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

To the Congress of the United States:

In response to the requirements of the Employment Act of 1946, I report to you

--that the "economic condition" of the United States in 1962 was one of continued advances in "employment, production, and purchasing power;"

--that the "foreseeable trends" in 1963 point to still further advances;

--that more vigorous expansion of our economy is imperative to gain the heights of "maximum employment, production, and purchasing power" specified in the Act and to close the gap that has persisted since 1957 between the "levels ... obtaining" and the "levels needed" to carry out the policy of the Act;

--that the core of my 1963 "program for carrying out" the policy of the Act is major tax reduction and revision, carefully timed and structured to speed our progress toward full employment and faster growth, while maintaining our recent record of price stability and balance of payments improvement.

The state of the economy poses a perplexing challenge to the American people. Expansion continued throughout 1962, raising total wages, profits, consumption, and production to new heights. This belied the fears of those who predicted that we were about to add another link to the ominous chain of recessions which were more and more frequently interrupting our economic expansions--in 1953-54 after 45 months of expansion, in 1957-58 after 35 months, in 1960-61 after 25 months. Indeed, 22 months of steady recovery have already broken this melancholy sequence, and the prospects are for further expansion in 1963.

Yet if the performance of our economy is high, the aspirations of the American people are higher still--and rightly so. For all its advances the Nation is still falling substantially short of its economic potential--a potential we must fulfill both to raise our standards of well-being at home and to serve the cause of freedom abroad.

A balanced appraisal of our economy, then, necessarily couples pride in our achievements with a sense of challenge to master the job as yet undone. No nation, least of all ours, can rest easy

--when, in spite of a sizable drop in the unemployment rate (seasonally adjusted) from 6.7 percent as 1961 began to 5.6 percent as 1962 ended, the unemployment rate has fallen below 5 percent in but 1 month in the past 5 years, and there are still 4 million people unemployed today;

--when, in spite of a gratifying recovery which raised gross national product (GNP) from an annual rate of $501 billion as 1961 began to $562 billion as 1962 ended, $30-40 billion of usable productive capacity lies idle for lack of sufficient markets and incentives;

--when, in spite of a recovery growth rate of 3.6 percent yearly from 1960 to 1962, our realized growth trend since 1955 has averaged only 2.7 percent annually as against Western European growth rates of 4, 5, and 6 percent and our own earlier postwar growth rate of 4 1/2 percent;

--when, in spite of achieving record corporate profits before taxes of $51 billion in 1962, against a previous high of $47 billion in 1959, our economy could readily generate another $7-8 billion of profits at more normal rates of capacity use;

--when, in spite of a rise of $28 billion in wages and salaries since the trough of the recession in 1961--with next-to-no erosion by rising prices--the levels of labor income could easily be $18-20 billion higher at reasonably full employment.

We cannot now reclaim the opportunities we lost in the past. But we can move forward to seize the even greater possibilities of the future. The decade ahead presents a most favorable gathering of forces for economic progress. Arrayed before us are a growing and increasingly skilled labor force, accelerating scientific and technological advances, and a wealth of new opportunities for innovation at home and for commerce in the world. What we require is a coherent national determination to lift our economy to a new plane of productivity and initiative It is in this context and spirit that we examine the record of progress in the past 2 years and consider the means for achieving the goals of the Employment Act of 1946.

THE 1961--62 RECORD

As I took office 24 months ago, the Nation was in the grip of its third recession in 7 years; the average unemployment rate was nearing 7 percent; $50 billion of potential output was running to waste in idle manpower and machinery.

In these last a years, the Administration and the Congress have taken a series of important steps to promote recovery and strengthen the economy:

1. Early in 1961 vigorous antirecession measures helped get recovery off to a fast start and gave needed assistance to those hardest hit by the recession.

2. In 1961 and 1962 new measures were enacted' to redevelop chronically depressed areas; to retrain the unemployed and adapt manpower to changing technology; to enlarge social security benefits for the aged, the unemployed and their families; to provide special tax incentives to boost business capital spending; to raise the wages of underpaid workers; to expand housing and urban redevelopment; to help agriculture and small business--these and related measures improved the structure and functioning of the economy and aided the recovery.

3. Budgetary policy was designed to facilitate the expansion of private demand--to avoid the jolting shift from stimulus to restriction that did much to cut short recovery in 1958-60. The resulting fiscal shift in 1960-61 was much milder. In addition to increases in defense and space programs, measures of domestic improvement, such as the acceleration of public works, reinforced demand in the economy.

4. Monetary conditions were also adjusted to aid recovery within the constraints imposed by balance of payments considerations. While long-term interest rates rose by one-third in 1958-60, they changed little or actually declined in 1961-62. And the money supply grew much more rapidly in the present expansion than in the preceding one.

These policies facilitated rapid recovery from recession in 1961 and continuing expansion in 1962--an advance that carried total economic activity onto new high ground. The record rate of output of $562 billion in the final quarter of 1962 was, with allowance for price changes, 10 percent above the first quarter of 1961 and 8 percent above the last recovery peak in the second quarter of 1960. The industrial production index last month was 16 percent above the low point in January 1961 and 7 percent above the last monthly peak in January 1960.

