Seeking Relief from a Massive Migraine
The U.S. is afflicted by a massive economic migraine, and more than 200 million Americans know too well just how much it hurts. Their incomes, savings and life-styles are being assailed by a whole group of aches and pains. There is feverish inflation, constriction of credit and throbbingly high interest rates. The stock market has scarcely been so shaky since 1929. Just about everybody who buys, sells, borrows or invests has that overall feeling of unease. And there is no fast, fast relief in sight.
The attack of problems seems to be almost diabolically coordinated. Inflation drives up interest rates; then money flees Wall Street to pursue the higher interest rates, pushing stock prices down further; then the high cost of borrowing and the impossibility of selling new stock issues in a collapsing market make it difficult for companies to raise the money needed to expand or in some cases even to stay alive, thus intensifying the threat of recession--or worse.
President Ford says that he is determined to cure the nation's economic headache, and to his credit, he concedes that the doctoring will be long and painful. At his first presidential press conference last week, Ford once again declared that inflation is the nation's primary problem--or, in his metaphor, "public enemy No. 1." He vowed to make a start on fighting it by cutting at least $5.5 billion out of the federal budget for fiscal 1975, now in its third month. Though he earlier had talked against "unwarranted" cuts in military spending, he asserted this time that "no budget for any department is sacrosanct, and that includes the Defense budget." When asked what advice he could give the American worker confronted by soaring rises in the price of everything, Ford offered only bleak counsel: emulate the belt-tightening example of the Administration and "watch every penny."
Dreading Retirement. For tens of millions of citizens, the admonition was not only grim but superfluous: they are already being forced into penny watching on a scale they have not experienced in decades. In the past twelve months, hourly earnings of the average American worker have climbed 7.4%, but retail prices have risen much faster; the average paycheck now buys 4.6% less goods and services than a year ago. That is a drop in the purchasing power of Americans without any parallel in the whole post-World War II period. Pensioners are caught in such a merciless squeeze between higher prices and fixed incomes that some aging workers who had looked forward to retirement are now dreading and trying to postpone it. Middle-class people are being pushed into such demeaning economies as buying clothes at rummage sales and cutting contributions to their churches. Two small but indicative examples of inflation's ravages from Boston alone: Bill Collector Brian Fairbend is having a tough time making ends meet because more of the inflation-pressed consumers he duns are willing to be taken to court rather than pay up immediately, and the sick in Massachusetts General Hospital no longer have all the sheets on their beds changed every day because hospital administrators figure that they cannot afford it.
The jump in interest rates--as high as 10 1/2% on mortgage loans in California--has forced many families to postpone indefinitely their dreams of buying a new or bigger house. Though corporate profits on the whole are still rising smartly, interest costs and inflated operating expenses are driving a growing number of businesses to the wall. Pan American World Airways (1973 revenues: $1.4 billion), plagued by an inflation-induced drop in travel and a rocketing rise in jet-fuel costs, may be unable to pay its bills unless it gets a Government subsidy of $10 million a month. Nationwide, more than 5,000 businesses failed in the first half of 1974, leaving unpaid bills of more than $1.5 billion, almost 50% more than the liabilities of businesses that went bust in the comparable period of 1973. Builders and textile and apparel manufacturers are going broke the fastest.
Slight Ease? The chief cause of the zoom in interest rates has been the Federal Reserve Board's parsimonious policy. The board has held the growth of the nation's money supply to an annual rate of less than 5%--nowhere near enough to meet the credit demands of an inflationary econ, omy. Now there are some signs I that the board, realizing the shaky state of business, is becoming a trifle more generous; at minimum, it has stopped twisting the money tourniquet ever tighter. That small bit of good news was enough to touch off a Friday stock market rally that sent the Dow Jones industrial average up 22 points, to 679.
Still, the Dow was down eight points on the week, and has dropped 99 points in the first three weeks of the Ford presidency. That exactly reverses what had been expected; predictions were once widespread on Wall Street that when President Nixon left office and was replaced by a Chief Executive capable of taking strong action to right the economy, the Dow would jump 100 points.
Even if Friday's rally should continue, share prices have a long, long way to climb before investors can feel flush again; at last week's close, the Dow was more than 35% below its alltime high of 1051, reached on Jan. 11, 1973. The plunge has occurred not because of any enormous wave of selling but through a day-to-day crumbling of prices on moderate volume--"panic on the installment plan" in the words of Wall Street's gallows wits.
