Der Spiegel interview with Paul Volcker

Paul Volcker and his monetarist experiment to end inflation in the late 1970s and early 1980s demonstrated that there was nothing easy or painless about getting results with monetary policy. The route to reducing inflation, this experiment proved, was through creating recession, not by magically altering the money values. It also demonstrated Volcker's courage. That last quality has been very helpful, since Volcker is in a position to have influence if something else goes bad, and he is talking about the right things -- breaking up the banks, in particular.

Interview with US Economic Recovery Advisory Board Chair Paul Volcker
Interview conducted by Gabor Steingart and Thomas Schulz
December 12, 2009
America Must 'Reassert Stability and Leadership'

Paul Volcker, 82, is one of US President Barack Obama's leading economic advisors. SPIEGEL spoke with him about the economic challeges facing the US, whether new taxes are needed to address public debt and how America can return to a position of economic leadership.

SPIEGEL: Mr. Volcker, you grew up during the Great Depression. What sort sort of childhood memories do you have from those difficult times?

Volcker: Well, my memories are quite limited. My father had a stable job. He was a city manager at that time. We weren't wealthy, just middle class living in a growing suburb of New York, and that was not in the middle of depressed America. I know that my mother at that time did not let me take a part time job and she often said that other people needed the job more than I did.

SPIEGEL: Can the current situation be compared with the Great Depression?

Volcker: I remember there were people, beggars and tramps as we called them, who wanted to be fed. So it's true, today we also have people who are relying on food stamps and other payments but we are a long way from the Great Depression. We are in a serious, great recession. Today we have 10 percent unemployment, but at that time it was more like 20 or 25 percent. That's a big difference. You had mass unemployment.

SPIEGEL: But even though there are still more people being fired than hired, the Chairman of the Federal Reserve Ben Bernanke is saying that the recession is technically over. Do you agree with him?

Volcker: You know, people get very technical about these things. We had a quarter of increased growth but I don't think we are out of the woods.

SPIEGEL: You expect a backlash?

Volcker: The recovery is quite slow and I expect it to continue to be pretty slow and restrained for a variety of reasons and the possibility of a relapse can't be entirely discounted. I'm not predicting it but I think we have to be careful.

SPIEGEL: What is the difference between this deep recession and all the other recessions we have seen since World War II?

Volcker: What complicates this situation, as compared to the ordinary garden variety recession, is that we have this financial collapse on top of an economic disequilibrium. Too much consumption and too little investment, too many imports and too few exports. We have not been on a sustainable economic track and that has to be changed. But those changes don't come overnight, they don't come in a quarter, they don't come in a year. You can begin them but that is a process that takes time. If we don't make that adjustment and if we again pump up consumption, we will just walk into another crisis.

SPIEGEL: As chairman of the Economic Recovery Advisory Board, you advise President Barack Obama on how to prevent such a recurrence. Is he following your guidance?

Volcker: We have various working groups that work on and make recommendations on particular problems like retirement programs and social security. We made some recommendations on financial reforms which were not accepted, but that is part of the game. The president is more eloquent than I can be on these issues. Getting it done as compared to talking about it is a problem, but we have some suggestions along that line.

SPIEGEL: The US has not yet instituted any kind of reform policy. What we see is the government and the Federal Reserve pouring money into the economy. If one looks beyond that money, one sees that the economy is in fact still shrinking.

Volcker: What should I say? That's right. We have not yet achieved self-reinforcing recovery. We are heavily dependent upon government support so far. We are on a government support system, both in the financial markets and in the economy.

SPIEGEL: To get the recovery to the point where it is right now has cost a lot of money. National debt will probably reach $12 trillion in 2019. Just serving the debt costs $17 billion a year -- at least according to this year's forecast. That's difficult to sustain.

Volcker: You've got to deal with the deficit and you've got to deal with it in a timely way. Right now, with the unemployment rate still very high, excess capacity is still evident, and the economy is dependent on government money as we said. We are not going to successfully attack the deficit right now but we have got to prepare for attacking it.

SPIEGEL: Should Americans prepare themselves for a tax increase?

Volcker: Not at the moment, but I think we would have to think about it. The present tax system historically has transferred about 18 to 19 percent of the GNP to the government. And we are going to come out of all this with an expenditure relationship to GNP very substantially above that. We either have to cut expenditures and that means reducing entitlements and certainly defense expenditures by an amount that may not be possible. If you can do it, fine. If we can't do it, then we have to think about taxes.

SPIEGEL: What kind of taxes do you have in mind?

Volcker: Maybe we should talk about energy taxes, which could be a big revenue producer.

SPIEGEL: The Harvard Professor Niall Ferguson has written a Newsweek cover story where he essentially argues that America is in great danger due to steep debt, slow growth and high spending. Do you think it is overblown?

'We Have Gotten a Wake-Up Call'

Volcker: The challenge is real. That is the kind of threat that we want to deal with and reassert stability and leadership. I grew up in an environment in which the United States was leading, was a pole of strength.

SPIEGEL: At that time, America was the biggest exporter in the world and not the biggest importer. The America you are referring to was the biggest lender in the world and not its biggest borrower.

Volcker: That is correct. And we don't perhaps have to get all the way back there, but we have to get back in an area where there is confidence in the stability and the authority of the United States. I think we can do that but we have a challenge, we have gotten a wake-up call. There is concern in our recovery advisory group about how to rebuild the competitiveness of the United States, which inevitably means rebuilding, in part, the manufacturing sector of the economy.

SPIEGEL: What part of the manufacturing sector do you envision?

Volcker: I think there are a lot of opportunities in the so-called green economy for taking leadership. On the technical side, I mean technology development, research development, the US is doing ok, but when it comes to manufacturing some of this stuff, somehow the Germans do it all!