These gains in output brought with them a train of improvements in income, employment, and profits, while the price level held steady and our balance of payments improved. In the course of the 1961-62 expansion:

I. Personal income rose by $46 billion to $450 billion, 12 percent above its peak in the previous expansion. Net income per farm rose by $330 as farm operators' net income from farming increased by $800 million. Total after-tax income of American consumers increased by 8 percent; this provided a $400 per year increase in living standards (1962 prices) for a family of four.

2. Civilian nonfarm employment creased by 2 million while the average factory work week was rising from 39.3 to 40.3 hours.
3. Corporate profits, as noted, reached a record $51 billion for 1962.

4. Wholesale prices remained remarkably stable, while consumer prices rose by only percent a year--a better record of price stability than that achieved by any other major industrial country in the world, with the single exception of Canada.

5. This improving competitive situation, combined with closer international financial cooperation and intensive measures to limit the foreign currency costs of defense, development assistance, and other programs, has helped to bring about material improvements in our balance of payments deficit--from $3.9 billion in 1960 to $2.5 billion in 1961 and now to about $2 billion in 1962.

These are notable achievements. But a measure of how far we have come does not tell us how far we still have to go.

A year ago, there was widespread consensus that economic recovery in 1962, while not matching the swift pace of 1961, would continue at a high rate. But the pace slackened more than expected as the average quarterly change in GNP was only $6 billion in 1962 against $13 billion in 1961. The underlying forces in the private economy-no longer buttressed by the exuberant demand of the postwar decade, yet still thwarted by income tax rates bred of war and inflation--failed to provide the stimulus needed for more vigorous expansion. While housing and government purchases rose about as expected and consumer buying moved up rather well relative to income, increases in business investment fell short of expectations.

Yet, buttressed by the policies and programs already listed, the momentum of the expansion was strong enough to carry the economy safely past the shoals of a sharp break in the stock market, a drop in the rate of inventory accumulation, and a wave of pessimism in early summer. As the year ended, the economy was still moving upward.

THE OUTLOOK FOR 1963

The outlook for continued moderate expansion in 1963 is now favorable:

1. Business investment, responding in part to the stimulus of last year's depreciation reform and investment tax credit and to the prospect of early tax reduction and reform, is expected to rise at least modestly for 1963 as a whole.

2. Home construction should continue at about its 1962 level.

3. Government purchases--Federal, State, and local combined--are expected to rise at a rate of $2 billion a quarter.

4. Consumer purchases should rise in line with gains in business and Government activity.

These prospects, taking into account the proposed tax reduction, lead to the projection of a gross national product for 1963 of $578 billion, understood as the midpoint of a $10 billion range.

I do not expect a fifth postwar recession to interrupt our progress in 1963. It is not the fear of recession but the fact of 5 years of excessive unemployment, unused capacity, and slack profits--and the consequent hobbling of our growth rate--that constitutes the urgent case for tax reduction and reform. And economic expansion in 1963, at any reasonably predictable pace, will leave the economy well below the Employment Act's high standards of maximum employment, production, and purchasing power:

We end 1962 with an unemployment rate of 5.6 percent. That is not "maximum employment." It is frustrating indeed to see the unemployment rate stand still even though the output of goods and services rises. Yet past experience tells us that only sustained major increases in production can reemploy the jobless members of today's labor force, create job opportunities for the 2 million young men and women entering the labor market each year, and produce new jobs as fast as technological change destroys old ones.

We end 1962 with U.S. output of goods and services running some $30-40 billion below the economy's capacity to produce. That is not "maximum production." And the prospective pace of expansion for 1963 promises little if any narrowing of the production gap until tax reduction takes hold. Our growing labor force and steadily rising productivity raise our capacity to produce by more than $20 billion a year. We need to run just to keep pace and run swiftly to gain ground in our race to full utilization.

We end 1962 with personal income, wages and salaries, and corporate profits also setting new records. But even this favorable record does not represent "maximum purchasing power," as the figures I have already cited clearly demonstrate.

In summary: The recovery that was initiated shortly after I took office 2 years ago now stands poised at a moment of decision. I do not believe the American people will be--or should be--content merely to set new records. Private initiative and public policy must join hands to break the barriers built up by the years of slack since 1957 and bring the Nation into a new period of sustained full employment and rapid economic growth. This cannot be done overnight, but it can be done. The main block to full employment is an unrealistically heavy burden of taxation. The time has come to remove it.

TAX REDUCTION AND REFORM IN 1963

We approach the issue of tax revision, not in an atmosphere of haste and panic brought on by recession or depression, but in a period of comparative calm. Yet if we are to restore the healthy glow of dynamic prosperity to the U.S. economy and avoid a lengthening of the 5-year period of unrealized promise, we have no time to lose. Early action on the tax program outlined in my State of the Union Message--and shortly to be presented in detail in my tax message--will be our best investment in a prosperous future and our best insurance against recession.

The Responsible Citizen and Tax Reduction

In this situation, the citizen serves his country's interest by supporting income tax reductions. For through the normal processes of the market economy, tax reduction can be the constructive instrument for harmonizing public and private interests:
--The taxpayer as consumer, pursuing his own best interest and that of his family, can turn his tax savings into a higher standard of living, and simultaneously into stronger markets for the producer.

