Annual Message to the Congress: The Economic Report of the President

To the Congress of the United States:

Most Americans see the economy in terms of a particular job or farm or business. Yet the welfare of each of us depends significantly on the state of the economy as a whole.

It was never more necessary for all Americans to try to see the whole economy in perspective-to realize its achievements, to recognize its problems, to understand what must be done to develop its full potential for good. For, as a people, we face some important choices.

A TIME FOR DECISIONS

Seldom can any single choice make or break an economy as strong and healthy as ours. But the series of interrelated decisions we face will affect our economy and that of the whole free world for years to come.

We face these hard decisions with a confidence born of success. Our economy has never been stronger and more vigorous than during the 1960's.

Our achievements demonstrate that we can manage our economic affairs wisely-that we can make sound choices.

If we now choose responsibly, we can look forward--at home--to more years of healthy prosperity, and of social and economic progress.

If we choose responsibly, and our friends abroad cooperate responsibly, we and they can look forward in confidence to the continuing smooth and rapid expansion of the mutually rewarding international exchange of goods and services.

But if we temporize--try to avoid the hard choices before us--we will soon discover that we have even more difficult choices to make. In six months or a year, we could find our prices and interest rates rising far too fast. In a few months we and our friends abroad could face new uncertainty and turbulence in international financial affairs.

If we wait for the problems to become acute and obvious, then everyone will be ready to act. By then, the tasks could well be much harder.

In the coming weeks and months we must choose

--whether we will conduct our fiscal affairs sensibly; or whether we will allow a clearly excessive budgetary deficit to go uncorrected by failing to raise taxes, and thereby risk a feverish boom that could generate an unacceptable acceleration of price increases, a possible financial crisis, and perhaps ultimately a recession;

--whether as businessmen and workers we will behave prudently in setting prices and wages; or whether we will risk an intensified wage-price spiral that would threaten our trade surplus and the stability of our economy for years to come;

--whether we will act firmly and wisely to control our balance-of-payments deficit; or whether we will risk a breakdown in the financial system that has underpinned world prosperity, a possible reversion toward economic isolationism, and a spiraling slowdown in world economic expansion;

--whether we will move constructively to deal with the urgent problems of our cities and compassionately to bring hope to our disadvantaged; or whether we are willing to risk irreversible urban deterioration and social explosion.

I know that Americans can face up to the tasks before us--that we can run our economic affairs responsibly. I am confident that we will take timely action to maintain the health and strength of our economy and our society in the months and years ahead.

THE RECORD AND PROBLEMS OF PROSPERITY

The year 1967 was one of uncertainties and difficulties both in our external and our internal economic affairs. Yet there were reasons for confidence as well as concern, both internationally and domestically.

1967--A YEAR OF READJUSTMENT AT HOME

For the domestic economy, 1967 was a year of readjustment--after the strains of 1966.

Growth in the first half was at an annual rate of only a little over 1 percent, after correction for price increases. But vigorous growth resumed in the second half--at a yearly rate of around 4 1/2 percent.

Last year had to be a year of readjustment because our economy began the year out of balance. Inventories were excessive, housing was in a slump, and business spending on new plant and equipment threatened to drop away from a level that seemed too high to be sustained.

Those imbalances no longer exist. That is why our economy is again advancing so strongly.

Because readjustments were necessary, the gains of 1967 were not as great as were those of 1966, nor as those anticipated for 1968. Yet it was a year of important economic progress on most fronts. During 1967

--an additional 1 3/4 million persons found jobs;

--our unemployment rate, at 3.8 percent, matched that of 1966 and was lower than in any previous year since 1953;

--average earnings of factory workers rose by $4.80 a week;

--total employee compensation rose $33 billion;

--farm proprietors' net income dipped, but by yearend had returned to the level of a year earlier;

--total consumer income after taxes climbed $35 1/2 billion;

--industrial production, after dropping almost 2 1/2 percent, recovered by December to a new all-time peak; and

--the annual rate of housing starts rose a half million.

During 1967, prices also advanced--more than we would have wished. Even so, real purchasing power per capita available to consumers after taxes rose 3 percent.

1967--A YEAR OF EXTERNAL PROBLEMS AND PROMISE

The U.S. balance-of-payment deficit--a chronic problem since 1957--worsened in 1967 after several years of substantial improvement. In important measure this deterioration reflected the fears and uncertainties surrounding the devaluation of the British pound in November.

The same uncertainties also fed a massive wave of private speculation against gold late in the year. This subsided only after the United States and other countries in the "gold pool" demonstrated their determination-backed by the use of their monetary reserves--not to allow a change in the price of gold.

In the absence of strong new action by the United States--and by the surplus countries of Western Europe--there was danger that the deterioration of the U.S. payments balance and speculation against gold and currencies might feed upon and reinforce one another in a way that could touch off an international financial crisis in 1968.

Even if the dangers were remote, the grave consequences of such a crisis for the world economy demanded bold and immediate preventive action. It was taken on January 1. The substance of our measures, plans, and priorities is discussed later in this Report.

But 1967 saw progress as well as problems on the international front. For it also brought the culmination of two giant forward steps in world international economic affairs, both long in gestation:

• In June, the Kennedy Round of negotiations produced agreement on the single most significant multilateral reduction in world trade barriers in history. It promises further to stimulate the expansion of international trade, already a major source of postwar economic growth throughout the world.

• In September, the member nations of the IMF reached agreement on plans to create by deliberate cooperative action a new form of world reserves, supplementing gold and the dollar. Once this plan comes into full operation, the vulnerability of the present system to speculation should gradually fade away, and so should any threat of a possible future strangulation of the growth of world trade and production.

