It helps people train, knowing that a program exists, to get jobs, to have an opportunity to be employed, and thus be of service.

However, on the other side now, quite frequently we have established categorical programs, and then after we have attained a large part of our objective, we tend sometimes to keep the program from responding to changing emphasis or priorities. I don't think that because we have established a program at a particular time it ought to remain the same program forever. You might be able to modify or merge it.

Now taking your point, I think that maybe 10 years from now or 8 years from now, title I, Headstart, followthrough, maybe some other education titles, might be enveloped in a broader educational category. Representative SCHEUER. We certainly hope they will be embraced by the public education system itself, don't we?

Mr. COHEN. Now that is part of the problem. You see, you have touched on it. The fact of the matter is we have had such notable weaknesses in many local educational boards and agencies throughout the country that Congress really said "Gee, we can't afford to allow some people to decide not to do these things for our children. We are going to make the categorical grant very attractive." And they did, title I is a 100 percent Federal grant if the community has a maintenance of effort provision for dealing with disadvantaged children. Well, I guess there are 17,000 school districts now participating in title I, and that is what Congress wanted. I would be the last to say that Congress exercised an unwise judgment in making that decision. But if after 5 or 8 or 10 years and you have attained 70 percent of your objective, you might then add some other elements and make a broader category. I think that it is perfectly reasonable for Congress to do this.

I think you can undertake the Heller-Pechman plan in addition to some of these things, but I strongly would not like to see categorical programs that are meeting the national interest, and those aimed at national interests not yet attained, eliminated. I might say this for Senator Proxmire the lesson I learned at the University of Wisconsin under my professors who were most concerned about retaining a Federal-State-local system was that the categorical grants allowed you to attain a national objective with a decentralized method of administration. In our creative Federal system, you can meet national needs with Congress acting as the board of directors. I think experience, despite all the trials and errors and difficulties, has shown in these last 30 years that a lot has been accomplished.

Representative SCHEUER. I thank you.

Chairman PROXMIRE. Thank you again, Mr. Scheuer, for your fine questions.

I want to thank Mr. Myers and Mrs. Merriam as well as Secretary Cohen, and I can tell you, Mr. Secretary, that Wisconsin and Milwaukee are mighty proud of you and I think they are very proud of your performance this morning, which has been excellent, responsive, and thoughtful and very welcome.

The committee will reconvene tomorrow morning at 10 o'clock to hear the noncontroversial Chairman of the Federal Reserve Board, Mr. Martin. Thank you.

(Whereupon, at 1 p.m., the committee adjourned until Thursday, February 9, 1967 at 10 a.m.)

THE 1967 ECONOMIC REPORT OF THE PRESIDENT

THURSDAY, FEBRUARY 9, 1967

CONGRESS OF THE UNITED STATES,
JOINT ECONOMIC COMMITTEE,
Washington, D.C.

The joint committee met at 10:05 a.m., pursuant to recess, in room S-228, the Capitol, Hon. William Proxmire (chairman of the joint committee) presiding.

Present: Senators Proxmire, Talmadge, Symington, Miller, and Javits; and Representatives Bolling, Reuss, Griffiths, Moorhead, Curtis, Widnall, Rumsfeld, and Brock.

Also present: John R. Stark, executive director, James W. Knowles, director of research, and Donald A. Webster, minority economist. Chairman PROXMIRE. The committee will come to order.

Our witness this morning is the very able Chairman of the Federal Reserve Board, who is an old friend of the committee and a man who has been sitting on the hottest economic policy seat in Government for the last year or so.

You are welcome here this morning, Chairman Martin. Go right ahead.

STATEMENT OF HON. WILLIAM MCCHESNEY MARTIN, JR., CHAIRMAN, BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM; ACCOMPANIED BY DANIEL H. BRILL, SENIOR ADVISER TO THE BOARD AND DIRECTOR, DIVISION OF RESEARCH AND STATISTICS; AND ROBERT SOLOMON, ADVISER TO THE BOARD AND DIRECTOR, DIVISION OF INTERNATIONAL FINANCE

Mr. MARTIN. Senator, may I start by congratulating you in assuming the chairmanship of the Joint Economic Committee, and assure you that the Federal Reserve System wants to do everything in its power to help the committee in pursuing its work.

Chairman PROXMIRE. Thank you very much.

Mr. MARTIN. Monetary policy is unique among the economic tools available to Government in the promptness and flexibility with which it can be adapted to changing economic circumstances. This capacity for prompt, flexible adaptation has been essential over the past year and a half-and it has been amply demonstrated. Within this short period, monetary policy had first to play a major role in moderating an excessively rapid expansion that was generating strong upward price pressures. And when-within the year-the pace of expansion was brought into better balance with the growth in resources, financial

restraint was relaxed and policy turned promptly toward encouraging increased flows of money and credit.