--The taxpayer as producer--businessman or farmer--responding to the profit opportunities he finds in fuller markets and lower tax rates, can simultaneously create new jobs for workers and larger markets for the products of other factories, farms, and mines.

Tax reduction thus sets off a process that can bring gains for everyone, gains won by marshaling resources that would otherwise stand idle--workers without jobs and farm and factory capacity without markets. Yet many taxpayers seem prepared to deny the nation the fruits of tax reduction because they question the financial soundness of reducing taxes when the Federal budget is already in deficit. Let me make clear why, in today's economy, fiscal prudence and responsibility call for tax reduction even if it temporarily enlarges the Federal deficit-why reducing taxes is the best way open to us to increase revenues.

Our choice is not the oversimplified one sometimes posed, between tax reduction and a deficit on one hand and a budget easily balanced by prudent management on the other. If the projected 1964 Federal cash deficit of $10.3 billion did not allow for a $2.7 billion loss in receipts owing to the new tax program, the projected deficit would be $7.6 billion. We have been sliding into one deficit after another through repeated recessions and persistent slack in our economy. A planned cash surplus of $0.6 billion for the fiscal year 1959 became a record cash deficit of $13.1 billion, largely as the result of economic recession. A planned cash surplus of $1.8 billion for the current fiscal year is turning into a cash deficit of $8.3 billion, largely as the result of economic slack. If we were to slide into recession through failure to act on taxes, the cash deficit for next year would be larger without the tax reduction than the estimated deficit with tax reduction. Indeed, a new recession could break all peace-time deficit records. And if we were to try to force budget balance by drastic cuts in expenditures--necessarily at the expense of defense and other vital programs-we would not only endanger the security of the country, we would so depress demand, production, and employment that tax revenues would fall and leave the government budget still in deficit. The attempt would thus be self-defeating.

So until we restore full prosperity and the budget-balancing revenues it generates, our practical choice is not between deficit and surplus but between two kinds of deficits: between deficits born of waste and weakness and deficits incurred as we build our future strength. If an individual spends frivolously beyond his means today and borrows beyond his prospects for earning tomorrow, this is a sign of weakness. But if he borrows prudently to invest in a machine that boosts his business profits, or to pay for education and training that boosts his earning power, this can be a source of strength, a deficit through which he builds a better future for himself and his family, a deficit justified by his increased potential.

As long as we have large numbers of workers without jobs, and producers without markets, we will as a Nation fall into repeated deficits of inertia and weakness. But, by comparison, if we enlarge the deficit temporarily as the by-product of our positive tax policy to expand our economy this will serve as a source of strength, not a sign of weakness. It will yield rich private dividends in higher output, faster growth, more jobs, higher profits and incomes; and, by the same token, a large public gain in expanded budget revenues. As the economy returns to full employment, the budget will return to constructive balance.

This would not be true, of course, if we were currently straining the limits of our productive capacity, when the dollars released by tax reduction would push against unyielding bottlenecks in industrial plant and skilled manpower. Then, tax reduction would be an open invitation to inflation, to a renewed price-wage spiral, and would threaten our hard-won balance of payments improvement. Today, however, we not only have unused manpower and idle plant capacity; new additions to the labor force and to plant capacity are constantly enlarging our productive potential. We have an economy fully able and ready to respond to the stimulus of tax reduction.

Our need today, then, is

--to provide markets to bring back into production underutilized plant and equipment;

--to provide incentives to invest, in the form both of wider markets and larger profits-investment that will expand and modernize, innovate, cut costs;

--most important, by means of stronger markets and enlarged investment, to provide jobs for the unemployed and for the new workers streaming into the labor force during the sixties--and, closing the circle, the new jobholders will generate still larger markets and further investment.

It was in direct response to these needs that I pledged last summer to submit proposals for a top-to-bottom reduction in personal and corporate income taxes in 1963--for reducing the tax burden on private income and the tax deterrents to private initiative that have for too long held economic activity in check. Only when we have removed the heavy drag our fiscal system now exerts on personal and business purchasing power and on the financial incentives for greater risk-taking and personal effort can we expect to restore the high levels of employment and high rate of growth that we took for granted in the first decade after the war.

Taxes and Consumer Demand

In order to enlarge markets for consumer goods and services and translate these into new jobs, fuller work schedules, higher profits, and rising farm incomes, I am proposing a major reduction in individual income tax rates. Rates should be cut in three stages, from their present range of 20 to 91 percent to the more reasonable range of 14 to 65 percent. In the first stage, beginning July 1, these rate reductions will cut individual liabilities at an annual rate of $6 billion. Most of this would translate immediately into greater take-home pay through a reduction in the basic withholding rate. Further rate reductions would apply to 1964 and 1965 incomes, with resulting revenue losses to be partially offset by tax reforms, thus applying a substantial additional boost to consumer markets.

These revisions would directly increase the annual rate of disposable after-tax incomes of American households by about $6 billion in the second half of 1963, and some $8 billion when the program is in full effect, with account taken of both tax reductions and tax reform. Taxpayers in all brackets would benefit, with those in the lower brackets getting the largest proportional reductions.