SEVEN YEARS OF EXPANSION

If 1967 stood alone, it would have to be judged a satisfactory year, despite its problems.

But 1967 must not be seen in isolation-rather as the seventh year of the longest and strongest economic expansion in our history. The opening months of 1967 were merely a brief pause in the broad sweep of economic advance.

Over these seven years

--our total real output of goods and services has increased more than 40 percent;

--per capita income after taxes and valued in dollars of constant purchasing power has risen 29 percent;

--10 million more people are at work;

--more than 12 million Americans have moved above the poverty line. Over just the past four years

--2 1/4 million more students are in college;

--5 ½ million new homes have been built;

--35 million new cars have been sold;

--use of electricity has risen one-third;

--5 million more families own stock, 23 million more have savings accounts, and the assets of private pension funds have grown by $40 billion; and

--35 percent more Negroes have found professional, technical, and managerial jobs.

Had the path of real output in 1961-67 followed the bumpy path of 1954-60

--the Nation's total real output over the past seven years would have been $340 billion lower (valued in today's prices) than it actually was--this cumulative difference is about equal, in real terms, to the Nation's total output in 1942.

--the annual rate of output today (valued in today's prices) would be $120 billion lower than in fact it is--this difference is equivalent to about $1,600 a year per person now employed.

Truly, the American people have enjoyed exceptional economic benefits over these seven years. But these striking benefits confer obligations.

• Over this period 8 million more families have achieved yearly incomes above $10,000. They--and the 6 1/2 million who already enjoyed such incomes in 1960--have a special obligation to the more than 10 million households still in poverty.

• The seven-year increase of $820 in real per capita income (valued in today's prices) exceeds the current total average per capita income in nations with 70 percent of the world's population. This fact makes inescapable the obligation of the American people for helping to maintain security and for providing economic assistance to the developing world.

I believe that the American people--whose present affluence would have been beyond the belief of most of us only 20 years ago--accept these obligations. My policies, at home and abroad, continue to be founded on a vision of the opportunities and obligations for the wealthy to help the poor to help themselves.

THE ROLE OF POLICY

It is far more than coincidence that, during these seven years of achievement, fiscal and monetary policy have been actively and consciously employed to promote prosperity.

No longer does Federal economic policy rely primarily on the "automatic stabilizers" built into our system, or wait for a recession or serious inflation to occur before measures are taken.

Fiscal and monetary policies have not been perfectly executed nor perfectly coordinated in the past few years. But our policies have remained under continuous and coordinated review. And our actions have been consistently in the right direction, if not always perfectly timed nor in precisely the right degree.

THE PROBLEMS OF PROSPERITY

Healthy prosperity has brought exceptional gains in production, incomes, and jobs. But prosperity has not solved all of our economic problems, and it has created some of its own. These are the priority problems facing us in 1968.

1. First and foremost, we must take the necessary steps to put our fiscal affairs in order. Unless we do we shall be unable to deal effectively with the other problems that confront us.

2. We must slow down the wage-price spiral. Although we cannot achieve stability all at once, we must make progress in 1968 toward our goal of reasonable price stability in a steadily growing, high-employment economy.

3. We must push forward vigorously to restore equilibrium in our international accounts. We shall do so in full awareness of our responsibilities to promote and sustain a strong and expanding world economy. And we will enlist the cooperation of all other nations who share those responsibilities.

4. We must deal more effectively with our urban problems. More and more of our people live in cities. Yet cities threaten to become less and less livable--unless we take decisive steps to correct: slum housing; inadequate public services; congestion, noise, and pollution; inadequate transportation; unplanned sprawl; segregation, discrimination, and deficient job opportunities; crime, delinquency, and alienation.

5. We must continue the struggle to expand the opportunities available to every citizen---especially our disadvantaged. They require education, training, and adequate health care to prepare them for useful careers, and freedom from discrimination in finding jobs and housing. Those unable to work need adequate income protection. The war on poverty must go forward.

FISCAL POLICY AND THE OUTLOOK FOR. 1968 THE CURRENT ECONOMIC SITUATION

The month-to-month changes of our economic indicators were often puzzling in 1967. But, when seen in perspective, economic developments reveal.

--a slowdown--though not a decline--in the first half, as we predicted a year ago; and

--a strong and sustained recovery in the second half, as we predicted last January and again in August when I renewed my request for a tax increase.

• In the second half of last year, the annual rate of our gross national product advanced by $32 1/2 billion. In only one earlier half-year--the second half of 1965---has it advanced by more.

• The unemployment rate in December was 3.7 percent. In only 2 months of the last 169 has it been lower.

• Factory orders and shipments of durable goods were at an all-time high.

• Personal income rose more than $12 billion in November and December.

• And, disturbingly, the rate of increase in industrial wholesale prices in the second half of 1967 has been exceeded in only 4 other half-year periods in the past 16 years.

Every prospect is for continued rapid increase of output in the months ahead. Most experienced observers agree that the pace now is--and in the months ahead will be-too fast for safety. The gain in gross national product in the current quarter is generally expected to be one of the largest in our history--a record we could gladly do without at this time.

THE CURRENT FISCAL SITUATION

Following the major tax cuts of 1964 and 1965---equivalent to about $23 billion in today's economy--the booming economy of 1965 and 1966 brought Federal revenues into balance with Federal spending. In both years there was a small Federal surplus on the comprehensive national income accounts basis.

