deregulation of key industries have removed bottlenecks and increased the competitive supply response of many economies, especially ours, and these developments have been influential in suppressing price increases. it would be an exaggeration to imply that, whenever a potential cost increase emerges on the horizon, a capital investment is available to quell it. yet the veritable explosion of spending on high - tech equipment and software, which has raised the growth of the capital stock dramatically over the past five years, could hardly have occurred without a large increase in the pool of profitable projects available to business planners. as our experience over the past century and more attests, such surges in prospective investment profitability carry with them consequences for interest rates, which ultimately are part of the process that balances saving and investment in a non - inflationary economy. in these circumstances, rising credit demand is almost always reflected in an increase in corporate borrowing costs and that has, indeed, been our recent experience, especially in longer - dated debt issues. real interest rates on corporate bonds have risen more than a percentage point in the past couple of years. home mortgage rates have risen comparably. the federal reserve has responded in a similar manner, by gradually raising the federal funds rate over the past year. certainly, to have done otherwise - to have held the federal funds rate at last year ’ s level even as credit demands and market interest rates rose - would have required an inappropriately inflationary expansion of liquidity. it is difficult to imagine product price levels remaining tame over the longer haul had there been such an expansion of liquidity. in the event, of course, inflation has remained largely contained. to be sure, the tripling of crude oil prices has left its mark on “ headline ” inflation rates and inflicted considerable pain on some sectors of our economy. however, there is little evidence, at least to date, to suggest that oil price increases have started to embed themselves more broadly in the underlying cost structure of american business - that is, beyond the direct effects of the higher energy costs themselves. nevertheless, despite the very recent declines in the price of oil, there are risks here that need to be monitored closely. given the persistent strength of private credit demands, market interest rates would have risen even more were it not for the emergence of a sizable unified budget surplus following a long period of chronic deficits. more recently, the administration and the congress have wisely chosen to wall off the surplus in the social security

trust fund and to allow it to pay down treasury debt held by the public. this action will surely contribute to sustaining the rapid private capital formation we have experienced in recent years. i see no reason that productivity growth cannot remain elevated, or even increase further, to the undeniable benefit of american businesses and workers. achieving this outcome, however, requires that imbalances do not arise to drive the expansion off course. only a balanced prosperity can continue indefinitely ; one that is not will eventually falter. a change in market interest rates is an important element of the balancing mechanism of a market economy. some misalignments have arisen over the course of the expansion. owing largely to the increased rate of return on capital and a sizable wealth effect, overall demand for goods and services for the past four years has been growing noticeably in excess of the enhanced growth in potential supply, defined as the sum of the growth in the working - age population and productivity. an increasing share of the goods and services required to meet this extra demand has been supplied by net imports, with the remainder the result of an increase in domestic production achieved by drawing down the pool of those we count as officially unemployed and those otherwise available for work. short of a significant opening up of our borders to more immigration, an increase in employment beyond the growth of the working - age population is limited to what remains of our shrinking pool of available workers. although the sum of the unemployed and those not in the labor force but who nonetheless are available for work is still about ten million, the level has been falling steadily. this year, the figure has been lower as a percentage of the population than at any time in the history of this series, which goes back to 1970. should the pool of available workers continue to shrink, there is a point at which this safety valve for excess demand will effectively close, even in the face of accelerating productivity. we do not know where that point is, but presumably it would occur well before a full depletion of the pool of potential workers. when we reach that point, short of a repeal of the law of supply and demand, the scarcity of labor will almost surely induce a rise in hourly compensation gains that increasingly outpaces an even faster productivity growth - a condition that would cause unit costs to accelerate over time. moreover, we do not know how long net imports and us external debt can rise before foreign investors become reluctant to continue to add to their portfolios of claims against the united states