To the Congress of the United States:
The United States enters 1974 in a position of leadership in the world economy. The dollar is strong, we have constructive economic relations throughout the world, and we have the greatest freedom of action resulting from our great capacity to produce. We must take the responsibilities and the opportunities this position of leadership gives us.
Nineteen hundred and seventy-three was a year of problems and progress in the American economy. In some respects the problems were greater than we expected and the progress was less than we had hoped. But the areas of our solid achievements were more important than the areas of our disappointments. We and the world around us have difficult tasks ahead-primarily to deal with an old problem, inflation, and to deal with one that has just become acute, energy. But the United States confronts these difficulties with a strong and adaptable economy, which means an economy of capable and enterprising people.
In the middle of 1971, when the New Economic Policy was launched, the country had three economic objectives: to promote the expansion of output and reduce unemployment, to correct the persistent deficit in the U.S. balance of payments, and to check the inflation which had been going on for 5 1/2 years. To achieve these objectives a comprehensive program of action was initiated. Taxes were reduced. Price and wage controls were instituted. The exchange rate of the dollar was set free to adjust to market conditions, and steps were initiated to improve the international monetary system.
There has been great progress toward two of these three objectives. Production and employment have risen rapidly. Total civilian employment was 6.8 million higher in December 1973 than in June 1971. The unemployment rate had fallen from 6 percent to a little under 5 percent. In 1973 a larger percentage of the civilian population over the age of 16 was employed than ever before.
With vigorously rising employment, and rising productivity as well, there was a big increase in output of goods and services, the essential ingredients of higher living standards. In the 2 1/2 years of the New Economic Policy, total output increased by 14 percent, which is about 35 percent above our average for a period of this length. The real income of American consumers per capita, after taxes, rose by 8 1/2 percent, also well above our long-term rate. Both real output and real income, of course, reached record highs.
The second goal of the New Economic Policy, to strengthen the international financial position of the United States and of the world, was also largely achieved. The significance of this goal is commonly neglected in America. But a country whose currency is weak, whose currency others don't want to hold, is greatly limited in what its government and citizens can do--in buying goods abroad, in traveling freely, in investing freely, in maintaining forces abroad if necessary. And if a country goes on spending more abroad than it earns abroad, its freedom of action is going to be curtailed. There has been a dramatic change in our balance of trade, from a deficit of $917 million in the second quarter of 1971 to a surplus of $714 million in the third quarter of 1973. We have not only improved our own position but we have also taken the lead in strengthening the international system. The more flexible system we have promoted withstood numerous shocks during 1973, and at the same time the world economy and international trade and investment continued to expand.
It is the third of the three objectives of the New Economic Policy--the control of inflation--that has been our great difficulty. Until the end of 1972 the New Economic Policy, drawing on the results of earlier fiscal and monetary restraints, worked well in getting the rate of inflation down, even though worrisome rises in food prices appeared. But in 1973 inflation speeded up sharply. During the year, consumer prices increased by almost 9 percent.
Of course, the progress on the first two objectives was connected with the disappointment on the third. The rapid rise toward full employment, the expansion of our net exports, and the reduction in the value of the dollar to make the United States more competitive, all contributed to the resurgence of inflation. But there were other factors at work, less directly under our control. Food production lagged in major producing countries, including the United States. An extraordinary combination of booms in other countries boosted prices of industrial materials. Countries jointly controlling a large part of the world's exportable oil supplies decided to raise their prices substantially. During 1973 food prices accounted for 51 percent of the total rise of consumer prices, and energy prices accounted for another 11 percent.
The American people generally prospered despite the inflation in 1973. Their incomes, on the average, rose more than prices. But there were many families for which that was not true. We cannot accept continuation of the inflation rate of 1973, and still less can we risk its acceleration. We must dedicate ourselves to carrying on the fight against inflation in 1974 and thereafter.
There are at least four lessons we can learn from our past experience in combating inflation:
1. The importance of patience. To correct a powerful trend of the economy which has been going on for some time requires time. Sharply squeezing down the economy in an effort to halt inflation would produce a severe drop in employment and economic activity and create demands for a major reversal of policy. Pumping up the economy to get quickly to full employment would risk setting off even swifter inflation. We need a greater steadiness of policy.