The slowdown in economic growth that began in late 1966 dampened the growth of revenues. At the same time, the cost of our commitment to freedom in Southeast Asia was steadily rising.

As a result, the Federal sector account plunged into deficit--$12 1/2 billion in calendar year 1967.

Sharply rising Federal spending was a strong expansionary force in the economy between mid-1965 and mid-1967. While housing was still recovering from the aftereffects of tight money, and private demand was sluggish--during the first half of last year--the stimulus from Federal spending was welcome.

Federal spending has not been growing rapidly since mid-1967, nor will it increase rapidly in the next year and a half. But because of the already high level of defense outlays, total Federal expenditures are too large to be piled on top of normal private demand without overheating our economy. It is because private demand has now returned to normal after its temporary weakness that we now need new measures of fiscal restraint.

Without the proposed income tax surcharge and the maintenance of current excise tax rates, the Federal sector deficit on national income accounts would remain close to the level of 1967.

Unless action is quickly taken to expand Federal revenues, a deficit that large--in combination with a resurgent private economy-would have these consequences:

• It would speed up a wage-price spiral already turning far too rapidly.

• It would seriously impair our already difficult international economic position--by damaging confidence in the dollar, and by stimulating imports and putting exports at a competitive disadvantage.

• Financing such a deficit would increasingly strain financial markets, pushing interest rates further above present record highs, and threatening another financial squeeze and another slump in homebuilding.

THE ROLE OF FISCAL RESTRAINT

The extraordinary achievements of our economy during the past seven years were made possible by our willingness to use fiscal and monetary policies to stimulate adequate expansion of total demand.

Now, however, restraint is essential to our economic health. High interest rates and tight money can restrain the economy--and will do so if fiscal policy fails to do it. But the cost of monetary restraint is high and unfair, imposed primarily on a single industry--homebuilding.

We must demonstrate that we can use fiscal policies flexibly--that we can raise as well as lower taxes.

I therefore urgently renew my request that the Congress enact a temporary 10-percent surcharge on corporate and individual income taxes.

• For corporations, the surcharge would become effective January 1, 1968, and continue through June 30, 1969.

• For individuals the surcharge would become effective on April 1. The 10-percent increase in withholding tax would continue through June 30, 1969. Taxpayers in the lower income brackets would be exempted from any surcharge.

• The legislation should, as I recommended last year, put all corporations on a fully current payments basis, and extend temporarily the telephone and automobile excise taxes otherwise scheduled to drop on April 1, 1968.

These measures would increase tax revenues in fiscal year 1968 by $3 billion, and in fiscal year 1969 by $13 billion.

If future circumstances should permit ending the surcharge before June 30, 1969, it can be promptly repealed.

The surcharge of 10 percent on individual income taxes would reduce individual incomes by about 1 percent on the average. With the low-income exemption, the surcharge would add nothing to the taxes of a family of four with an income of $5,000. It would increase the tax bill for a family of four making $25,000 by about 2 percent of income.

Effective Federal tax rates on individual income would still remain, on the average, about 10 percent lower than in 1963.

A tax increase in the form of a surcharge on present taxes has many advantages:

--it is simple, requiring no additional administrative expense or inconvenience to the taxpayer;

--it preserves the present progressiveness of the system as it applies to middle and upper incomes, and the present division between corporate and personal taxes;

--it is easy to identify and repeal when no longer needed.

THE ECONOMIC OUTLOOK WITH THE TAX INCREASE

The fiscal policies I am now proposing will

--accomplish a sharp reduction in the Federal deficit on national income accounts, and erase it early in 1969;

--encourage balanced economic expansion to continue at a rate appropriate to our rising productive potential;

--permit the unemployment rate to remain below 4 percent for the third straight year;

--allow credit to remain available, without soaring interest rates, to meet the needs of housing and other key areas;

--promote a gradual slowing down of price increases;

--in combination with the other measures we are taking, encourage an expansion of our foreign trade surplus.

Even with the surcharge, GNP should increase by some $60 billion, about 7 3/4 percent. With prices rising more than 3 percent, real output of goods and services in 1968 will be more than 4 percent above 1967.

• Consumer purchases and homebuilding activity will rise strongly.

• Expenditures to expand and modernize productive capacity will grow at the moderate pace consistent with business needs.

• While State and local governments will continue to increase spending at a fairly rapid rate, Federal purchases will grow by less than half as much as in 1967.

• There will be further large gains in private incomes, even after higher taxes and prices.

The economic outlook is thus favorable-assuming fiscal restraint is forthcoming. Damage has already been done to interest rates, to our trade surplus, and to the level of prices by the failure of Congress to act last fall. But it is still not too late to avoid far more serious problems if action is taken in the next few weeks.

I again urge the Congress to act promptly on my tax proposals.

PROBLEMS AND PROGRAMS IN OUR INTERNATIONAL ECONOMIC AFFAIRS

THE U.S. BALANCE-OF-PAYMENTS DEFICIT

On January 1, I announced the main elements of our new balance-of-payments program for 1968. That program deals decisively with the threat to the dollar that developed in 1967.

Nature of the Problem

It is important to be clear about the nature of our balance-of-payments problem. The United States has a sizable surplus of exports of goods and services over imports. Our past overseas investments bring in excellent and growing earnings, and our new overseas investments are running at a very high level. There is a small but growing reverse flow of foreign investment here.

We have heavy military expenditures overseas, which are not fully offset by our allies; and our aid program still accounts for a small outflow of dollars.

