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this particularly as it related to 1976 when the economy would be recovering rather than in 1975 when the private demands for funds was weak.

My question, or observation that I put to you is this. In looking through current economic publications, I seem to find that there isn't too strong a private demand. So, I ask, where is the strong private demand for the funds which you and others have been anticipating for 1976?

Secretary SIMON. Well, that is

Chairman HUMPHREY. Let me just continue a minute. Bank loans to business have been declining.

Secretary Simon. Yes.

Chairman HUMPHREY. The money supply is not growing or, if it is, very little, not because the Fed doesn't want it to grow; but because there is no demand for funds and because banks are following very cautious lending policies. Now, the layman's type of business publication and I mention Business Week—but also others, points this out week after week. The Commerce Department survey of business investment plans indicates very modest growth of business investment in 1976 and an actual decline in real terms. · Now, this would seem to indicate that demand for private funds may turn out to be less than was generally assumed. So, my question is: Do we face the crowding out problem in 1976, or do we face, in fact, a problem of weak demand in the private sector for funds? Thus far the evidence seems to me to be weak demand.

Secretary SIMON. Let me first of all thank you, Mr. Chairman, for being the first one who has portrayed accurately what I was saying a year ago.

Chairman HUMPHREY. Can I just say here, on February 9, Business Week said: “The Fed is sending out signals but the banks aren't getting out the money.” It says: “The big loan demand stand-off.” This is a feature article, pointing out that even when the banks are shopping around sort of door-to-door, they are just not placing the money.

Secretary SIMON. Let me comment a couple of seconds on this before you have to run. What I said a year ago was that the danger of crowding out was going to occur next year and beyond when the economic recovery was well underway, when private demands started to go up and that indeed there then was going to be a competition for funds; Mr. Chairman, what I would like to do is ask you, if vou could, on the way back to your other hearing, to read this. I wrote a three-page document which was attached to my testimony, and it is called “Crowding Out: Setting the Record Straight.” It talks about what the danger is.

Chairman HUMPHREY. I saw that.

Secretary SIMON. It talks about the danger of financing deficits and it talks about the interest rates. And yet's look back last year, when we talked about financing in the marketplace. I was forecasting that corporate borrowing was going to be a record. And I was even low as to what the ultimate corporate borrowing was. Do we call interest rates that declined from 10 to 834 percent in the severest recession in a generation as having declined? Yes, I guess they technically have. Well, but relative to what ? Starting with an eco

nomic expansion of 834 percent interest rates is too high. There is no doubt about that.

Also, take a look at the Baa, at the lower rated corporations, and how they fared in 1975. The first 6 months of last year, Baa's were about 5 percent of the market, versus a traditional 20 percent. They go to 10 percent at the end of the year, but were still well below prior levels. So there was a slight problem.

The real problem, however, exists in the future, as this three-page paper points out, if something isn't done about about our Federal deficits. And Beryl Sprinkel wrote a good article, which I would like to put in the record, if I might. This was in the Chicago Tribune on February 2, 1976.

Chairman HUMPHREY. The article will be included in the hearing record. [The article follows:]

[From the February 2, 1976, Issue of the Chicago Tribune] FISCAL STIMULUS Not ISSUE IN DEFICIT SPENDING DEBATE

(By Beryl W. Sprinkel) President Ford's budget projects outlays of $394.2 billion in fiscal 1977 and a deficit of $43 billion, which include the effect of a further $10 billion tax reduction. Despite the fact the projected expenditure level is 5.5 per cent above this year, it represents a relatively tight budget.

Merely financing program now under way would yield expenditures of $420 billion-more than $25 billion above the President's plan.

Furthermore, the Joint Economic Committee of Congress, chaired by Sen. Hubert H. Humphrey (D., Minn.], recently called for more fiscal stimulus, including an additional 10 per cent tax cut and spending of $10 billion more than the $430 billion needed to sustain present programs.

Two budget issues will be heatedly debated over the months ahead: First, should the federal government play a larger or smaller role in the economy, relative to the private sector? And second, do we need even larger deficits to stimulate the economy?

Presently, federal, state, and local spending account for about 40 per cent of national income. Furthermore, the trend has accelerated in recent years.

For example, from 1970 to 1975 the expansion in government outlays was equal to 55 per cent of the increase in national income. This means that for each additional dollar of income, 55 cents was allocated to government programs.

No wonder the public is becoming concerned about the growing burden of higher spending and higher taxes! Furthermore, the government is increasingly pre-empting the market incentive system by telling its citizens what they can do and what they may consume.