American households as a whole regularly spend between 92 and 94 percent of the total after-tax (disposable) incomes they receive. And they generally hold to this range even when income rises and falls; so it follows that they generally spend about the same percentage of dollars of income added or subtracted. If we cut about $8 billion from the consumer tax load, we can reasonably expect a direct addition to consumer goods markets of well over $7 billion.

A reduction of corporate taxes would provide a further increment to the flow of household incomes as dividends are enlarged; and this, too, would directly swell the consumer spending stream.

The direct effects, large as they are, would be only the beginning. Rising output and employment to meet the new demands for consumer goods will generate new income-wages, salaries, and profits. Spending from this extra income flow would create more jobs, more production, and more incomes. The ultimate increases in the continuing flow of incomes, production, and consumption will greatly exceed the initial amount of tax reduction.
Even if the tax program had no influence on investment spending--either directly or indirectly--the $8-9 billion added directly to the flow of consumer income would call forth a flow of at least $16 billion of added consumer goods and services.

But the program will also generate direct and indirect increases in investment spending. The production of new machines, and the building of new factories, stores, offices, and apartments add to incomes in the same way as does production of consumer goods. This too sets off a derived chain reaction of consumer spending, adding at least another $1 billion of output of consumer goods for every $1 billion of added investment.

Taxes and Investment

To raise the Nation's capacity to produce-to expand the quantity, quality, and variety of our output--we must not merely replace but continually expand, improve, modernize, and rebuild our productive capital. That is, we must invest, and we must grow.

The past half decade of unemployment and excess capacity has led to inadequate business investment. In 1962, the rate of investment was almost unchanged from 1957 though gross national product had risen by almost 16 percent, after allowance for price changes. Clearly it is essential to our employment and growth objectives as well as to our international competitive stance that we stimulate more rapid expansion and modernization of America's productive facilities.

As a first step, we have already provided important new tax incentives for productive investment. Last year the Congress enacted a 7-percent tax credit for business expenditures on major kinds of equipment. And the Treasury, at my direction, revised its depreciation rules to reflect today's conditions. Together, these measures are saving business over $2 billion a year in taxes and significantly increasing the net rate of return on capital investments.

The second step in my program to lift vestment incentives is to reduce the corporate tax rate from 52 percent to 47 percent, thus restoring the pre-Korean rate. Particularly, to aid small businesses, I am recommending that effective January 1, 1963, the rate on the first $25,000 of corporate income be dropped from 30 to 22 percent while the 52 percent rate on corporate income over $25,000 is retained. In later stages, the 52 percent rate would drop to 47 percent. These changes will cut corporate liabilities by over $2.5 billion before structural changes.

The resulting increase in profitability will encourage risk-taking and enlarge the flow of internal funds which typically finance a major share of corporate investment. In recent periods, business as a whole has not been starved for financial accommodation. But global totals mask the fact that thousands of small or rapidly growing businesses are handicapped by shortage of investible funds. As the total impact of the tax program takes hold and generates pressures on existing capacity, more and more companies will find the lower taxes a welcome source of finance for plant expansion.

The third step toward higher levels of capital spending is a combination of structural changes to remove barriers to the full flow of investment funds, to sharpen the incentives for creative investment, and to remove tax-induced distortions in resource flow. Reduction of the top individual income tax rate from 91 to 65 percent is a central part of this balanced program.

Fourth, apart from direct measures to courage investment, the tax program will go to the heart of the main deterrent to investment today, namely, inadequate markets. Once the sovereign incentive of high and rising sales is restored, and the businessman is convinced that today's new plant and equipment will find profitable use tomorrow, the effects of the directly stimulative measures will be doubled and redoubled. Thus-and it is no contradiction--the most important single thing we can do to stimulate investment in today's economy is to raise consumption by major reduction of individual income tax rates.

Fifth, side-by-side with tax measures, I am confident that the Federal Reserve and the Treasury will continue to maintain, consistent with their responsibilities for the external defense of the dollar, monetary and credit conditions favorable to the flow of savings into long-term investment in the productive strength of the country.

Given a series of large and timely tax reductions and reforms, as I have proposed, we can surely achieve the balanced expansion of consumption and investment so urgently needed to overcome a half decade of slack and to capitalize on the great and growing economic opportunities of the decade ahead.

The impact of my tax proposals on the budget deficit will be cushioned by the scheduling of reductions in several stages rather than a single large cut; the careful pruning of civilian expenditures for fiscal 1964--those other than for defense, space, and debt service-to levels below fiscal 1963; the adoption of a more current time schedule for tax payments of large corporations, which will at the outset add about $1 1/2 billion a year to budget receipts; the net offset of $3 1/2 billion of revenue loss by selected structural changes in the income tax; most powerfully, in time, by the accelerated growth of taxable income and tax receipts as the economy expands in response to the stimulus of the tax program.

Impact on the Debt

Given the deficit now in prospect, action to raise the existing legal limit on the public debt will be required.

The ability of the Nation to service the Federal debt rests on the income of its citizens whose taxes must pay the interest. Total Federal interest payments as a fraction of the national income have fallen, from a.8 percent in 1946 to 2.1 percent last year. The gross debt itself as a proportion of our GNP has also fallen steadily--from 123 percent in 1946 to 55 percent last year. Under the budgetary changes scheduled this year and next, these ratios will continue their decline.