Our export sales, our investment return, and the inflow of investment from abroad are not large enough to finance our imports, our new investments abroad, and our net Government overseas expenditures.

The difference--the deficit--is financed partly by sales of gold and partly by increased foreign holdings of short-term dollar investments by foreign businesses, banks, individuals, and governments.

The position of the United States in its international economic affairs is thus much like that of a wealthy and prosperous businessman whose liquidity has come under strain.

His commercial operations remain highly successful, with the value of his sales well in excess of his costs.

His large long-term investments in other enterprises are yielding an excellent return, and he sees an abundance of further opportunities for profitable investments that will bring large future returns.

Both his income and his net worth are growing strongly every year. And he does not hesitate to spend freely on the good things of life, while also making large gifts to worthy causes.

But he has been borrowing extensively at short term to help finance his long-term investments. Each year, he adds more to his short-term debts than to his liquid assets. It is in this sense--but only this--that he has an annual deficit. It is a liquidity deficit. It is not a deficit in his profit and loss account, nor an overspending of his income.

Some of his short-term creditors--although not really doubting the strong excess of his assets over his liabilities--are nevertheless getting a bit concerned about continuing to expand---or even to renew--their short-term credits.

Should some of them refuse to renew their loans, his situation could become awkward. Other creditors might become nervous and would rush to present their claims. Financial pressures would extend to other, smaller businessmen with whom he had strong commercial ties, and whose basic positions were less sound.

That man--like the United States--needs to pull back for a while to strengthen his liquidity.

He will want to cut costs and increase sales in his commercial operations.

He will have to pass up for a while many of his attractive opportunities for profitable long-term investments.

He will need to review the terms of his spending and gifts--to ease their impact on his cash position.

Most of all, he wants no doubt to arise about his ability to meet his debts as they come due. He would easily survive a financial crisis with no major impairment of his income or net worth. But some other businessmen who bought from or sold to him could easily be dragged into bankruptcy.

Reducing the Deficit

Since 1961, the United States has been making a determined effort to reduce its liquidity deficit. Through 1965, steady progress had been made.

In 1966 the deficit held even, in spite of the rising overseas costs of Vietnam. But the deficit increased in 1967--particularly sharply in the fourth quarter--reversing that progress. The instability generated by devaluation of the British pound was responsible for a significant part of the deterioration, but not for all of it.

• Overseas defense costs rose despite fight controls on spending.

• The net balance of tourist expenditures shifted further against the United States.

• Private U.S. capital outflows rose, even though direct investment was held in check by the voluntary program; and foreign capital inflows decreased.

• Our trade balance failed to improve as much as we expected, mainly because of the economic slowdown in Europe.

Some of the steps we might consider to reduce our payments abroad--such as reverting to high tariffs or quotas--would reverse long-term policies and, by provoking retaliation, reduce our receipts by as much as or more than our payments. And many of the other things we could do would seriously and irresponsibly harm our domestic economy, friendly countries overseas, or the flow of world trade.

PROGRAM FOR 1968

We have a clear duty to act. And we are taking action--as constructively and responsibly as we can.

Domestic Economic Policies

The avoidance of excessive demand in our economy is crucial to the strength of the dollar as well as to our domestic prosperity.

If we place too much pressure on our resources, U.S. buyers will turn abroad for supplies and our imports will soar. And if our prices rise, we will weaken our export competitiveness and attract even more imports-not just immediately, but for years to come.

That is why the first order of business in defense of the dollar is to pass the tax bill. We must also exert every effort to avoid the possible destructive effects on our trade surplus of strikes or the threat of strikes in key industries. I urge business and labor to cooperate with the Secretaries of Labor and Commerce in dealing with this danger to our export surplus.

Direct Balance-of-Payments Measures

In addition to assuring the health of our economy at home, we must act directly on the key international flows that contribute to our deficit. Our direct balance-of-payments measures are designed to move us strongly toward equilibrium--this year. Some measures are temporary and will be removed as soon as conditions permit. Others are designed for longer range needs. Several will require congressional action.

We have already put into effect

--a new mandatory program to restrain direct investment abroad, which will reduce outflows by at least $r billion from 1967.

--a tighter Federal Reserve program to restrain foreign lending by U.S. banks and other financial institutions, to achieve an inflow of at least $500 million.

We have begun action to save $500 million on Government expenditures overseas. Negotiations are already underway to minimize the foreign exchange costs of our essential security commitments abroad. Orders have already been issued to cut the number of civilian personnel abroad.

We are organizing major efforts to encourage foreign investment and travel in the United States.

I announced on January 1 that the Secretary of the Treasury would explore with the Congress legislative measures to help us achieve our objective of reducing our travel deficit abroad by $500 million this year. Those explorations are proceeding.

In the meantime, I again ask the American people to defer for the next two years all nonessential travel outside the Western Hemisphere.

I also announced on January 1

--that we were initiating discussions with our friends abroad on ways to minimize the disadvantages to our trade from various nontariff barriers and national tax systems abroad; and

--that we were preparing legislation in this area whose scope and nature would depend on the outcome of these consultations.

The consultations have been in progress since January 1. When they are completed, I will announce their outcome, and indicate what if any legislation we shall seek.

I am asking the Congress for the funds necessary to support long-term measures to stimulate exports, by

--intensifying promotion of American goods overseas; and

--expanding and strengthening the role of the Export-Import Bank.

Responsibilities of Surplus Countries

As we fulfill our responsibilities, other nations have an equal obligation to act. The balance-of-payments surpluses of our trading partners in continental Europe are essentially the mirror image of our deficit. Their constructive adjustments, as well as our own, can contribute to remedying our mutual imbalance.

