Economics question

[mmonk]

During the Carter years, there was a convergence of double digit inflation and interest rates. In a previous post, I entered the idea that when inflation reached a double digit rate, the fed raise interest rates to get it under control. Since many companies had outstanding loans that were renegotiated at higher rates, I said in that case, the higher rates added to the inflation until it pushed us into recession. I came about this thought and rare occurance through personal experience since my business was tied directly to the construction industry, and our businees slowed to a crawl as the cost of business skyrocketed while demand when down. I was taken to task for the post, I guess, because the post was taken as blaming or being critical of the Carter administration when it wasn't meant to be. Could anyone dispute my contention by showing me it wasn't the case? And by the way, I wanted Carter to stay in office as I realized the policy was not at fault.

[brmdp3123]

1. I'm really not sure what you're saying-

The fed would raise interest rates to combat inflation, but why in the world would a company renegotiate a loan at a higher interest rate?

Higher interest rates made it difficult for people to borrow-if they couldn't borrow, they couldn't build-if they couldn't build, then the construction business and everything associated with it slowed down. Econ 101.

[mmonk]

2. The banks did when

the loans came up for renegotiation. Many business loans are renegotiated at the end of the term. I think prices continued to rise as these costs were added at all levels (manufacturing, wholesale, and then retail. It was such an economic anolmaly in my opinion, but we (dems) and Carter were unfairly blamed for the results. The bad news was it began current economic myths since Reagan that the repukes run on (cutting taxes and cutting programs). I was wondering if I've got it wrong, that's all. Such a situation was unique IMO.

[happyslug]

3. First most loans are short term

In fact Mortgages prior to the 1930s lasted only one year at a time and the parties had to renegotiated them at the end of each year (thus in old Westerns you hear of people paying off the mortgage, or having the bank renew the mortgage, a theme in Westerns well into the 1950s).

Such short term loans are still the norm when dealing with a bank other than for Mortgages and car loans. Mortgages were made 20 years only by Federal Action in the 1930s where the Feds agreed to buy 20 year mortgages at a set price from the banks and then grouped them together and sold the proceeds to investors (Sallie Mae). At the time no one thought this would work, but Sallie Mae was and is hugely profitable with this system. Note it took the Federal Government to get it started. GM and Ford adopted similar polices after WWII for they wanted to sell cars and people did not have the money up front to pay for the cars. Thus a similar system was developed by GM, Ford and the other Car makers along with banks for such car loans.

Other then these areas Bank loans are generally for one year or less (Sometime for 5 years but rarely more unless a Mortgage). Furthermore Banks often provide short time financing for "projects" for example construction projects that have to be re-payed once the job is done. For example when a builder builds a house he takes out a short term loan from his bank, which he pays back once the house is finished and sold (The Mortgage is used to pay off this short term loan). Car dealers do the same with their inventory, borrow short term money till the cars are sold or other specific time.

Thus such loans are common and upon expiration must be re-negotiated (The bank does not want to foreclose or sue the borrower, just set the loan rate at whatever the rate is when the loan is negotiated). Thus you hear of the Fed's setting the Short term loan rate for this rate control the rate on the above short-term loans. Mortgages and other long term loans the Feds have very little control over do to their length of term, thus it is the short term rates everyone looks at.

[papau]

4. There was no recession under Carter - 4 years of 3.3% growth with

little deficit and a 5 year Pentagon spending plan given in 1980 that had all that Reagan ever did as to defense build-up - except for Star Wars.

As to you specific interest rate/inflation rate question - yes they both got quite high during that period - more from the gas crunch than anything else.

The rates were coming down when the Reagan recession hit - and in my opinion - the recession the next year is better laid to the Aug 1980 tax cut scaring the hell out of all those in finance that I knew at the time.

on edit: Reagans 1.7 T addition to the debt on top of the 1T he inherited did indeed increase the growth of GDP - Reagan averaged over 3.4% over 8 years compared to that very poor result of Carter's - a small 3.3% average compound increase in GDP per year.

[mmonk]

5. While growth overall was fine,

I can assure you many businesses (my family and I had one) had deep difficulty when the interest rates were double digit. The gas crunch helped fuel inflationary trends. Reagan stunk and is mostly legend and not what my post was about. I was wondering if anyone thought the fed moved too aggressively or fast?

[Zynx]

9. Ahem. There was a recession in 1980, during Carter's administration.

A short one to be sure, but a recession nonetheless. It was the first dip of the double dip with the second being the 1981-1982 recession under Reagan. Attempting to argue that the Carter economy was good is a difficult argument for me to swallow. Carter had good growth in 1977 and early 1978 from the recovery from the 1973-1975 recession. However, growth from late 1978 on forward was sub par and accompanied by two years of 12%+ inflation and that was more than just the gas crunch. Inflation in general went insane with housing prices, food prices, health care, car prices, etc increasing by far more than their normal rate.