The dive of the Dow index, which is made up of 30 blue-chip issues, only begins to tell the story. Since the January 1973 highs, the index of all shares traded on the New York Stock Exchange has fallen 42%, the index of all issues on the American Stock Exchange has plunged 46%, and a popular average of over-the-counter stocks (those not listed on an exchange) has plummeted 54% (see chart). And this has occurred at a time when all other prices have been rising. Market Analyst Raymond F. DeVoe of Spencer Trask & Co. figures that share prices, adjusted for changes in the dollar's purchasing power, dropped 86% during the 1929-32 collapse (consumer prices were falling then, along with stocks). Between the end of 1968 (from which many traders date the present bear market) and last month, he calculates, the price of an average share traded on the New York Stock Exchange, adjusted on the same basis, fell 79%.
Such disasters hurt not only speculators but ordinary citizens. The New York Stock Exchange estimates that 106 million Americans, or almost half the total population, have at least an indirect interest in the market through holdings in trusts, mutual funds, policies issued by insurance companies that invest in stocks and--most of all--pension funds. The market collapse has wiped tens of billions of dollars away from the value of their paper assets.
Investors have been frightened of an economy that seems out of control. Worried about inflation, recession and what President Ford might or might not do, they are putting their money into safe investments that yield a return somewhere near what would be needed to keep up with rising prices.
People who can invest $100,000 or more are buying bankers' acceptances and high-grade commercial paper--types of promissory notes issued by corporations to raise money--or bank certificates of deposit. Most currently pay 11.5% to 13% interest. Investors who can put up only $1,000 to $10,000 are buying Treasury bills that yield around 9%, and the new "floating-rate" debentures issued by several banks and companies. They currently pay 10% to 11%, but the yield is adjusted up or down twice a year (after an initial holding period of about a year) to reflect the general level of interest rates.
Inflationary Stagnation. In addition, more than a dozen "money-management" mutual funds have been started lately to pool investments of as little as $1,000 each and place them in bankers' acceptances, commercial paper, Government securities or whatever yields the highest return. They currently pay investors 10% to 12%. Gold coins also are a favorite haven for stock-market refugees; their price has been rising steadily.
Over all hangs the threat of recession--or the likelihood that the U.S. already is in one, which will be given the name by economists only long after the fact.
In the past, rapid inflation has been associated with booms; the most frightening aspect of the present inflation is that it has hung on, and even got worse, through a period for which stagnation would be a mild word. During the first half of 1974, U.S. real gross national product--that is, total output of goods and services, measured in dollars of constant purchasing power--fell at an annual rate of 4.2%, v. a drop of a mere 0.4% in the recognized recession year of 1970. Unemployment has advanced from 4.6% of the labor force last October to 5.3% now. Yet inflation, measured by the broadest of price indexes, the so-called G.N.P. deflator, soared at a previously unthinkable annual rate of 12.3% in the first quarter and 9.6% in the second. In July, consumer prices were still rising at a compound annual rate of 10%.
No Guide. This situation raises for President Ford a dilemma to which the conventional postwar wisdom is no guide. In the 1940s, '50s and '60s the rules of economic management seemed rather simple: if inflation threatened, restrict Government spending and the growth of money and credit, and prices eventually would steady. If unemployment was the worry, pour out money and the economy would soon rise.
Today, the complexities are devilish. In the unlikely event that Ford should choose to pump up a slumping economy by having the Government ladle out money, inflation could swell to even more unprecedented dimensions. The greater fear among some liberal economists is that he will give exclusive priority to fighting inflation by radically slashing federal spending and encouraging the independent Federal Reserve to keep a heavy hand on the nation's money supply, and thereby bring on a real bust. In July, the Council of Economic Advisers expected unemployment to rise to 6% before it began to come down. Now predictions of 6 1/2% by mid-1975 are common. Walter Heller, a member of TIME's Board of Economists, foresees a jobless rate of nearly 7% as a consequence of a single-minded anti-inflation policy. Otto Eckstein, another member of the board, calculates that 8% unemployment, unseen for any long period since 1941, would be required for two full years to get the pace of price increases down to 4% a year.