For them, as for us, action at home heads the list. The nations of continental Europe should use their fiscal and monetary policies to pursue steady expansion of their domestic economies. Indeed, if they were to tighten credit and budgets in order to protect their surpluses, then we could not succeed in our efforts to come into equilibrium in a healthy world economy. Even worse, a competitive slowdown in world economic expansion could ensue, to the detriment of all peoples everywhere.

Surplus countries can also contribute to a smooth process of adjustment by reducing their barriers to trade, by increasing their economic assistance to developing countries, by expanding their capital markets to finance their own investment, by permitting wider access to these capital markets by other nations, and by meeting their full share of the foreign-exchange costs of our collective defense effort.

The world tried competitive beggar-my-neighbor policies in the 1930's and they ended in chaos. The surplus countries have the obligation to assure that this does not happen again.

THE DOLLAR AND THE INTERNATIONAL MONETARY SYSTEM

The interests of major nations are also linked together in the international monetary system. For us, there is a special responsibility, since the dollar is a world currency

--widely used by businesses abroad,

--held along with gold as a reserve asset by foreign central banks.

Our deficits in the past decade have sent more dollars abroad than businesses there needed to acquire, or than governments have wanted to hold as reserves. Many of these dollars were used to purchase gold from the United States.

Speculation generated by the strains on the international monetary system has caused further drains of gold from international reserves--much of it from our own.

As a result, U.S. gold reserves have declined to about $12 billion. This is still ample to cope with foreseeable demands on our gold stock. But persistent large U.S. deficits would threaten the entire international monetary system.

Our commitment to maintain dollar convertibility into gold at $35 an ounce is firm and clear. We will not be a party to raising its price. The dollar will continue to be kept as good as or better than gold.

Freeing Our Gold Reserves

I am therefore asking the Congress to take prompt action to free our gold reserves so that they can unequivocally fulfill their true purpose--to insure the international convertibility of the dollar into gold at $35 per ounce.

• The gold reserve requirement against Federal Reserve notes is not needed to tell us what prudent monetary policy should be--that myth was destroyed long ago.

• It is not needed to give value to the dollar-that value derives from our productive economy.

• The reserve requirement does make some foreigners question whether all of our gold is really available to guarantee our commitment to sell gold at the $35 price. Removing the requirement will prove to them that we mean what we say.

I ask speedy action from the Congress-because it will demonstrate to the world the determination of America to meet its international economic obligations.

Special Drawing Rights

Through U.S. deficits the dollar has been the major element of the recent growth of international reserves.

As we move into balance, the world can no longer look to the dollar for major future additions to reserves.

Neither can it depend on gold. Gold production has been leveling off in the face of rising industrial use and a steady drain into private hoards. What is needed is a reserve asset universally acceptable as a supplement to gold and dollars, that can be created in the amount needed to meet the desired expansion of world reserves.

The Special Drawing Rights plan agreed on in Rio de Janeiro last September provides such an asset. This plan will fundamentally strengthen--and ultimately transform--the international monetary system in the years ahead.

The agreement should be promptly ratified and swiftly activated on an adequate scale. I will call upon the Congress to approve U.S. participation.

TRADE

The Kennedy Round was completed on June 30, the most successful multilateral agreement on tariff reduction ever negotiated. Four years of hard negotiating were required--but the ultimate success was worth it. A fair bargain was struck. Our farmers and businessmen will get major benefits as new markets are opened to them.

We will continue to work with our trading partners--in the GATT and in other bodies--to find new approaches to the liberalization of world trade, with urgent consideration given to nontariff barriers.

Some would throw away the gains from three decades of liberal trade policy, retreating into shortsighted protectionism. Mandatory quotas on American imports would meet prompt retaliation abroad. All Americans would pay a high price for the benefit of a few.

Protectionism is no answer to our balance-of-payments problem. Its solution depends on expanding world trade.

The Government stands ready to help the few that may be hurt by rising imports-but in ways that expand trade, strengthen our economy, and improve our international relations.

Accordingly, I will shortly send to the Congress legislation which will

--provide an extension of unused tariff-reducing authority;

--liberalize the criteria for adjustment assistance to firms and workers; and

--eliminate the American selling price system of customs valuation.

During the year ahead, opportunities may develop to expand peaceful trade with the countries of Eastern Europe and the Soviet Union. I again urge the Congress to provide the necessary authority for us to pursue such opportunities should they develop.

The United States has been discussing with other industrial countries a system of temporary generalized tariff preferences by all developed countries for all developing countries. Agreement was reached in the OECD on the general principles of such a system. It will be presented to the developing countries at the UNCTAD meeting in New Delhi.

We shall continue to consult with Members of Congress and representatives of American industry, agriculture, and labor as these discussions proceed.

AID TO DEVELOPING COUNTRIES

If economic progress were now to slow down in the developing countries that make up two-thirds of the free world--in the arc of Asia from Turkey to Korea, in Latin America, and in Africa--our hopes for a peaceful world would be menaced. In 1968 this means that we should

--approve a prudent AID program;

--quickly agree with other donor countries on a substantially increased replenishment of funds for the International Development Association;

--extend the Food for Freedom Act;

--authorize the United States to share with other donors in establishing the Special

Funds of the Asian Development Bank. Several less-developed countries have made great strides in the promotion of family planning. We must be prepared to assist their efforts if the grim race between food supplies and population is to be won decisively.