2. The importance of the rest of the world. The events of 1973 brought our external economic relations sharply to our attention. Most simply put, it will be exceedingly hard for us to have a stable economy in an unstable world. We must contribute a stabilizing influence to the world economy of which we are a large part. We must promote concerted efforts to maintain the health of the world economy.
3. The importance of production. Despite other vicissitudes, what determines the economic well-being of the American people more than anything else is the rate of production. The rapid increase of production has provided the rising real incomes of the American people. More specifically, increasing food production is the best way to deal with the food price problem, and increasing our energy supplies is the best way to deal with the energy shortage. We think of ourselves as a Nation with high and strongly rising output. We are. But we can do better and it is important that we do better.
4. The importance of free markets. In the past several years, under the pressure of emergency conditions, we have made great, but temporary, departures from reliance on free prices and free markets. In special circumstances and for short periods these departures have been helpful. But taken together, these experiences have confirmed the view that the free market is, in general, our most efficient system of economic organization, and that sustained and comprehensive suppression of it will not solve the inflation problem.
At the beginning of 1974 the three problems which have dominated economic policy for many years---inflation, unemployment, and the balance of payments-have been joined by a fourth--the energy problem. Or rather, the other three problems have been pervaded by the energy problem. The present oil situation means that we are paying much higher prices for imported oil than formerly and that the volume of imports at the present time is less than we would freely buy even at those prices. But the prices and volumes are both highly uncertain and add uncertainties to the economic picture for the year.
The current and prospective oil situation will at the same time raise prices, limit production in some industries, and reduce demand in others. It will be the objective of the Administration's policy to do three things in this circumstance:
1. To keep the moderate slowdown of the economic boom from becoming excessive because of the energy shortage;
2. To keep the rise of fuel prices from spilling over unnecessarily into more inflation in other parts of the economy; and
3. To set the stage for stronger economic expansion with greater price stability after the initial price and output disruptions caused by the energy shortage have been absorbed.
Achieving these goals in this unpredictable economic environment will require alertness and adaptability. We cannot set a policy at the beginning of the year and let it run without further consideration. But we can describe the main elements of our present strategy.
1. We will maintain a budget of moderate economic restraint. Even though the combination of urgent requirements and inescapable commitments generates pressures for huge expenditure increases, the budget I will propose will keep the expenditures within the revenues that the tax system would yield at full employment.
2. We will be prepared to support economic activity and employment by additional budgetary measures, if necessary.
3. We urge the Congress to enact the legislation I proposed last year for improving the unemployment compensation system, with further strengthening amendments I will submit. This would provide better protection for workers who may lose their jobs, whether because of the energy shortage or for other reasons, and also help to protect the economy better against the secondary effects of their unemployment.
4. Working together with other consuming countries, including the developing countries, and with the oil-exporting countries, we will try to arrive at an understanding on mutually beneficial conditions of exchange.
5. We will try to manage the energy shortage in such a way as to keep the loss of jobs and production to a minimum, although some loss is inevitable in the short run. The allocation system is designed to assure an adequate flow of oil to those industries where lack of it would limit employment the most. We shall also have to provide or permit incentives including higher prices--for maximum imports, for maximum domestic exploration and production, and for efficient use of our scarce supplies. To prevent higher prices from causing excess profits, I have proposed an Emergency Windfall Profits Tax, which I urge the Congress to enact promptly.
6. We will work with other oil-importing countries to prevent the higher prices of oil and its limited supply from generating a downward spiral of recession. The higher prices will cause dislocations and impose burdens on all consuming countries; they do not have to cause a spreading recession if we manage our affairs cooperatively and wisely.
7. We will continue our policy of maximum agricultural production to help hold down food prices.
8. We will continue our policy of progressive removal of price and wage controls in order to restore the flexibility needed for efficiency and expansion in a time of economic strain.
The effort to maintain the stability of our economy in the face of the present unusual conditions will absorb a great deal of attention this year. But we must not neglect the fundamental factors which determine the prosperity of the American people in the longer run. One of these has come to general public attention with a rush--the need for adequate supplies of energy at reasonable cost. We are seeing the possible consequences of being deprived of these, and we must not allow it.
The energy problem has had two main parts for some time:
First, with rapidly rising world demand for energy, most of which comes from depletable resources, we could run into sharply increasing costs of energy unless vast investments are made in research, development, experimentation, and production.
Second, we are exposed to the danger of being thrown back upon inadequate or very expensive sources of energy earlier than necessary by joint action of a few countries that control a large part of the existing low-cost reserves of oil.