As with the U.S., so with the rest of the industrialized world, or even more so. European and Japanese economists almost unanimously say that the U.S. is in the best position of any industrialized nation to bring inflation and unemployment down, a comment that is supposed to sound reassuring but seems to an American quite the opposite. The situation overseas is even worse. Britain faces inflation of more than 16% this year, despite persistent economic stagnation. Italy could present the world soon with the unique situation of a major country quite literally going bankrupt; the nation, struggling to cope with a surging inflation and paying sky-high oil bills, could run out of reserves with which to pay its foreign debts this fall. World inflation could easily lead to world recession. The way it could happen: each nation tries to control price increases by reducing demand; as each country buys fewer goods and services from every other, all economies go into eclipse together.
Even the word depression is appearing in discussion for the first time in decades. The Economist, a London weekly noted for judicious, unhysterical appraisals, predicts that the years 1974 to 1976 will probably be remembered as years of depression. In the U.S., a Gallup poll published last month found that 46% of adults feared a depression similar to the classic one of the 1930s. Oddly, such apprehension was more prominent among younger people, who have no personal memories of the disaster of 40 years ago, than among the middleaged.
No Cowboy. Such gloom can be overdone. Neither the U.S. nor the world can definitely be said to be in a recession yet. The 24-nation Organization for Economic Cooperation and Development forecasts some real growth in most major countries for the rest of this year.
In the U.S., the drop in production somewhat mystifyingly has not yet caused as much unemployment as economists would expect in an unmistakable recession. Arthur Okun, a member of TIME's Board of Economists, speculates that "businessmen may not be taking this slump seriously enough yet. They think it is temporary, and have kept people on payrolls," even though there is little work for some employees to do.
The economy clearly presents Ford with a set of his most baffling and urgent problems. The new President is moving cautiously to confront them; Press Secretary J.F. terHorst vows that Ford will not be an economic "cowboy," firing impulsively right and left. Ford has withheld announcing a detailed economic program until after his widely advertised "economic summit" meeting Sept. 27 and 28, at which he will seek ideas from corporate chiefs, private economists, labor and farm leaders --"the total spectrum of American society," as he somewhat grandiosely put it. The big summit will be preceded by a series of minisummits at which Government officials will consult with leaders of specific groups. The first such meeting, with private economists, convenes in Washington this Thursday.
The outlines of Ford's program are clear enough. The goal of goals will be to reduce inflation; if that can be done, the President says, "most of our other domestic problems can be solved." The chief strategy will be to slash federal spending and let the Federal Reserve keep a relatively tight lid on money and credit growth, at the risk of turning the threat of recession into an actuality. But there will be special help to ease hardship, in the form of programs to aid housing, the cash-strapped utilities industry and, most important, the people thrown out of work. The programs have yet to be formulated; one idea is a Government subsidy to lenders to hold down mortgage interest rates.
This strategy reflects the thinking of Alan Greenspan, a persuasive free market conservative who will be sworn in as chairman of the Council of Economic Advisers this week.* Greenspan, chosen by Richard Nixon, has already impressed Ford. He and the President will be co-chairmen of the economists' minisummit.
Strong Prop. In Greenspan's view, there is only a small risk that budget cutting will bring on a deep recession, largely because business capital spending will keep a strong prop under the economy. Manufacturers expect to spend almost 20% more for new plant and equipment than last year. In fact, Greenspan thinks that a tight budget policy eventually could help to revive the economy. Business is being held down, he believes, partly by the effects of inflation fueled by the big budget deficits and easy-money policies of the past.
"Inflationary expectations are repressing effective demand," Greenspan told TIME Correspondent John Berry last week. "That is one of the characteristics of an inflationary environment: the uncertainty in the average household. What will be the cost of my food, my shelter? This uncertainty makes the consumer pull back and save more. If we are successful in bringing down the big thrust of federal spending, convincing people that it and inflation can be controlled, then home building can start to move, sales tied to home building can begin to move--and that includes cars." The ultimate result, Greenspan believes, will be less unemployment as well as slower price rises.
Summit Agenda. Ford echoed some of this viewpoint at his press conference. Budget cutting, he said, will help both symbolically and "substantively." It will reduce Government borrowing and make more loan money available to home buyers and utilities, a point also made by Greenspan. Federal spending for fiscal 1975 is officially projected at $305 billion, but Ford pledged publicly to hold it below $300 billion, and Treasury Secretary William Simon has mentioned a goal of $298 billion. That would reduce the deficit from $11 billion to $4 billion. Ford is likely to accept a cut of about $2 billion in this year's defense spending now being shaped by Congress and to pare some civilian programs more deeply. He already has got Congress to whack almost $10 billion out of projected federal aid to mass transportation over the next six years, reducing the spending figure to $11 billion.