It is also of interest to compare the rise in Federal debt with the rise in other forms of debt. Since the end of 1946, the Federal debt held by the public has risen by billion; net State-local debt, by $58 billion; net corporate debt, by $237 billion; and net total private debt, by $518 billion.

Clearly, we would prefer smaller debts than we have today. But this does not settle the issue. The central requirement is that debt be incurred only for constructive purposes and at times and in ways that serve to strengthen the position of the debtor. In the case of the Federal Government, where the Nation is the debtor, the key test is whether the increase serves to strengthen or weaken our economy. In terms of jobs and output generated without threat to price stability--and in terms of the resulting higher revenue--the debt increases foreseen under my tax program clearly pass this test.

Monetary and debt management policies can accommodate our debt increase in 1963-as they did in 1961 and 1962--without inflationary strain or restriction of private credit availability.

Impact on Prices and the Balance of Payments

The Administration tax program for 1963 can strengthen our economy within a continuing framework of price stability and an extension of our hard-won gains in the U.S. balance of payments position.

Rising prices from the end of the war until 1958 led the American people to expect an almost irreversible upward trend of prices. But now prices have been essentially stable for 5 years. This has broken the inflationary psychology and eased the task of assuring continued stability.

We are determined to maintain this stability and to avoid the risk of either an inflationary excess of demand in our markets or a renewed price-wage spiral. Given the excess capacities of our economy today, and its large latent reserves of productive power, my program of fiscal stimulus need raise no such fears. The new discipline of intensified competition in domestic and international markets, the abundant world supplies of primary products, and increased public vigilance all lend confidence that wage-price problems can be resolved satisfactorily even as we approach our full-employment target.

Indeed, in many respects the tax program will contribute to continued price stability. Tax reduction and reform will increase productivity and tend to cut unit labor costs by stimulating cost-cutting investment and technological advance, and reducing distortions in resource allocation. As long as wage rate increases stay within the bounds of productivity increases, as long as the push for higher profit margins through higher prices is restrained--as long as wage and price changes reflect the "guideposts" that were set out a year ago and are reaffirmed in the accompanying Report of the Council of Economic Advisers--the outlook for stable prices is excellent.

Price stability has extra importance today because of our need to eliminate the continuing deficit in the international balance of payments. During the past a years we have cut the over-all deficit, from nearly $4 billion in 1960 to about $2 billion in 1962. But we cannot relax our efforts to reduce the payments deficit still further. One important force working strongly in our favor is our excellent record of price stability. Since 1959, while U.S. wholesale prices have been unchanged, those in every major competing country (except Canada) have risen appreciably. Our ability to compete in foreign markets--and in our own--has accordingly improved.

We shall continue to reduce the overseas burden of our essential defense and economic assistance programs, without weakening their effectiveness--both by reducing the foreign exchange costs of these programs and by urging other industrial nations to assume a fairer share of the burden of free world defense and development assistance.

But the area in which our greatest effort must now be concentrated is one in which Government can provide only leadership and opportunity; private business must produce the results. Our commercial trade Surplus-the excess of our exports of goods and services over imports--must rise substantially to assure that we will reach balance of payments equilibrium within a reasonable period.

Under our new Trade Expansion Act, we are prepared to make the best bargains for American business that have been possible in many years. We intend to use the authority of that act to maximum advantage to the end that our agricultural and industrial products have more liberal access to other markets--particularly those of the European Economic Community.

With improved Export-Import Bank facilities and the new Foreign Credit Insurance Association, our exporters now have export financing comparable to that of our major competitors. As an important part of our program to increase exports, I have proposed a sharp step-up in the export expansion program of the Department of Commerce. Funds have been recommended both to strengthen our overseas marketing programs and to increase the Department's efforts in the promotion of an expanded interest in export opportunities among American firms.

In the meantime, we have made and will continue to make important progress in increasing the resistance of the international monetary system to speculative attack. The strength and the stability of the payments system have been consolidated during the past year through international cooperation. That cooperation successfully met rigorous tests in 1962--when a major decline occurred in the stock markets of the world; when the Canadian dollar withstood a run in June; and when the establishment of Soviet bases in Cuba threatened the world. Through direct cooperation with other countries the United States engaged in substantial operations in the forward markets for other currencies and held varying amounts of other currencies in its own reserves; the Federal Reserve engaged in a wide circle of swap arrangements for obtaining other currencies; and the Treasury initiated a program of borrowings denominated in foreign currencies. And with the approval by Congress of the necessary enabling legislation, the United States joined other major countries in strengthening the International Monetary Fund as an effective bulwark to the payments system.

With responsible and energetic public and private policies, and continued alertness to any new dangers, we can move now to revitalize our domestic economy without fear of inflation or unmanageable international financial problems--indeed, in the long run, a healthy balance of payments position depends on a healthy economy. As the Organization for Economic Cooperation and Development has emphatically stated in recent months, a prosperous American economy and a sound balance of payments position are not alternatives between which we must choose; rather, expansionary action to bolster our domestic growth with due vigilance against inflation--will solidify confidence in the dollar.

