial system, spurning in a massive increase in capital flows. The result is a highly efficient structure that has significantly facilitated cross-border trade in goods and services and, accordingly, has made a substantial contribution to standards of living worldwide.
It’s evident by economic data, as described here, that there is a cyclical effect to the economy and is demonstrative of the role the private sector and relative monetary policy has on the U.S. economy. And as the economy progresses, the resulting increases in household income and corporate profits give rise to federal receipts—a $126.2 billion increase last year alone.
For example, individual income tax payments rose sharply last fiscal year—on top of a hefty increase the prior year—reflecting the strong increases in households’ taxable and capital income. Moreover, corporate tax payments posted another sizable advance last year. In 1997, federal tax receipts hit a record 21 percent of gross domestic product, a level far above the post-World War II average of 18.5 percent.3
When we examine these statistics, it is clear that credit for the dramatic turnaround does not rest with the federal government and those elected to the legislative and executive branches. Instead, we should praise the private sector, including Intel, Microsoft, Boeing, IBM, GE and the like, for adding three million jobs a year as a result of their growth and private investment.
Furthermore, much of the political rhetoric we hear cannot account for the infusion of federal receipts as a result of taxes on capital gains. Corporate America made these gains possible—not the federal government. The net sales of capital assets (sales of private residences, stocks, bonds, etc.) increased from $114 billion in 1990 to $142 billion in 1994 and is expected to exceed $200 billion in 1997.4
As the nation’s economy moves toward the longest peacetime expansion in its history, we can commend the private sector for exceptionally high employment rates, rising income levels, increased efficiencies and output and an ever-increasing stock market. And when we think of this tremendous turnaround, let’s forget political rhetoric and give credit where credit is due.