This is by no means an uncontroversial strategy. To many economists, the view that budget cutting is the most important way to attack all the troubles of the economy seems vastly oversimplified or even misguided. Trying to control the economy by holding down federal spending, says Robert Nathan, a member of TIME's Board of Economists, "will not work for Ford any more than it did for Herbert Hoover."
Such criticism is being muted for the moment, but it is sure to burst into the open at the economic summit. The Administration has laid out a five-point agenda for the summit conference:
1) To clarify the nation's present economic condition.
2) To identify the causes of inflation.
3) To develop a consensus on basic policies to deal with inflation.
4) To consider new and realistic approaches to the inflation problem.
5) To define hardship areas requiring immediate action.
On at least three of these points, Ford will hear opinions sharply at variance with those that he gets from Greenspan and his other advisers.
On the condition of the economy, there is little disagreement and even less cheer. The prospect is for continued rapid inflation, production stagnation and rising unemployment, not only for the rest of 1974 but through most of next year as well. Private economists forecast that retail prices will continue to leap at about today's double-digit rates through year's end, then subside only to between a 7% and 9% pace in 1975. Real output of goods and services may drop a bit more next quarter, then rise only 1% or so in 1975. Otto Eckstein predicts that industrial production will not regain its end-of-1973 peak until late next year, making 1974 and 1975 by far the longest period of no growth in the economy's postwar history.
The outlook has darkened considerably in the past few weeks. Though economists long ago lost all illusion that inflation could be conquered swiftly, they had thought that declining food and fuel prices late this year would help offset fast rises in the price of everything else. Those hopes have now been dashed by two factors--"the weather and the Arabs," as one disgruntled investor puts it.
The summer's Midwest drought hurt production of feed grains so badly that the Agriculture Department now estimates that retail food prices, far from going down, will rise another 4% to 5% in this year's second half, then go up some more in 1975. The best hope that Secretary of Agriculture Earl Butz can offer is that next year's rise will be less than 10%, v. 15% this year.
Because of high prices and energy-conservation measures, world oil demand has been running so far behind recent production that storage tanks in Europe and Japan are filled to the brim. But instead of cutting the prices that they quadrupled last year, oil exporting nations are reducing production in order to keep the prices up. In the past two months, Kuwait has cut production 20%, and Venezuela has trimmed significantly too. At a meeting next week, the Organization of Petroleum Exporting Countries is expected to approve a coordinated production drop of at least 10% by all twelve members. Even Saudi Arabia, which has long publicly advocated a reduction in oil prices, is reducing production instead--by 850,000 bbl. per day this month, down 10% from July. Meanwhile, prices continue to rise. Oil imported into the U.S. in July hit a record $11.69 per bbl.; the cost of paying for it pushed the U.S. foreign trade deficit to $728 million, the third highest monthly red-ink figure ever recorded.
"Inventory Recession." Economists long looked forward to at least some slow real growth in production of goods and services late this year. Now they doubt it, primarily because business inventories have been piling up at an unhealthy clip. A rise of $10 billion in inventories for a full year is considered large, but newly revised figures show that in the last quarter of 1973 goods accumulated on shelves and in warehouses at an annual rate of almost $29 billion. In the first half of this year, the rate was close to $16 billion. Businessmen have developed a shortage-and-inflation mentality, and have been scrambling to buy goods that might become scarce or rise further in price. That process cannot continue forever. Soon, businessmen will have to stop filling already bulging warehouses, and the reduction in their orders for goods either will bring on a classic "inventory recession" or, at minimum, will be a drag on production.
There are plenty of other drags on the economy. Interest rates were once expected to drop after midyear, but for the moment they are going up further. Short-term rates may drop a bit if the Federal Reserve really does ease monetary policy, but long-term rates, such as those on bonds, are likely to stay up until the investors who buy them can be convinced that inflation is abating. Last week, Northwestern Bell Telephone Co. sold $150 million in bonds at 10.14%, a record for any unit of AT&T.
The continued climb in interest has killed all hope of a recovery in housing, which once seemed likely to lead the economy back to resumed growth in late 1974. Housing starts have fallen 38% in the past year, to an annual rate of 1.3 million, and seem likely to go even lower. Little money is available at any price. Savings and loan associations, the prime source of mortgage money, lost $582 million in deposits in July, as savers withdrew their funds to seek higher interest than the S and Ls can pay.