Impact on State and Local Governments

The Federal budget is hard pressed by urgent responsibilities for free world defense and by vital tasks at home. But the fiscal requirements laid upon our States, cities, school districts, and other units of local government are even more pressing. It is here that the first impacts fall-of rapidly expanding populations, especially at both ends of the age distribution; of mushrooming cities; of continuing shift to new modes of transportation; of demands for more and better education; of problems of crime and delinquency; of new opportunities to combat ancient problems of physical and mental health; of the recreational and cultural needs of an urban society.

To meet these responsibilities, the total of State and local government expenditures has expanded 243 percent since 1948--in contrast to 166 percent for the Federal Government; their debts by 334 percent--in contrast to 18 percent for the Federal Government.

The Federal budget has helped to ease the burdens on our States and local governments by an expanding program of grants for a multitude of purposes, and inevitably it must continue to do so. The Federal tax reductions I propose will also ease these fiscal burdens, chiefly because greater prosperity and faster growth will automatically increase State and local tax revenues at existing rates.

Tax Reduction and Future Fiscal Policy

While the basic purpose of my tax program is to meet our longer run economic challenges, we should not forget its role in strengthening our defenses against recession. Enactment on schedule of this program which involves a total of over $10 billion of net income tax reduction annually would be a major counterforce to any recessionary tendencies that might appear.

Nevertheless, when our calendar of fiscal legislation is lighter than it is in 1963, it will be important to erect further defenses against recession. Last year, I proposed that the Congress provide the President with limited standby authority (1) to initiate, subject to Congressional veto, temporary reductions in individual income tax rates and (2) to accelerate and initiate properly timed public capital improvements in times of serious and rising unemployment.

Work on the development of an acceptable plan for quick tax action to counter future recessions should continue; with the close cooperation of the Congress, it should be possible to combine provision for swift action with full recognition of the Constitutional role of the Congress in taxation.

The House and the Senate were unable to agree in 1962 on standby provisions for temporary speed-ups in public works to help fight recession. Nevertheless, recognizing current needs for stepped-up public capital expenditures, the Congress passed the very important Public Works Acceleration Act (summarized in Appendix A of the Report of the Council of Economic Advisers). I urge that the Congress appropriate the balance of funds authorized for programs under the Public Works Acceleration Act. Initial experience under this program offers promise that rapid temporary acceleration of public projects at all levels of government, under a stand-by program, can be an effective instrument of flexible antirecession policy. Further evaluation of experience should aid in the development of an effective stand-by program which would allow the maximum room for swift executive action consistent with effective Congressional control.

OTHER ECONOMIC MEASURES

Apart from the tax program, and the elements of the growth program discussed in the final section of this Report, there are several other economic measures on which I wish to report or request action. They are;

Transportation

Our national transportation systems provide the means by which materials, labor, and capital are geographically combined in production and the resulting products distributed. Continuous innovations in productive techniques, rapid urbanization of our population, and shifts in international trade have increased the economic significance of transportation in our economy.

Our present approach to regulation is largely a legacy from an earlier period, when there was a demonstrated need to protect the public interest by a comprehensive and detailed supervision of rates and services. The need for regulation remains; but technological and structural changes today permit greater reliance on competition within and between alternative modes of transportation to make them responsive to the demands for new services and the opportunities for greater efficiency.

The extension of our Federal highway system, the further development of a safe and efficient system of airways, the improvement of our waterways and harbors, the modernization and adaptation of mass transport systems in our great metropolitan centers to meet the expanding and changing patterns of urban life--all these raise new problems requiring urgent attention.

Among the recommendations in my Transportation Message of April 1962 were measures which would provide or encourage equal competitive opportunity under diminished regulation, consistent policies of taxation and user charges, and support of urban transportation and expanded transportation research. I urge favorable Congressional action on these measures.

Financial Institutions and Financial Markets

In my Economic Report a year ago, I referred to certain problems relating to the structure of our private financial institutions, and to the Federal Government's participation in and regulation of private financial markets. A report on these matters had recently been completed by a distinguished private group, the Commission on Money and Credit. In view of the importance of their recommendations, I appointed three interagency working groups in the Executive Branch to review (a) certain problems posed by the rapid growth of corporate pension funds and other private retirement funds, (b) the appropriate role of Federal lending and credit guarantee programs, and (c) Federal legislation and regulations relating to private financial institutions.

These interagency groups are approaching the end of their work. I have requested my Advisory Committee on Labor-Management Policy to consider the tentative recommendations of the first of these three committees. Work of the second will, I am sure, be extremely useful to the Bureau of the Budget, the Treasury Department, and the various Federal credit agencies in reviewing operating guidelines and procedures of Federal credit programs. Work of the third committee, whose task was the most complex, is still in process.

Silver

I again urge a revision in our silver policy to reflect the status of silver as a metal for which there is an expanding industrial demand. Except for its use in coins, silver serves no useful monetary function.

In 1961, at my direction, sales of silver were suspended by the Secretary of the Treasury. As further steps, I recommend repeal of those Acts that oblige the Treasury to support the price of silver; and repeal of the special 50-percent tax on transfers of interest in silver and authorization for the Federal Reserve System to issue notes in denominations of $1, so as to make possible the gradual withdrawal of silver certificates from circulation and the use of the silver thus released for coinage purposes. I urge the Congress to take prompt action on these recommended changes.