We can do these things--as in conscience we must--without detriment to our international payments. AID has already made great progress in reducing the impact of its program on the U.S. balance of payments. In 1968 that impact would be reduced by another $100 million, so that less than 8 percent of AID's dollar expenditures will be for non-U.S. goods and services.

THE RETURN TO PRICE STABILITY

Neither the United States nor any other free industrial nation has yet learned how to couple steady growth at high employment with reasonable stability of prices.

Our price record since 1960 has been superior to that of any other major industrial country. Even since mid-1965, we have done better than in past periods of hostilities-when direct controls were used.

But our recent record has clearly not been good enough. For one reason, firm discipline with respect to U.S. costs and prices is essential to a strong balance-of-payments position.

Rising prices are not just a last-year problem or a this- and next-year problem. They are a persistent, long-term problem for a high-employment economy---one that will not fade away by itself.

We must do what we can to minimize price increases in 1968. But we must also settle in for a long hard fight aimed toward 1969, 1970--and 1980.

One source of inflationary pressure is a rate of economic expansion that strains available productive resources. Too much demand will lift prices and wages all across the line.

Thus the readiness to apply fiscal and monetary restraint when demand threatens to become too strong must be the fundamental reliance in our battle to restore and then maintain stable prices.

RESPONSIBLE WAGE AND PRICE BEHAVIOR

But inflationary pressures also arise when labor and business each seek to expand their claims against the national product-through excessive wage settlements or unnecessary price hikes--at a faster rate than real national product is growing.

If labor seeks 80 percent of the total national pie and business 25 percent, the only result can be rising prices. This inflates the pie--but does not increase its substance.

Whatever the initial source which starts prices rising, the rise tends to perpetuate itself. Higher prices enlarge labor's wage demands. Faster wage increases raise costs, which makes prices rise some more. Once a wage-price spiral has begun, it is exceedingly difficult to slow it down.

In each of the last two years, our price level has risen by about 3 percent, and in the last six months by about 4 percent. With a somewhat stronger economy in 1968, and with labor unions building the expectation of further price rises into their wage demands, there is danger the spiral will accelerate. If it does, we face the prospect that the spiral will still be turning steadily in 1969 and into 1970. The longer it turns the harder it is to stop.

A highly restrictive fiscal and monetary policy could throttle the economy and create widespread unemployment and idle capacity in order to dampen upward pressures on wages and prices. But it would serve the objective of price stability only by sacrificing most of our other key economic objectives.

Dealing with inflation by creating a recession or persistent slack is succumbing to the disease--not curing it. The experience of 1957 and 1958--when the unemployment rate reached 7 1/2 percent and consumer prices still rose 5 percent--is a clear reminder of the large costs of such a policy and of its limited effectiveness in halting a spiral in motion. This is a course which I reject-and which I am confident that the American people reject.

Therefore, in addition to urging prompt action by the Congress on my tax proposals, I must again urge--in the strongest terms I know--that unions and business firms exercise the most rigorous restraint in their wage and price determinations in 1968.

We must make a decisive turn back toward price stability this year. This will only be possible

--if the average gain in wages and fringe benefits incorporated in new labor agreements this year begins to move back toward parity with our gains in productivity; and

--if businesses absorb cost increases wherever possible, and avoid any price decision which would, on the average, increase their margins over labor and materials cost.

STRUCTURAL PRICE PROBLEMS

There are other sources of price increase we can begin to attack in 1968. We should not expect quick results. But, over the longer pull, an important contribution can be made. There are a number of industries in which prices have climbed persistently because of supply bottlenecks in labor, materials, or capacity; because of backward technology; because of inefficient distribution systems or trade practices; or for other so-called "structural" reasons.

If we regard the battle against rising prices as a long-term task, it is time to begin to fight on every front where long-term results can be achieved.

Existing Government organization is not effectively suited to dealing with the full range and dimensions of the problem of prices.

CABINET COMMITTEE ON PRICE STABILITY

I am therefore establishing a Cabinet Committee on Price Stability, including the heads of the major relevant departments and offices of Government, coordinated by the Chairman of the Council of Economic Advisers and served by a small professional staff.

The Committee will focus the attention both of the private economy and of the Federal Government on the objective of price stability.

It will study and recommend--both for private and for public action--measures which can improve efficiency, remove bottlenecks, and improve technology in industries which are the source of persistent inflation. And it will give price stability a high priority in the formulation and administration of all Government programs.

The Committee will work closely with representatives of business, labor, and the public to seek ideas and initiatives to correct persistent structural problems that cause prices to rise and to inform them of the consequences of irresponsible wage and price behavior. It will not, however, become involved in specific current wage or price matters.

Through this new machinery, we seek to achieve a new and more effective cooperation among business, labor, and government in the pursuit of price stability in a free market economy.

CITIES AND HOUSING

The American city is in distress, plagued by poverty, unemployment, and slums; hobbled by inadequate public services, inefficient transportation, pollution, and congestion.

The city is also the source of an unprecedented affluence. Bitter poverty amidst spreading affluence spotlights the problems of the disadvantaged.

Yet that very affluence should be the source of great hope. For general affluence makes it possible to erase pockets of deprivation. We now have the means for a massive reconstruction of urban America.

The first step in an effective attack on urban problems came last year when 63 cities received the first round of Model Cities planning grants. By the end of this year, many of these cities will be ready to begin work. This first round will ultimately permit the transformation of 65 blighted areas, housing 3.7 million people, into decent places to live and work.

I will ask the Congress to fund fully the $1 billion authorization for the Model Cities program in fiscal year 1969.