There is mounting evidence many of our costly government programs are not achieving their stated objectives, and, in fact, frequently are exacerbating problems.

Citizen and legislative awareness is reflected in the Congressional Budget and Impoundment Control Act of 1974, which is fully effective this year. This act forces Congress to impose a ceiling on overall government expenditures before considering the funding of existing and proposed programs.

The spending constraints will force an ordering of legislative priorities. High taxes dull incentives to save, invest, and produce, and hence make it more difficult to finance the growth needed to provide jobs and higher incomes in future years. Taxes can be lowered only by reducing expenditures at the government level.

The preferred relative size of government versus the private sector is a legitimate are for debate. However, we cannot continue recent rates of growth in public spending without seriously handicapping the health and prosperity of the private sector, which still employs five out of six of the nation's workers.

Some argue that, irrespective of the private versus public sector argument, we nonetheless need a more stimulative budget policy to hasten the return to higher employment.

This view follows conventional Keynesian analysis, which contends the larger the actual or full employment budget deficit, the greater the stimulus and, hence, the larger the subsequent rise in spending, national income, and employment.

But is this view correct? Budget deficits created by spending increases or tax cuts must be financed. There are only two ways this can be done.

If the deficit is financed by absorbing savings otherwise available for housing or other forms of capital investment, the stimulus of higher federal spending and-or tax cuts is offset by restraint on private investment. There is no reason to believe a net stimulus wil occur under these conditions, but there is a presumption private investment will be retarded.

Alternatively, the resulting deficit may be financed with new money created by the Federal Reserve System. In this case there will be no short-run squeeze on private investment, but, with current deficits, an enormous increase in the money supply would occur. This would raise employment in the short run but would undoubtedly lead to accelerating inflation by 1977.

Furthermore, if a somewhat greater expansion in the money supply is desirable-and I believe it is—it can be readily achieved without incurring large federal deficits.

Therefore, larger federal deficits either create a squeeze on private capital formation, or, if financed mostly by newly created money, provide a short-run stimulus at the cost of higher inflation in the future.

If moderately greater growth in the money stock is needed, it can be achieved without larger deficits. It therefore does not follow that a larger deficit is needed to stimulate the economy.

This is a false issue, even though the familiar drumbeat has already begun. Deficits provide stimulus only if financed by new money.

Unfortunately, many who prefer larger government spending programs attempt to justify their position by arguing the need for a greater stimulus. These are separate issues and should remain so.

If American voters ever decide, as many have, that government is too large and should be retrenched, they need not accept larger budgets and deficits because of the perceived desirability of greater stimulus.

Compared with the alternative of increasing monetary growth by Federal Reserve action, fiscal policy is an inefficient tool for providing a short-run economic stimulus. The size of government should be debated on its merits or demerits, not on the false issue of needed fiscal stimulus.

Since 1976 is an election year, legitimate fears exist that excessive money will be created and federal spending on voter services will soar. Yet, up to the present, the newly proposed budget is restrained, and monetary growth has been below Federal Reserve targets.

But the year has just begun. Emphasis on bold, new budget programs, larger budget deficits, and sharply higher monetary growth could again trigger the go-stop policy thrusts of the past decade. Let us hope political manipulation of our national finances is avoided in this Bicentennial year.

Secretary Simon. Mr. Sprinkel talks about the traditional Keynesian analysis. You have heard Arthur Burns say, on many occasions, we are no longer living in the Keynesian world, which responds to the policies as in the past. But, it is a fact that deficits are going to be financed in one of two ways, Mr. Chairman. One is to take money from the private sector. It is pretty simple in periods of high activity, or even moderate-and we are not there yet, but we are on our way there-that money we take in the Government is money that will not be spent in the private sector for private investment. There is no doubt about that.

The second way it can be financed is if the Federal Reserve prints the money. Now, that is a stimulus to the economy. There is no doubt about that. And that would keep interest rates, at least for a short period of time, a little lower than they might be, but we all know what would happen

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Chairman HUMPHREY. I think you left out something very important. The best way to finance the deficits is to get the country going so you don't have the deficits.

Secretary SIMON. I agree with you, except for what happened in the last few years.

Chairman HUMPHREY. But the point is, you've got yourself dug into quicksand. You keep singing the same song, but you never get us out of the sand.

Secretary SIMox. But the point is, if you really believe the best way is to balance the budget, how come we have done it only once in 17 years?