Please, let's try not to re-write history here.

[papau]

10. Bush revised History so both Carter and Reagan did not have 2 qtrs down

in a row. - so no recession?????? Indeed only Bush41 has had a recession under the old 2 qtrs rule post the Bush43 revision of the numbers. The recession call under Bush43 was as arbitrary as any I have seen. So I like the WSJ 2 qtr approach

Last 2 years of Carter did indeed average constant dollar growth of only 1.8%. But Carter's 4 yrs average looks pretty good compared to Reagan's 8 yr that was stimulated by an additional 1.7 T in debt.

As to inflation in the last 2 years, the GDP in constant dollars grew 1.811 % and in inflated dollars grew 9.856 % yielding an inflation adjustment of 7.9% each year.

So there was NO 2 years of 12% inflation - as if 7.9 % was not bad enough! :-)

But as you said - must not rewrite history! The next Q&A is how high did mortgage rates get and how high did prime paying margin accounts - and was the high point under Carter or Reagan - hint - it was under Reagan that we hit the high - and margin account rates were over 20%, mortgage rates were at 13% (the Pru put through some commercial short term mortages at 15%) and the Fed rate was at ????? class??? class??? - nobody stays awake for this Stuff!!! :-)

:toast:

:-)

http://www.bea.doc.gov/bea/dn/gdplev.xls

Current-Dollar and "Real" Gross Domestic Product 09/29/05
(Seasonally adjusted annual rates)
Annual Quarterly
GDP in billions of current dollars GDP in billions of chained 2000 dollars GDP in billions of current dollars GDP in billions of chained 2000 dollars
1976q4 1,885.3 4,584.6
1977q1 1,939.3 4,640.0
1977q2 2,006.0 4,731.1
1977q3 2,066.8 4,815.8
1977q4 2,111.6 4,815.3
1978q1 2,150.0 4,830.8
1978q2 2,275.6 5,021.2
1978q3 2,336.2 5,070.7
1978q4 2,417.0 5,137.4
1979q1 2,464.4 5,147.4
1979q2 2,527.6 5,152.3
1979q3 2,600.7 5,189.4
1979q4 2,660.5 5,204.7
1980q1 2,725.3 5,221.3
1980q2 2,729.3 5,115.9
1980q3 2,786.6 5,107.4
1980q4 2,916.9 5,202.1
1981q1 3,052.7 5,307.5
1981q2 3,085.9 5,266.1
1981q3 3,178.7 5,329.8
1981q4 3,196.4 5,263.4
1982q1 3,186.8 5,177.1
1982q2 3,242.7 5,204.9
1982q3 3,276.2 5,185.2
1982q4 3,314.4 5,189.8
1983q1 3,382.9 5,253.8
1983q2 3,484.1 5,372.3
1983q3 3,589.3 5,478.4
1983q4 3,690.4 5,590.5
1984q1 3,809.6 5,699.8
1984q2 3,908.6 5,797.9
1984q3 3,978.2 5,854.3
1984q4 4,036.3 5,902.4
1985q1 4,119.5 5,956.9
1985q2 4,178.4 6,007.8
1985q3 4,261.3 6,101.7
1985q4 4,321.8 6,148.6
1986q1 4,385.6 6,207.4
1986q2 4,425.7 6,232.0
1986q3 4,493.9 6,291.7
1986q4 4,546.1 6,323.4
1987q1 4,613.8 6,365.0
1987q2 4,690.0 6,435.0
1987q3 4,767.8 6,493.4
1987q4 4,886.3 6,606.8
1988q1 4,951.9 6,639.1
1988q2 5,062.8 6,723.5
1988q3 5,146.6 6,759.4
1988q4 5,253.7 6,848.6
1989q1 5,367.1 6,918.1
1989q2 5,454.1 6,963.5
1989q3 5,531.9 7,013.1
1989q4 5,584.3 7,030.9
1990q1 5,716.4 7,112.1
1990q2 5,797.7 7,130.3
1990q3 5,849.4 7,130.8
1990q4 5,848.8 7,076.9
1991q1 5,888.0 7,040.8
1991q2 5,964.3 7,086.5
1991q3 6,035.6 7,120.7
1991q4 6,095.8 7,154.1
1992q1 6,196.1 7,228.2
1992q2 6,290.1 7,297.9
1992q3 6,380.5 7,369.5
1992q4 6,484.3 7,450.7
1993q1 6,542.7 7,459.7
1993q2 6,612.1 7,497.5
1993q3 6,674.6 7,536.0
1993q4 6,800.2 7,637.4
1994q1 6,911.0 7,715.1
1994q2 7,030.6 7,815.7
1994q3 7,115.1 7,859.5
1994q4 7,232.2 7,951.6
1995q1 7,298.3 7,973.7
1995q2 7,337.7 7,988.0
1995q3 7,432.1 8,053.1
1995q4 7,522.5 8,112.0
1996q1 7,624.1 8,169.2
1996q2 7,776.6 8,303.1
1996q3 7,866.2 8,372.7
1996q4 8,000.4 8,470.6
1997q1 8,113.8 8,536.1
1997q2 8,250.4 8,665.8
1997q3 8,381.9 8,773.7
1997q4 8,471.2 8,838.4
1998q1 8,586.7 8,936.2
1998q2 8,657.9 8,995.3
1998q3 8,789.5 9,098.9
1998q4 8,953.8 9,237.1
1999q1 9,066.6 9,315.5
1999q2 9,174.1 9,392.6
1999q3 9,313.5 9,502.2
1999q4 9,519.5 9,671.1
2000q1 9,629.4 9,695.6
2000q2 9,822.8 9,847.9
2000q3 9,862.1 9,836.6
2000q4 9,953.6 9,887.7
2001q1 10,021.5 9,875.6
2001q2 10,128.9 9,905.9
2001q3 10,135.1 9,871.1
2001q4 10,226.3 9,910.0
2002q1 10,333.3 9,977.3
2002q2 10,426.6 10,031.6
2002q3 10,527.4 10,090.7
2002q4 10,591.1 10,095.8
2003q1 10,717.0 10,138.6
2003q2 10,844.6 10,230.4
2003q3 11,087.4 10,410.9
2003q4 11,236.0 10,502.6
2004q1 11,457.1 10,612.5
2004q2 11,666.1 10,704.1
2004q3 11,818.8 10,808.9
2004q4 11,995.2 10,897.1
2005q1 12,198.8 10,999.3
2005q2 12,378.0 11,089.2