SPIEGEL: And a lot of Americans try to blame the Germans for this, saying that we are depending too heavily on the export industry.

Volcker: I must say, I admire Germany in this situation even with its high costs. In some ways, I think the labor cost is higher in Germany than it is in the United States but you can somehow maintain that export edge. You are dedicated to exporting, we are dedicated to financial engineering and it hasn't worked out too well. I wish we had fewer financial engineers and more mechanical engineers. Tell me the secret of how the Germans keep this going.

SPIEGEL: Maybe the reason is that the Germans don't trust the American boom and bust economy with its dedication to fast money.

Volcker: I think part of it is the psychological. The young, ambitious Germans realize that export industry and heavy engineering is the German competitive advantage. The best Americans don't even think about that. We have the Silicon Valley and that whole kind of high tech industry is still our strength but we need something broader than that too.

SPIEGEL: Outsourcing and off-shoring have been the key words of the last decades. You don't think that the times of "made in America" are over forever?

Volcker: That has been the mentality and we have to change that somehow. I think it's self-correcting in part. The glamour of going to Wall Street is not as great today as it was a few years ago.

SPIEGEL: Are you sure? The Wall Street businesses are doing well. The big bonuses are back.

Volcker: It's amazing how quickly some people want to forget about the trouble and go back to business as usual. We face a real challenge in dealing with that feeling that the crisis is over. The need for reform is obviously not over. It's hard to deny that we need some forward looking financial reform.

SPIEGEL: In Germany, the government, but also the Bundesbank, is still waiting for a clear American approach toward that goal.

Volcker: I grew up in a world in which American leadership was important and, I thought, constructive. It's more difficult now because we are not as relatively strong as we used to be. If you are right in saying that somebody is waiting for our voice, I hope we can speak clearly.

SPIEGEL: You have been clear about your ideas. Do you really believe we have to break up the big banks in order to create a more sustainable financial system?

Volcker: Well, breaking them up is difficult. I would prefer to say, let's just slice them up. I don't want them to get heavily involved in capital market activities so my view is: Hedge funds, no. Equity funds, no. Proprietary trading, no. Trading in commodities, no. And that in itself would reduce the size of the big banks. So you get some reduction in size. Equally important, you make them more manageable and easier to deal with if they do get in trouble.

SPIEGEL: Banking should become boring again?

Volcker: Banking will never be boring. Banking is a risky business. They are going to have plenty of activity. They can do underwriting. They can do securitization. They can do a lot of lending. They can do merger and acquisition advice. They can do investment management. These are all client activities. What I don't want them doing is piling on top of that risky capital market business. That also leads to conflicts of interest.

SPIEGEL: But the American government seems to have lost some eagerness in setting a tougher regime of rules and regulations to control Wall Street. Everything is being watered down. Why?

Volcker: I will do the best I can to fight any tendency to water it down. What we need is broad international consensus to make things happen.

SPIEGEL: Your old German friend, the former Chancellor Helmut Schmidt, is already on your side. He is now speaking about the current economic system as a kind of predator capitalism which must be tamed.

Volcker: I'm glad he is speaking out. I am a great admirer of Helmut Schmidt. He was very straightforward and kind of brutally outspoken in a way, to which many people reacted adversely.

SPIEGEL: Are you thinking of a particular situation?

Volcker: The famous incident happened in 1979 shortly after I became Chairman of the Federal Reserve Bank…

SPIEGEL: …and the inflation in the US had reached 12 percent.

Volcker: I was flying with the Secretary of Treasury to a meeting in Belgrade but for some reason an arrangement had been made, Helmut probably suggested it, that we stop in Hamburg on the way to Belgrade to hold a meeting. The meeting was mostly Helmut speaking for an hour about how "you Americans" have got to do something about inflation. My Secretary of Treasury was kind of taken back by the force of ot all, but it was fine with me since I had been planning the same kind of policy.

SPIEGEL: During your tenure as chairman of the Federal Reserve, the bank was always part of the solution. Today with the Fed's policy of easy money, many experts see it as part of the problem.

Volcker: Given the difficulty of the economic situation and the large amount of money being spent to support the economy, The Fed is receiving the brunt of the criticism. Some support for the economy was certainly necessary, but the mere fact that in this situation emergency measures were necessary should not dictate a liberal approach in the future.

SPIEGEL: Lawmakers on Capitol Hill are thinking about tougher controls over the Federal Reserve.

Volcker: I think the loss of independence and authority of the Federal Reserve would be a very serious matter for the United States. Not just in terms of monetary policy but in terms of our place in the world. People look to strong, credible institutions and I think the Federal Reserve has been such an institution. If that's lost or too hamstrung by legislation I think we will regret it.

SPIEGEL: But is the Fed still the same kind of institution as during your tenure as chairman? Or is it now more of a governmental instrument? The Fed is managing the TARP program and is also buying government bonds.

Volcker: In some sense the Federal Reserve is always an instrument of the government. It is a government body but it is independent within government. But you are right in the sense that part of the concern is that they have involved themselves quantitatively in entering markets and in that process, you are supporting some markets and not others. That is an area in which the Federal Reserve has never wanted to get into and one that most central banks don't want to get into. If you are going to maintain your independence you have to avoid that. To intervene in particular sectors of the market is not the proper role for the central bank over time. It could be justified only by extreme emergency.

SPIEGEL: So what do you expect in the very near future?

Volcker: As an American, I have to be an optimist. But we have got a big challenge and we have to face up to it. And as you know, there is a lot of concern about the dysfunction of the political system.

SPIEGEL: So it is becoming harder to be an optimist?

Volcker: It's a challenge.

SPIEGEL: Mr. Volcker, thank you very much for this conversation.

Interview conducted by Gabor Steingart and Thomas Schulz