Chairman HUMPHREY. Well, we have had deficits, but nothing on the horrendous scale that we have been enjoying these last few years. I submit to you, when you have a policy as nonproductive as the one you have been pursuing, you might want to reexamine it, Mr. Secretary. After all, if you keep taking the same old medicine and you continue to be sick, go get a nw doctor or at least get a new prescription. Here you've got deficits that you say we ought to finance. My suggestion is maybe it is important to have a greater money supply so you get out of deficit. These deficits are not due just to wasteful Government expenditure. In part, I suppose, it has been a pattern of our life, but they are due to high unemployment and recession. There is $40 billion in this current budget that is related to social costs, and unemployment compensation costs. Now, if you can cut that in half, you've got your deficit cut in half.

Secretary Simon. May I say

Chairman HUMPHREY. No, wait a minute. You talk about crowding out. Now when is this going to happen?

Secretary SIMON. As this memorandum says—which I again hope you read-as we work our way back to capacity. And I will also suggest along with what I just finished saying, Mr. Chairman, that it has already happened to some extent. Paul McCracken talked about this in an article recently. It has already happened, to a lesser degree. And the more that economic activity increases, the more it will occur.

Chairman HUMPHREY. But it didn't crowd out.
Secretary SIMON. And you can tell me-

Chairman HUMPHREY. There was a lot of borrowing in the third and fourth quarters that wasn't crowded out.

Secretary SIMON. Yes, but borrowing by whom?

Chairman HUMPHREY. Interest rates have been coming down, haven't they?

Secretary SIMON. I don't call 10 to 812 percent per se as coming down.

Chairman HUMPHREY. Well, I wish you had been as concerned about those high rates a year ago

Secretary SIMON. I warned about them exactly at that time.

Chairman HUMPHREY. Well, warned about them, but what have you done about them?

Secretary SIMON. What do you want to do about interest rates?

Chairman HUMPHREY. Well, one thing is to make available a supply of money so you get your interest rates down.

Secretary SIMON. If we make available an excessive supply of money, you are eventually going to have even higher interest rates.

Chairman HUMPHREY. I think they were kept up, Mr. Secretary, as a considered determined policy, as a part of a way to slow down this economy at a time when it was already slowing down. That is my personal judgment. I think there is a lot of evidence that supports it. But, you have argued the crowding out theory. It is a good theory, but when is the crowding out going to start ?

Secretary Simon. The period of real crowding out, as I say, comes when the real economic activity picks up and as it increases in the future. And regardless of what some academic economists whisper in your ear, they never understood anything about finance or anything about financial implications of it to begin with.

Chairman HUMPHREY. May I say that as your interest rates have come down so has your money supply gone down.

Secretary SIMON. Well, as I say,
Chairman HUMPHREY. And there hasn't been any crowding out.

Secretary SIMON. I discussed the phenomena of M, earlier with you on the velocity and the problem of seasonal adjustments.

Chairman HUMPHREY. But my question, Mr. Secretary, I can buy the theory of crowding out. I understand the so-called logic of the crowding out. But, the theory in economics is one thing, and the practice of economic life is another thing.

Secretary SIMON. I am not a theorist, but-
Chairman HUMPHREY. Has it started ? It hasn't started yet, has it?

Secretary SIMON. I am not a theorist and I am not an economist either.

Chairman HUMPHREY. Well, let me ask, has it started yet?

Secretary SIMON. There has been evidence of crowding out in the market during the first 6 months of last year.

Chairman HUMPHREY. Well, what about

Secretary SIMON. Again-well, let me finish, please. As Paul McCracken stated in the Wall Street Journal, we see

Chairman HUMPHREY. That doesn't make anything true.

Secretary Simon. No, but I am giving you statistics. Is it a coincidence that when the Federal Treasury was financing on an annual rate of $81 billion versus $5 billion a year before, that money for housing and home mortgages declined 22 percent? I think that obviously there is a competition there; there is a competition that made the Baa corporations not able to go into the long-term sector. Those that could borrow were financing in the short-term and intermediate sector, which did very little to redress their balance sheets. But the real problem is not in 1975 and it is not going to be in the early months of 1976.

Chairman HUMPHREY. Well, when is it?
Secretary SIMON. I can't say it will be June 11th at 12 noon.

Chairman HUMPHREY. No, I didn't say that. But what year do you think it is going to be?

Secretary SIMON. I think toward the end of this year and into next year, directly related to the facts of our deficits.

Chairman HUMPHREY. Well, now, isn't the projected deficit to be less this year?

Secretary Simon. Yes, we certainly hope it is going to be.

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