Posted by Shyam Moondra
Economy in deep recession, the unemployment rate zooming up, inflation out of control, corporate profits declining, dollar taking a plunge in the currency markets, and the stock market in a huge downward spiral. No, I am not talking about "today," I am talking about the 1970's.
The 1970's were the troubled years. Huge government expenditures necessitated by the Vietnam War and the oil embargo by OPEC (after the Yom Kippur War in October, 1973, which led to a big spike in oil prices), fueled the inflationary pressures throughout the economy. The people were losing their jobs and everything seemed to be falling apart. If there was such a thing as stagflation, that was it. President Carter had no stomach for the failed Nixonian style wage and price controls of 1971 (free-market economy and massive government intervention are like oil and water, they never mix!). Then in 1979, came to the rescue Paul Volcker, the FRB Chairman, who rapidly increased the interest rates to get some control over the inflationary spiral. The elderly people were in a dreamland earning more than 15% on money market accounts and CDs. The sustained high interest rates broke the back of the inflationary spiral. By 1987, Volcker left an economy that was getting ready for the biggest economic expansion we have seen in the modern history. The 1990's go-go years were the years when we had very low interest rates, low inflation, low unemployment, high house ownership, budget surpluses at federal and state levels, and "irrational exuberance" in the stock market. The people generally felt very prosperous and confident about the future.
What we see today is not much different from what we experienced in the 1970's. We have the Iraq War, which has drained our economy of at least two trillion dollars (and still counting), oil and commodity prices fueling inflationary pressures, joblessness increasing, stock markets in the dumps, and people are generally feeling financially insecured. May be what we need is the Volcker treatment of high interest rates combined with responsible fiscal policies (especially on the side of government spending) to bring back the happy days again. It will surely be a painful period of several years before we are able to put our economic house in order.
At this juncture, high interest rates would have more upside than downside. Higher interest rates will strengthen dollar, which will bring down oil and other commodity prices and thus lower the inflationary expectation. Lower gasoline and food prices would enable consumers to spend more on other things, thereby revitalizing the economy. Surely, higher rates will make it difficult for the housing market to recover, but the housing troubles have more to do with the fact that mortgages were given to unqualified people, who are defaulting on their loan repayments. Overall, higher interest rates will be more beneficial than detrimental to the economy and they might even boost the stock market (which may seem strange, but it did exactly that in the 1970's).
