Keeping Them Guessing

The economy is strong, but businessmen fret about Carter's policies

A cording to an old adage on Wall Street, the stock market can deal with good news and bad, but it cannot tackle uncertainty. Last week the market was coping with little but uncertainty, most of it emanating from the Oval Office.

Jimmy Carter was in the midst of a deepening crisis of confidence with businessmen--and, to a growing extent, with the public--over his handling of the economy. During the President's nine months in office, the economy has in fact performed quite well. But in the past few weeks, economic growth has slackened, the unemployment rate has stubbornly refused to edge downward, and inflation has begun to pick up speed--not enough to justify fears of a downturn but enough to convince many economists, bankers and executives that Carter still has no clear idea as to what to do about the economy.

In addition, businessmen are profoundly disturbed by the disagreement between the White House and crusty, conservative Federal Reserve Chairman Arthur Burns, who is widely respected in the business community. Fearing stepped-up inflation, Burns wants to slow the growth of the money supply. Carter's liberal economic advisers argue that too tight a rein may send the economy into a tailspin.

There were also a number of things going on in Washington that could bost businessmen billions of dollars, but no one knew for sure how many. Carter signed into law a measure increasing the $2.30 an hour minimum wage to $2.65 in 1978 and, by steps, to $3.35 in 1981. Congress wrangled over a Social Security tax increase that by 1982 could be draining a total of $180 billion a year from workers and their employers. The energy program was being debated by a House-Senate conference committee. With hard bargaining on the energy legislation about to begin this week, the President put off his scheduled nine-nation trip abroad so that he could be on hand for the showdown. The postponement only served to make his Administration look more confused and rudderless than ever.

The stock market reacted to all these uncertainties in predictable fashion: it sank. The Dow Jones industrial average, the market's most widely watched barometer, plunged dizzily to 800.85, its lowest level in two years. The drop is particularly unsettling because investors regard the 800 level as a psychological barrier; once it is breached, they fear an even steeper fall. By week's end the market had recovered slightly, to a closing Dow average of 809.94. Nonetheless, since New Year's Eve the Dow has plummeted 194.71 points, an astonishing slide. Clearly the nosediving stock market is trying to deliver an unpleasant message to the nation.

On one level, Wall Street was responding to some bad news. The Labor Department reported that the unemployment rate for October was basically unchanged, at the disappointingly high rate of 7%. Wholesale prices jumped .8% in the same month, the biggest increase since April and an augury that inflation's rate might be quickening. Reflecting similar worries, the Federal Reserve System again stepped hard on the monetary brakes by selling Government securities to drain bank reserves and raise the cost of borrowing. With oil imports propelling the U.S. balance of trade deficit toward an alarming $30 billion this year, the dollar last week skidded sharply against the Japanese yen, the West German mark and the Swiss franc. "Economically," conceded a White House aide, "it's been a rotten week for the Administration. I mean it's bad enough to have businessmen and stockholders causing all sorts of commotion without having to worry about international money managers in London and Zurich too."

More fundamentally, the stock market is mirroring the business and financial community's deepening lack of confidence in Jimmy Carter's management of the economy. Says Du Pont Chairman Irving Shapiro: "I still think he is a man of great ability. But he let himself get diverted by political slogans rather than sticking to his knitting." Adds James M. Howell, chief economist for the First National Bank of Boston: "Businessmen thrive on certainty. The President has bitten off half a dozen big projects, and all of them generate a tremendous amount of uncertainty."

House Speaker Tip O'Neill, who is trying hard to get those big projects through Congress for Carter, is well aware of the business community's concern.

O'Neill went up to Springfield, Mass., last week to address a business group, and he was shaken by the visceral animosity he found toward Carter. "He's got them in a dither," said the Speaker. "He's got too many balls in the air."

Thus businessmen are unusually cautious these days in planning for the future. According to a McGraw-Hill survey, they intend to increase real spending --that is, after allowing for inflation--on new plant and equipment next year by only 3%. That would represent a sharp drop from this year's increase of about 8%, which economists consider insufficient. Indeed, the Administration had hoped for an 8% to 10% increase in capital spending next year to keep production growing, bring down unemployment and continue the nation's recovery from the deep recession of 1973-75.

To a growing extent, the businessmen's pessimism is shared by the general public. A New York Times-CBS News poll released last week showed Carter's overall approval rating slipping to 55% in late October, down from 62% in July. Other polls detect an even deeper public malaise. Of the people surveyed by the California poll, only 29% thought Carter was doing a good job as President. The Har ris poll found in October that only 26% of the public approved of Carter's handling of the economy, down from 46% in May. Moreover, 54% of those surveyed thought that the country was in a recession -- a view not held by economists but one that indicates the depth of the public's unease. Actually, the economy has performed impressively since the recession ended in early 1975, and it has continued to do so through the Carter presidency. By next year the U.S. should have a $2 trillion economy. Real gross national product is expected to rise by at least 5% this year, for a total of about 15% since the bottom of the recession. Unemployment has fallen by two percentage points during those same 2 1/2 years. Inflation was cut to an annual rate of 4.2% in the three months ending in September, down from 12.2% in 1974. Major retailers report that sales surged in October, presaging a good Christmas shopping season. Says Charles Schultze, chairman of the Council of Economic Advisers: "The recent economic performance of the U.S. is in many respects the envy of other industrial nations. Yet there appears to be less confidence in the future health of the American economy here at home than there is abroad."