The timing of changes in policy, as well as the degree to which policies of restraint or ease may be carried, are necessarily matters of judgment. There is still much to be learned about economic stabilization policies, both fiscal and monetary, in a high employment environment. Nevertheless, the difficulties encountered should not be allowed to obscure the rapid and favorable response of the economy to changes in the direction of monetary policy. For example, since indications of abating inflationary pressures last fall made it possible for monetary policy to be redirected toward ease, interest rates have come down swiftly, with some rates already below their levels of a year ago; bank credit has expanded at a vigorous rate; inflows of savings to thrift institutions have picked up very substantially; the housing outlook has brightened considerably; and resumption of more orderly and balanced economic growth is in prospect. The experience of the past year and a half should serve as a warning against underestimating the resilience or responsiveness of the U.S. economy.

Nor should we overlook the substantial gains recorded by the economy last year, despite our valid concerns for those sectors of the economy that did not share fully in the advance. The year 1966 was one of considerable economic achievement. Our gross national product rose by 52 percent in real terms, well above the long-term growth trend. More than 3 million workers were added to the Nation's payrolls, and the capacity of our factories grew by almost 7 percent. Moreover, for the first time in over a decade, the United States was able to achieve substantially full utilization of its growing resources. Unemployment fell below 4 percent, the lowest level since 1953. And unutilized industrial capacity declined to the lowest level since 1955. This was an impressive performance, one in which we all can take some satisfaction.

But the record was not unblemished. Indeed, in pushing forward under forced draft, some serious strains and distortions emerged in the structure of production, finance, and our balance of payments-flaws, which if not corrected, could seriously hamper our ability to sustain rapid economic progress. Let me touch on the most important of these, for there are lessons to be learned by policymakers in all branches of Government from the failures as well as the successes of economic policy.

First, as we approached full utilization of resources, demand pressures manifested themselves in a strong and pervasive rise in costs and prices. In an economy where many wage contracts are geared to cost-of-living changes, yesterday's price increases become tomorrow's cost pressures. It may prove difficult to avoid, in 1967, some reflection in costs and prices of the failure to restrain adequately the inflationary pressures of 1966.

Second, the excessively rapid pace at which domestic demands grew meant that they could not be satisfied from domestic sources alone. Our imports of materials and finished goods-particularly capital goods-surged. And although U.S. exports continued to rise somewhat faster than their long-term uptrend, our favorable net balance on international trade was seriously reduced-by almost one-fourth.

Third, rapidly rising demands by Government for defense needs and by business for capital investment programs preempted a large share of our physical and financial resources. Homebuilding was elbowed to the rear of the line; residential construction activity was reduced far below the levels needed to meet our long-term housing needs.

No country can long sustain economic progress if wages and prices keep leapfrogging each other, if it continues to lose ground in international commerce, or if it permits serious imbalance in the composition of output. The task of stabilization policy last year was to strike at the root cause of these distortions and imbalances-an overrapid pace of expansion of aggregate demand.

The need for moderating expansion became evident even before 1966 began, as acceleration in defense outlays was added to the stimulus to private spending provided by earlier monetary expansion and the tax reductions of 1964 and early 1965. In the final months of 1965, economic activity spurted-but so did prices. The rate of increase in the GNP deflator-which measures the extent to which the dollar growth in GNP is a result of rising prices rather than rising output-doubled in the fourth quarter of 1965.

Moreover, increasing evidence was becoming available to suggest that demand pressures would intensify further. Restraint was needed and needed promptly. As the current report of the President's economic advisers puts it, "All in all, the economy exceeded reasonable speed limits in the period from mid-1965 through the first quarter of 1966.”

In response to intensification of inflationary pressures, Federal Reserve policy moved toward greater restraint. This was signaled by the announcement in December of an increase in the discount rate from 4 to 42 percent. To prevent an abrupt constriction in the flow of credit, the maximum rate banks could pay for time deposits was raised, and reserves were provided generously through open market operations over the subsequent year-end period, weeks usually marked by turbulence and crosscurrents in financial markets.

Net reserve availability was reduced gradually in early 1966, and increasingly, banks were forced to turn to the discount window to obtain additional reserves. Their borrowings from the Federal Reserve rose from an average of about $400 million in January to about $700 million by June.

At certain critical times, however, such as around the March-April tax period and again around the midyear tax period, nonborrowed reserves were supplied to banks in substantial volume to help moderate the temporary but intense money market pressures being generated by enlarged corporate needs for funds to meet accelerated taxpayments. With business loan demand strong, failure to provide additional reserves to banks at these times would have prompted more rapid liquidation of bank holdings of securities; the consequent rise in interest rates would have accelerated the outflow of funds from thrift institutions to financial markets. It would also have prompted even more widespread and aggressive efforts by banks to attract consumer savings into time deposits. Such efforts would have intensified the developing shortage of mortgage money at a time when financial supervisory agencies lacked the flexible authority-granted by Con

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