Permanent Unemployment Compensation

I will propose later this year that Congress enact permanent improvements in our Federal-State system of unemployment insurance to extend coverage to more workers, and to increase the size and duration of benefits. These improvements will not only ease the burdens of involuntary unemployment, but will further strengthen our built-in defenses against recession. Action is overdue to strengthen our system of unemployment insurance on a permanent basis.

Fair Labor Standards Act

Amendments to the Fair Labor Standards Act in 1961 extended the coverage of minimum wage protection to 3.6 million new workers and provided for raising the minimum wage in steps to $1.25 per hour. These were significant steps toward eliminating the degrading competition which depresses wages of a small fringe of the labor force below a minimum standard of decent compensation. But a large number of workers still remain without this protection. I will urge extension of coverage to further groups.

POLICIES FOR FASTER GROWTH

The tax program I have outlined is phased over 3 years. Its invigorating effects will be felt far longer. For among the costs of prolonged slack is slow growth. An economy that fails to use its productive potential fully feels no need to increase it rapidly. The incentive to invest is bent beneath the weight of excess capacity. Lack of employment opportunities slows the growth of the labor force. Defensive restrictive practices--from featherbedding to market sharing--flourish when limited markets, jobs, and incentives shrink the scope for effort and ingenuity. But when the economy breaks out of the lethargy of the past 5 or 6 years, the end to economic slack will by itself mean faster growth. Full employment will relax the grip of restrictive practices and open the gates wider to innovation and change.

While programs for full utilization of existing resources are the indispensable first step in a positive policy for faster growth, it is not too soon to move ahead on other programs to strengthen the underlying sources of the Nation's capacity to grow. No one doubts that the foundations of America's economic greatness lie in the education, skill, and adaptability of our population and in our advanced and advancing industrial technology. Deep-seated foundations cannot be renewed and extended overnight. But neither is the achievement of national economic purpose just a task for today or tomorrow, or this year or next. Unless we move now to reinforce the human and material base for growth, we will pay the price in slower growth later in this decade and in the next. And so we must begin.

Last summer, convinced of the urgency of the need, I appointed a Cabinet Committee on Economic Growth to stand guardian over the needs of growth in the formulation of government economic policies. At my request, this Committees--consisting of the Secretary of the Treasury, the Secretary of Commerce, the Secretary of Labor, the Director of the Bureau of the Budget as members, and the Chairman of the Council of Economic Advisers as its Chairman--re. potted to me in December on policies for growth in the context of my 1963 legislative program.

Tax Revision

Their report urges the central significance of prompt tax reduction and reform in a program for economic growth: first, for the sustained lift it will give to the economy's demand for goods and services, and thus to the expansion of its productive capacity; second, for the added incentive to productive investment, risk-taking, and efficient use of resources that will come from lowering the corporate tax rate and the unrealistic top rates on personal income, and eliminating unwarranted tax preferences that undermine the tax base and misdirect energy and resources. I have already laid the case for major tax changes before you, and I will submit detailed legislation and further analysis in a special message. I remind you now that my 1963 tax proposals are central to a program to tilt the trend of American growth upward and to achieve our share of the 50-percent growth target which was adopted for the decade of the sixties by the 20 member nations of the Organization for Economic Cooperation and Development.

Tax reduction will remove an obstacle to the full development of the forces of growth in a free economy. To go further, public policy must offer positive support to the primary sources of economic energy. I propose that the Federal Government lay the groundwork now for positive action in three key areas, each singled out by the Cabinet Committee as fundamental to the long-run strength and resilience of our economy: (1) the stimulation of civilian technology, (2) the support of education, and (3) the development of manpower. In each of these areas I shall make specific proposals for action. Together with tax revision, they mark the beginning of a more conscious and active policy for economic growth.

Civilian Technology

The Federal Government is already the main source of financial support for research and development in the United States. Most funds now spent on research are channeled to private contractors through the Department of Defense, the National Aeronautics and Space Administration, and the Atomic Energy Commission. The defense, space, and atomic energy activities of the country absorb about two-thirds of the trained people available for exploring our scientific and technical frontiers. These activities also assert a strong influence on the direction and substance of scientific and engineering education. In many fields, they have transformed our understanding of nature and our ability to control it. But in the course of meeting specific challenges so brilliantly, we have paid a price by sharply limiting the scarce scientific and engineering resources available to the civilian sectors of the American economy.

The Government has for many years recognized its obligation to support research in fields other than defense. Federal support of medical and agricultural research has been and continues to be particularly important. My proposal for adding to our current efforts new support of science and technology that directly affect industries serving civilian markets represents a rounding out of Federal programs across the full spectrum of science.