[Zynx]

12. Inflation is usually measured by the CPI and not the GDP inflation deflato

r. The CPI was over 12% and I know that for a fact.

[DelawareValleyDem]

6. Not sure I agree with your statement

"the higher rates added to the inflation until it pushed us into recession". Higher rates contracted the money supply, which slowed growth and induced recession, which eventually brought down the abnormally-high inflation.

Paul Volcker, then Chairman of the Fed, discusses that era in this interview.

http://www.pbs.org/fmc/interviews/volcker.htm

spelling edit

[mmonk]

7. I was basically saying the same thing

except inflation brought the higher interest rates but growth continued as did inflation for a prolonged period until eventual contraction (or recession). I was trying to figure out why things occurred in that manner instead of a gradual contraction and softer landing.

[papau]

11. I see two turns to massive deficit - one under Reagan and one under

Bush43 -

and the loss of growth/Jobs after each.

I wonder if that means something - like business capital spending deferred or canceled as folks can not get a handle on the proper hurdle rate to demand for new investment.

[mmonk]

8. and thanks for the Volcker link.

[Neil Lisst]

13. Carter was the victim of run away oil prices.

Everything else followed from that - the inflation, the interest rates, and ultimately, the stagflation. It didn't magically end when Reagan took office. In fact, the HIGHEST price of oil (inflation adjusted) ever was during the first year of the Reagan administration.

It was this sudden surge in the cost of oil which fueled the inflationary spiral that ended in stagflation. Like an airplane that is climbing too fast, it sputters, and falls under its own weight.

Carter was just at the wrong place at the wrong moment in time. The Mideast and OPEC were coming into their own, and they drove the price so high it stalled out the US economy. Since then, they haven't been so self-defeating in oil policy.

[Neil Lisst]

14. Carter's woes were all from the price of oil

Everything else followed from that - the inflation, the interest rates, and ultimately, the stagflation. It didn't magically end when Reagan took office. In fact, the HIGHEST price of oil (inflation adjusted) ever was during the first year of the Reagan administration.

It was this sudden surge in the cost of oil which fueled the inflationary spiral that ended in stagflation. Like an airplane that is climbing too fast, it sputters, and falls under its own weight.

Carter was just at the wrong place at the wrong moment in time. The Mideast and OPEC were coming into their own, and they drove the price so high it stalled out the US economy. Since then, they haven't been so self-defeating in oil policy.

[mmonk]

15. Yes, I think all the responses were correct by the

administration, it was just caught in a global change. I'm wondering how the new dynamics we're currently encountering along with bush's fiat currency or high debt along with surging energy prices will play out.