Even big businesses are having trouble borrowing, posing a question as to how U.S. industry will raise the $2 trillion to $3 trillion of new capital that bankers estimate it will need over the next ten years to expand capacity, clean up pollution and develop new technology. Electric utilities usually raise most of their money in the bond market, but so far this year 28 utilities have postponed bond sales or changed the terms. Consumers Power Co., Detroit Edison Co. and other utilities have canceled plans to build nuclear power plants because they could not borrow the money at acceptable cost.
Dry Well. In this situation, bankers have great powers to make or break, and they are under extreme pressures. Typically, Phoenix's First National Bank of Arizona (assets: $2 billion) does not have enough money to meet all the loan demands, and its officers must make agonizing decisions about which of many worthy applicants to lend to. Says President Robert D. Williams, 62: "It's rough to tell longtime customers who are also old friends that the well is dry."
For construction, "there is just no money," adds Williams. Recently he turned down a loan application from a successful Denver retailer who wanted to expand his business into Arizona. "Under normal circumstances, there would have been no question," he says.
All these ills are caused by, or are at least complicated by, inflation. But what is causing the inflation, and what should be done about it? These are the questions on which President Ford will hear the sharpest dispute at the summit conference.
Liberal economists challenge the view of Greenspan and other Government policymakers that the current inflation is basically the inevitable hangover from years of excess demand brought on by a federal spending spree, huge budget deficits and easy money. Walter Heller contends that the real trouble is a "one-shot" explosion in food, fuel and raw-commodity prices. Food and fuel accounted for about half the 11.8% rise in the consumer price index in the twelve months through July. The great danger, Heller believes, is that labor will demand huge wage increases to catch up with food and fuel prices, the pay boosts will push up prices of many other goods and services, and that will lead to still more wage demands. Budget cutting and tight money, he believes, could well bring on a deep recession without stopping this process.
At the economists' minisummit this week, Heller will propose a wide-ranging program featuring a Government wage-price agency that could subpoena company and union records, order large increases suspended while it held hearings, and even roll back "really flagrant" boosts. Other Heller ideas that are widely backed by liberals include: an immediate easing in Federal Reserve monetary policy to head off a recession; credit controls to channel more loan money to home builders and buyers and small businesses, less to speculators; a huge Government program to hire the unemployed for public-service jobs; tax cuts of $6 billion to $8 billion to give medium-and low-income families some relief from the ravages that inflation has wrought on their paychecks, offset by the plugging of "loopholes" that favor oil companies and the rich.
Some elements of this program, notably credit controls and broad tax cuts, are totally unacceptable to the Administration. But there are areas of possible compromise. Ford, Greenspan and Treasury Secretary Simon are not opposed to some easing of monetary policy. Indeed, they hope that budget cutting will free the Federal Reserve to be less tightfisted.
Federal Reserve Chairman Arthur Burns and Presidential Counsellor Kenneth Rush favor more Administration "jawboning" against big wage and price boosts. President Ford himself asked for and signed into law last week a bill creating a new Council on Wage and Price Stability, headed by Rush, that will monitor increases and decry those that seem excessive. It has no subpoena, suspension or rollback powers, but these could be added if the council proves ineffective. A surprising number of economists, ranging ideologically from Joseph Pechman, a former adviser to George McGovern, to Milton Friedman, onetime adviser to Barry Goldwater, predict that Ford eventually will feel compelled to revive full wage-price controls, though the President declared at his press conference that "wage-price controls are out, period."
Jobs in the Zoo. Conservatives as well as liberals have embraced the idea of funneling federal money to states, cities and counties so that they could hire the unemployed for public-service jobs, as library clerks, garbage collectors, tree trimmers, zookeepers, among many others. Arthur Burns has proposed a $4 billion-a-year program, the first $1 billion to be triggered when unemployment hits 5.5%, the rest when it crosses the 6% mark. Though Ford has not specifically endorsed the proposal, he confirmed that it is under consideration and added that his approach to the idea will be one of "compassion and action."
Ford's program thus is flexible and still open to change. His approach of soliciting ideas from sharp critics as well as official advisers is admirable; the economy's woes are so complex that no idea for healing them should go ignored. But time for formulating a complete program is rapidly running out. As the stock-market collapse vividly illustrates, public fright and worry are themselves becoming a powerful economic force --and they feed on uncertainty.
* Greenspan has resigned his membership on TIME'S Board of Economists.
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