Since rising productivity is a major source of economic growth, and research and development are essential sources of productivity growth, I believe that the Federal Government must now begin to redress the balance in the use of scientific skills. To this end I shall propose a number of measures to encourage civilian research and development and to make the byproducts of military and space research easily accessible to civilian industry. These measures will include:

1. Development of a Federal-State Engineering Extension Service;

2. New means of facilitating the use by civilian industry of the results of Government-financed research;

3. Selected support of industrial research and development and technical information services;

4. Support of industry research associations;

5. Adjustment of the income tax laws to give business firms an additional stimulus to invest in research equipment;

6 Stimulus of university training of industrial research personnel.

Together, these measures would encourage a growing number of scientists and engineers to work more intensively to improve the technology of civilian industry, and a growing number of firms and industries to take greater advantage of modern technology. For Americans as a whole, the returns will be better products and services at lower prices. A national research and development effort focused to meet our urgent needs can do much to improve the quality of our lives.

Education

History will value the American commitment to universal education as one of our greatest contributions to civilization. Impressive evidence is also accumulating that education is one of the deepest roots of economic growth. Through its direct effects on the quality and adaptability of the working population and through its indirect effects on the advance of science and knowledge, education is the ultimate source of much of our increased productivity.

Our educational frontier can and must still be widened: through improvements in the quality of education now available, through opening new opportunities so that all can acquire education proportionate to their abilities, and through expanding the capacity of an educational system that increasingly feels the pinch of demands it is not equipped to meet.

In our society, the major responsibility for meeting educational needs must rest with the State and local governments, private institutions, and individual families. But today, when education is essential to the discharge of Federal responsibilities for national security and economic growth, additional Federal support and assistance are required. The dollar contribution the Federal Government would make is small in relation to the $30 billion our Nation now spends on education; but it is vital if we are to grasp the opportunities that lie before us.

By helping to insure a more adequate flow of resources into education, by helping to insure greater opportunities for our students--tomorrow's scientists, engineers, doctors, scholars, artists, teachers, and leaders--by helping to advance the quality of education at all levels, we can add measurably to the sweep of economic growth. I shall make a number of specific proposals in a forthcoming message on education. All of them are designed to strengthen our educational system. They will strengthen quality, increase opportunity, expand capacity. They merit support if we are to live up to our traditions. They demand support if we are to live up to our future.

Manpower Development

Education must not stop in the classroom. In a growing economy, the skills of our labor force must change in response to changing technology. The individual and the firm have shouldered the primary responsibility for the retraining required to keep pace with technical advance--and their capacity to do this increases when markets strengthen and profits grow. But Government must support and supplement these private efforts if the requirements are to be fully met.

The Area Redevelopment Act reflects the importance of adapting labor skills to the needs of a changing technology, as do the retraining and relocation provisions of the Trade Expansion Act of 1962. And in adopting the Manpower Development and Training Act, the Congress last year gave further evidence of its understanding of the national needs and the Federal responsibility in this area. I will shortly present to the Congress an Annual Manpower Report as required under this Act. This will be the first comprehensive report ever presented to Congress on the Nation's manpower requirements and resources, utilization and training. The programs under this Act are already demonstrating the important contribution which an improvement of labor skills can produce, not only for the individual, but for the community as well. I have therefore recommended an increase in the funds for these programs in the coming fiscal year. Not only are the programs needed in today's economy with its relatively high unemployment; they will play an even more significant role as we near the boundaries of full employment. For they will permit fuller utilization of our labor force and consequently produce faster growth.

A second important requirement for an effective manpower policy in a dynamic economy is a more efficient system of matching workers' skills to the jobs available today and to the new jobs available tomorrow. This calls for an expanded informational effort, and I have included in my 1963 program a proposal to achieve this. I attach special importance to the work being done in the Department of Labor to develop an "early warning system" to identify impending job dislocations caused by rapid technical changes in skill requirements in the years ahead. Such information is important as a guide to effective manpower retraining and mobility efforts. It will also be useful in shaping important school programs to meet the manpower needs, not of yesterday, but of tomorrow.

The persistently high rates of unemployment suffered by young workers demand that we act to reduce this waste of human resources. I will therefore recommend the passage of a Youth Employment Opportunities Act to foster methods for developing the potential of untrained and inexperienced youth and to provide useful work experience.

To facilitate growth, we must also steadily reduce the barriers that deny us the full power of our working force. Improved information will help--but more than that is called for. Institutions which tie workers in their jobs, or encourage premature retirement, must be critically reexamined. An end to racial and religious discrimination-which not only affronts our basic ideals but burdens our economy with its waste--offers an imperative contribution to growth. lust as we strive to improve incentives to invest in physical capital, so must we strive to improve incentives to develop our human resources and promote their effective use.

Conclusion

Stepping up the U.S. growth rate will not be easy. We no longer have a large agricultural population to transfer to industry. We do not have the opportunity to capitalize on a generation's worth of advanced technology developed elsewhere. The only easy growth available to us is the growth that will flow from success in ending the period of sluggishness dating back to 1957. That we must have if only because it is inexcusable to have the American economy operating in low gear in a time of crisis.

Beyond full employment, however, we must rely on the basic sources of all long-run growth: people, machines and knowledge. We must identify and use a variety of ways-some imaginative, some routine--to enable our people to realize the full promise of our technology and our economy. In a setting of full employment, these measures can help to move our growth rate to 4 percent and above, the American people toward greater abundance, and the free world toward greater security.

JOHN F. KENNEDY