To deal with this problem I began proposing, almost 3 years ago, a number of governmental measures to permit or assist development of energy within the control of the United States. In 1973 the second part of the problem, which had formerly been a threat, became a reality at least temporarily, and this has demonstrated unmistakably the urgency of the steps I have recommended.
I propose that the United States should commit itself to "Project Independence" to develop the capacity for self-sufficiency in energy supplies at reasonable cost. One key element of Project Independence is a 5-year, $10 billion program of federally financed research and development in the field of energy. My budget for fiscal year 1975 will include almost $2 billion for this purpose. By far the largest part of the research, development, and production required by Project Independence will be private, and steps to stimulate the private contribution are essential. Among the numerous measures to this end which I called attention to in my latest energy message on January 23, were several tax proposals. Last April I proposed that the investment credit be extended to cover exploratory drilling for new oil and gas fields, while the tax shelters for wealthy taxpayers associated with such drilling would be eliminated. In my recent message I asked Congress to eliminate the depletion allowance given to U.S. companies for foreign oil production but to retain it for domestic production, in order to shift the incentive to exploration and production at home. I have also asked the Treasury Department to prepare proposals for revising the treatment of taxes paid by oil companies to foreign governments, both to improve tax equity and to increase the incentive for domestic production.
Energy is only the most dramatic example of the need for policies to promote a rising American standard of living by increasing production and assuring the stability of supplies. There are many others.
I. We have discovered that we no longer have a surplus of food, in the sense of producing more than we need either to consume at home or to sell abroad in order to pay for the things we buy abroad. We no longer have great reserves of food in storage and acreage withheld from use. We have freed the American farmer to produce as much as he can and we should keep him free. American agriculture is, and should be, heavily involved in exports. This means that the American food price level and the American consumer are directly influenced by the forces of world demand and supply. International cooperation is needed to promote food production and the maintenance of stocks adequate to shield consumers from the more extreme variations of output. At the call of the Secretary of State, preparations are now being made for a conference on this subject to be held under United Nations auspices.
II. Our ability to buy abroad what is produced more efficiently abroad, and to sell abroad what we produce more efficiently, contributes to the productivity of the American economy. At my recommendation the countries of the world are now preparing to negotiate new steps in foreign trade policy which will further invigorate this beneficial process. I urge the Congress to enact promptly the trade legislation I have proposed to permit the United States to participate in these negotiations.
III. One of our most essential industries--freight transportation--is unfortunately shot through with inefficiencies. Many of these inefficiencies are the result of obsolete, shortsighted, and excessive regulation. Hundreds of millions and probably billions of dollars a year could be saved by unleashing carriers and shippers to carry the freight on the most efficient mode of transportation, in the most efficient way. I have sent to the Congress new proposals to this end.
IV. In 1973, as in 1972, relatively few days of work were lost as a result of industrial disputes. Continuation of this record would be a valuable contribution to the level and stability of production. I have appointed a Commission on Industrial Peace, composed of leaders of management and labor with an impartial chairman, to make recommendations for bringing that about.
V. In addition to the major research and development effort to provide secure supplies of energy, without abusing our natural environment in doing so, this Administration is continuing its support of research and development projects that will help maintain a healthy rate of innovation and productivity growth in the rest of our economy. These activities will be supported at record levels in the coming year, and we are also trying to get a higher return for every dollar we spend.
VI. An indispensable source of economic growth is saving and investment in productive facilities. It should be the policy of government to interfere with this process as little as possible. The government should not absorb private savings into financing its deficits in times when private investment would otherwise utilize all the private saving. Our basic budget policy of balancing the budget or running a surplus under conditions of high employment carries out this principle. Moreover, taxation should not depress productive investment by unduly burdening its return. We should not indulge in demagogic and shortsighted attacks upon profits.
VII. We must push forward, as we have been doing, to remove barriers against the entry of women and minorities into any occupation and against their maximum training and advancement. The men and women of the country are its greatest economic resource. To fail to use any of this resource to its full potential is a serious loss to us all.
Compared with our parents and grandparents we are enormously rich. We have protections against the ebbs and flows of economic life that they never expected and barely imagined. But I cannot assure the American people of an easy time. Like our parents and grandparents, we have our own tests. If we meet them with fortitude and realism the period ahead can be one not only of material advance but also of spiritual satisfaction.
February 1, 1974.