Our next step will be to fulfill the commitment of the Housing Act of 1949--to provide every American family with decent housing. Our goal is to eliminate substandard housing in ten years. This task will require the full cooperation of labor, business, local government-and the residents of blighted areas.

Too long we have regarded the unemployed slum dweller as a national burden. The time has come to recognize him as a national resource, and to offer him a job rebuilding the slums in which he lives.

Our target for fiscal year 1969 is to begin 300,000 new and rehabilitated units--several times the current rate. Rent supplement and "turnkey" public housing programs will be modified and enlarged to engage private enterprise on a massive scale.

The expansion of federally assisted housing must not shrink the private housing market. During the next ten years we will need 20 million housing units in addition to those receiving Federal assistance.

Their production will balloon the need for mortgage money. I will therefore propose legislation to strengthen the mortgage market and the financial institutions that supply mortgage credit. I also propose that current interest rate ceilings on FHA and VA mortgages be lifted to allow them to compete on equal terms with other assets.

I also urge the Congress to complete action on legislation

--to strengthen regulation of savings and loan holding companies,

--to provide Federal charters for mutual savings institutions.

If we are to reconstruct the American city, we need knowledge and innovation as much as men and money. We lead the world in technology. Yet little of its power is directed to the problems of cities.

As a first step, I have named a panel to establish an Institute for Urban Development. This Institute will undertake the systematic analysis of fundamental urban problems for Government agencies.

The agonies of our cities will not yield easily or quickly--nor to simple solutions. Yet the breadth of our vision must be scaled to the magnitude of our problem--and our opportunity.

In the coming weeks, I shall send the Congress a message containing my detailed recommendations.

EXPANDING INDIVIDUAL OPPORTUNITY

America has historically taken pride in being the "land of opportunity." To a far greater extent than any earlier civilization, American society has provided opportunities for the majority of its citizens to achieve whatever their ambitions and abilities might permit.

Yet for a minority--steadily diminishing in every generation--opportunity has remained a myth.

The recent experience of prolonged prosperity and high employment has pried open the doors of opportunity for many who formerly were shut off from the main circle of abundance. Indeed, sustained prosperity is the single most important source of expanding opportunity.

But even prolonged and general prosperity leaves too many Americans untouched, unable to share in its rewards.

Despite our prosperity, there are still more than 10 million families whom we classify as poor. They include about one-seventh of our people. Many are Negro. But two-thirds are white. Many are old. But nearly half are children. Many live in urban areas. But about half live in small towns or in rural areas. Most were born poor.

Regardless of race, age, or where they live, they are not statistics, they are people. We cannot turn our backs on our fellow Americans who need help.

I regard it as a primary purpose of government to expand the opportunities for all citizens to share in our economic and social progress. For most, this means the opportunity for rewarding employment. For millions who are retired, disabled, or otherwise unable to seek active work, a share in prosperity requires wise and humane programs of income maintenance and social insurance. For all, it means full access to education and to health care.

America has made great progress in recent years--in the creation of jobs, the provision of adequate incomes, and the improvement of health and education. The future holds promise of further advance.

EMPLOYMENT AND TRAINING

More Americans entered the labor force last year than in any year since World War II. And these job seekers were accommodated to a remarkable degree.

• The over-all unemployment rate averaged 3.8 percent as it did in 1966. Except for the years of World War II and the Korean war, this two-year average was the best in four decades.

• The unemployment rate for adult men-both white and Negro--was the lowest since World War II.

Yet there is no room for complacency in these achievements. The unemployment rate for Negroes, Mexican-Americans, and other minorities remains distressingly high, and far too many of our teenagers look for work and fail to find it.

We have already made impressive progress in improving job opportunities--through the Neighborhood Youth Corps, the Job Corps, our other manpower training and retraining programs, provision of day-care facilities for working mothers, and in many other ways.

Increasingly our efforts are concentrated on the disadvantaged who have been unable to share in our prosperity. In continuing partnership with State and local governments, we will expand our training and related manpower activities, with special emphasis on an enlarged Concentrated Employment program.

But this year the Federal Government is also seeking a new partnership with private industry to train and hire the disadvantaged. I believe this partnership can succeed--and must--in providing work opportunities for every American who wants a job and who will make reasonable efforts to prepare himself to hold it.

UNEMPLOYMENT INSURANCE

Even when there are enough jobs to go around and manpower is better matched to jobs, some will inevitably experience unemployment in our dynamic economy.

Our present unemployment compensation system was designed in the 1930's. The economy has greatly changed since then, but the unemployment compensation system has not.

In many cases, the man or woman unemployed today lost his job because his skills have become obsolete, not because his employer lost his market. That worker needs long-term benefits which can support him through a substantial period of retraining, guidance, and similar services--not merely cash benefits which run out at a critical moment. Further, the benefits provided under many State systems have proved inadequate to current needs.

I am therefore asking the Congress for new legislation to strengthen the Federal-State unemployment insurance system by increasing coverage, raising benefits, modifying eligibility conditions, increasing the Federal unemployment tax base and rate, providing federally financed extended benefits to be triggered by high unemployment; and to link extended benefits to the training and employment rehabilitation of the recipients.

EDUCATION

The Federal Government has done more to improve educational opportunities in the past three years than in all its previous history. In particular, attention has been focused on providing opportunities for children to throw off their legacy of poverty. Head Start, the Elementary and Secondary Education Act, and higher education legislation stand as landmarks of our progress.

