A Complex Formula For Prices

By specifying weeks ago a goal of getting the inflation rate down to 2% to 3% by the end of next year, President Nixon in effect fixed the Price Commission's post-freeze guideline in advance. For the record, commission members last week announced the target for price increases during the next year at an average of 2 1/2%, or midway between the President's figures. Far more important, they drafted an ingenious plan that ties most Phase II price levels to a company's current health as measured by its productivity and profits. If the U.S. economy expands vigorously in 1972--the year that Nixon has predicted could be "great" for business--and corporate executives zealously observe the spirit of the guideline, some prices could actually go down.

The commission ruled that price hikes in most industries must be limited to increased costs minus any gains in productivity, the amount that a single worker can produce in one hour. Thus in order to raise prices a businessman must be prepared to prove that 1) he faces increased outlays for labor or materials and 2) these rises will not be offset by productivity improvements. Productivity is difficult to measure in many industries, particularly services (TIME, Nov. 15), and the commission has not yet announced how it should be calculated by businessmen seeking price rises. Economists agree, however, that productivity generally rises in a post-recessionary period like the present one, and thus should put a brake on price boosts.

Lessened Leeway. The costs-less-productivity formula is basically the one used by Kennedy and Johnson economists in the mid-'60s to gauge informally which price increases seemed justified. It was eventually criticized by labor leaders for providing too much leeway for businessmen to realize high profits. To overcome that objection in the current plan, the Price Commission added another stipulation: no firm will be able to increase its basic profit per unit of production by raising prices. Businessmen are encouraged to raise total profits by increasing sales, and they are also allowed to increase their per-unit profits as long as they do not raise prices --by realizing new efficiencies, for example. But if a company's earnings as a percentage of sales begin edging up, no price boosts will be allowed.

One intent of these rules is to encourage businesses with relatively stable costs, rising productivity and expanding profit margins into cutting prices and increasing sales. The commission, however, can order price cuts only in unusual circumstances, chiefly when it finds that a company has raised prices unjustifiably. The first reaction of many businessmen to the complex formula was to order their accounting departments to calculate recent profit margins--frequently as the first step toward asking for price increases.

Lingering Freeze. Only a few of the nation's 1,300 largest companies will be allowed to raise prices right away, however; most must give a month's advance warning of any planned boosts. So the prices of many manufactured items, including General Electric washing machines, Kodak cameras, Budweiser beer and all Sears, Roebuck goods, are in effect still frozen at least until mid-December. Moreover, the commission continued the freeze on most residential rents until a still-to-be-named rent board can work out special guidelines, and it forbade storekeepers to increase prices until they post a list of their major freeze-level price tags. Says Commission Chairman C. Jackson Grayson Jr.: "I hope the consumer will ask to see that some prices have gone down as well as up."

Even if they do, prices during Phase II may seem more flexible to the average consumer than his wages. Businessmen who are able to substantiate sharp cost increases will be allowed to raise prices more than 2.5%, and few customers know enough about productivity or profit margins to determine for themselves if a price change by a less-than-giant company can be effectively challenged. Further, Cost of Living Council Director Donald Rumsfeld announced the exemption of a long list of items--including used cars and houses, precious stones, life-insurance premiums, custom tailored clothes and almost anything else that is either secondhand or made to order--from any price controls whatever. By COLC estimate, the average consumer spends up to 20% of his income on purchases that will no longer be controlled. It will take vigilance aplenty by organized consumer groups and the Government to enforce the new rules on the other 80%.

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