One key program for 1968--based on the Education Professions Development Act of last year--gives special emphasis to the single most important element in the educational process--our teachers. We must attract more teachers to work with disadvantaged youth, and help such teachers develop the new skills and new sensitivities needed to teach the children from poor families.

I shall propose an Educational Opportunity Act--continuing our efforts to break down the financial barriers which keep young people from poor families from entering or remaining in college.

HEALTH

Victories in the progress of health care have recently been written in headlines. Soon a failing heart may no longer be an inevitable prelude to death. Less dramatic but equally important is that Medicare and Medicaid have brought the gains of medical research within the reach of millions.

But this is no time to pause. Our rising standards and our expanding powers to cure press against present limitations on our ability to supply medical care.

Much recent effort has centered on the health needs of our older citizens. This was right, for the elderly often combine high medical need with limited financial resources.

Now we must turn attention to our children. Millions of young Americans today receive inadequate medical attention--both a result and a cause of poverty. I therefore propose a five-year plan to bring complete health services to children of low-income families, beginning with prenatal care for mothers, and continuing through the first year of infancy.

The supply of qualified health personnel has lagged behind the expanding demand. I will shortly propose new measures to increase this supply.

Last year, medical care prices rose 7 percent, more than twice as fast as other prices. I shall propose new measures to slow down the spiraling cost of health care.

INCOME MAINTENANCE

I have recently appointed a Presidential Commission on Income Maintenance. This distinguished group of citizens, under the chairmanship of Mr. Ben Heineman, has a broad charter to examine every aspect of our present public welfare and income maintenance programs and to propose necessary reforms. The Commission will examine a number of major reforms proposed in recent years--including several varieties of minimum income guarantees. It will evaluate the costs and benefits of these proposals in terms of their effects both on the recipients and on the economy.

CONSUMER PROTECTION

The true test of the efficiency of any economic system is its ability to meet the needs of consumers. The American economy-with its free markets--has far surpassed all others in meeting this test.

But the market does not always give the consumer the protection he needs. There is a role, too, for Government action, especially as our wants and our products become more complex.

Last year the Congress enacted, and I approved, important new legislation to protect our consumers.

Important new measures are being proposed to the Congress for the protection of consumers. I hope that this Congress will go down in history as the consumer-conscious Congress.

OTHER ECONOMIC POLICIES

1. The Department of Transportation, now one year old, is moving vigorously toward rationalization and coordination of our transportation policies. I have asked its Secretary to develop new proposals to improve air safety and air service.

The number of air passengers has doubled in the past five years and will more than double again in the next ten. Airway and airport facilities must keep up with this growth. These facilities are costly and benefit primarily their users--who should pay the necessary costs.

2. Total holdings of our stockpile of strategic and critical materials now stand at $6.4 billion, of which $3.3 billion exceeds our stockpile requirements as presently determined. Continuing to carry these excess materials in the stockpile both imposes an unnecessary burden on our taxpayers and restricts their availability to our industries.

I renew my recommendation that I be given authority to dispose of many of these excesses, especially of nickel, platinum, beryl ore, magnesium, and castor oil, all currently in short supply in the commercial market.

3. Accurate, comprehensive, and timely statistics are essential to the development of sound economic policies by government, business, and labor.

Our economic statistics are the best and most comprehensive in the world. But they can be and need to be further improved. The costs will be exceedingly small relative to the benefits.

To this end, my 1969 budget provides for several new statistical efforts which can be rapidly and inexpensively translated into improved guides for public and private decisions.

CONCLUSION

A strong and sustained advance of production surely does not mean we have solved all economic problems--much less that the Nation is making satisfactory progress toward its broader and more fundamental goals.

Americans know how to create an expanding abundance. But we are still learning how to use it wisely and compassionately to further the self-development and happiness of men, women, and children.

Similarly, merely to achieve a balance in our international payments would not assure that our international economic relations amply serve the interests of this Nation and of world progress. We could bring our balance of payments into equilibrium by means which would weaken our domestic economy, forfeit our foreign policy objectives, or impair the vitality of world economic development.

This Administration will never forget that the purpose of our economy and of our economic policies is to serve the American people--not the reverse.

Yet this recognition would not justify policies which ignore the dangers of inflation, economic distortions, and ultimately recession. For these are equally enemies of our public purposes.

Nor will we forget that balance-of-payments policies should serve the Nation's basic goals abroad and at home--not the reverse.

Yet this recognition makes it no less necessary to deal firmly and decisively with our balance-of-payments problem. For a breakdown of the international financial system would bring incalculable harm not only to ourselves and free peoples around the world, but even to world peace and progress.

I am determined that our economic policies in 1968 will be prudent as well as creative; safe as well as ambitious; responsible as well as compassionate.

The American people are giving their sons and brothers to fight for freedom abroad. At home we must support their sacrifice by preserving a sound economy. I believe that the American people will accept the cost of doing that

--by paying an extra cent of each dollar of income in taxes,

--by accepting the cutback of lower-priority Federal programs, and

--by limiting the expansion of Federal spending to a few areas of the most vital priority.

Today the war in Vietnam is costing us 3 percent of our total production. That is a burden a wealthy people can bear. It represents less than one year's growth in our total output.

But one day peace will return. If we plan wisely--as the committee on post-Vietnam adjustment I announced in my Economic Report last year has been doing--and act boldly, we will have that 3 percent of output to add--over a year or two--to our normal 4 percent a year of economic growth.

If we preserve a healthy economy in the meantime, we will be prepared when our sons and brothers return to take full advantage of that bonus.

Our obligation to them demands that we do no less.

LYNDON B. JOHNSON
February 1, 1968