This perception is shared by many businessmen and economists. General Motors Chairman Thomas Aquinas Murphy regards the economy as "in the midst of a balanced expansion." Both Murphy and Chrysler Chairman John Riccardo, in fact, predict that the 1978 model year (running from October 1977 to September 1978) will bring record sales of more than 15 million cars and trucks. (The previous high, set in 1973, was 14 million.) Irwin Kellner, economist at New York's Manufacturers Hanover Bank, agrees that the economy is "in fine shape." Adds Economist Herbert Neil of Chicago's Harris Trust: "A solid recovery is going on."

So why the gloom over the economy?

Why the stock market bust? One reason is widespread fears about next year. Businessmen and economists interviewed by TIME last week generally agreed that real G.N.P. will slow to a growth rate of about 4.3% in 1978, unemployment will remain stuck at about 7%, and inflation will increase to something over 6%. More important, almost all of them fear that the economy will run into an air pocket during the second half of next year--just about the time the impact of the new energy and Social Security taxes starts to be felt. Says Albert Cox, president of Merrill Lynch Economics: "Economic hobgoblins of all shapes and sizes are everywhere."

Most worrisome of all, though, is Carter's continuing failure to set a strong direction on economic policy. "We're adrift," complains Wisconsin Democrat Henry Reuss, chairman of the House Banking Committee. "Carter will never win businessmen's confidence by saying that he wants to be loved. What businessmen respect, rightly, is mastery."

One way for Carter to demonstrate control would be to give some clear signals on the tax package that he keeps postponing as the energy debate drags on in Congress. Carter originally wanted to combine a tax cut (to stimulate the economy) with wide-ranging reforms (to make the Internal Revenue system simpler and fairer). But some of his ideas, including taxing capital gains at full rates and cutting in half the tax deduction for the fabled three-martini lunch, stirred intense opposition among businessmen. Moreover, many Congressmen do not want to tackle anything as controversial as the tax system in an election year. Says Tip O'Neill, without a trace of doubt: "The House is not going to pass a tax-reform bill next year."

As a result, Carter will have to redraft his program. Strangely enough, however, he has not spent any time on it since mid-October. Says one tax-policy maker:

"Work has slowed down, and we're waiting for some decisions from the White House." In the end, Administration aides expect Carter to split his tax program into two parts. Next year he will probably propose some minor, face-saving reforms, such as a substantial tax cut and the elimination of the deduction for gasoline taxes, that would help offset the effects of the new energy and Social Security taxes. The size of the cut has not been determined, but it may be larger than the Treasury Department's proposed net cuts of $15 billion. Then, in 1979, Carter could send Congress a tax bill that included his most controversial ideas for reform, among them taxing capital gains as regular income, limiting the deduction for home-mortgage interest to $10,000 a year, and not permitting corporations to defer taxes on their income from abroad.

In addition, the business community wants Carter to take a strong stand against inflation, which many executive:

fear more than anything else. On this score, the Administration has damaged itself in their eyes by feuding with Arthur Burns, 73, whose four-year term as chairman of the Federal Reserve expires Jan. 31. Burns has emerged as a champion in the battle against inflation, and virtually all the businessmen interviewed by TIME say that Carter could greatly restore their confidence in the Administration by re-appointing him. The conservative Burns has been at loggerheads with the more liberal economists in the White House over the rapidly growing money supply, which he regards as inflationary.

For months, Burns has come close to giving Carter and his top economic advisers heartburn at their monthly luncheon discussions on the economy. Says an Administration aide: "With his professorial style, he lectures them all on the dangers of inflation. They've heard it all before, but he repeats it every month." Indeed, top Administration economic advisers no longer hide their disagreement with Burns' handling of monetary policy.

At issue is a complicated bit of monetary theory known as velocity, which deals with how fast money changes hands.

A fast rate means that the money supply --total checking account deposits and cash in circulation--can be permitted to grow slowly yet still keep the economy rolling in high gear. Burns maintains that velocity is high at present and that, at the same time, the money supply is growing too quickly; it was up $1.4 billion in the week ending Oct. 26. Thus the Federal Reserve has been increasing short-term interest rates to slow the increase in the money supply. On the other hand, CEA Chairman Schultze, the Administration's most vocal critic of Burns, holds that velocity is declining and that if the Fed does not increase the money supply, interest rates will shoot up and the economy will be in danger of going into a recessionary tailspin.

In the growing conflict, members of the Administration have criticized Burns' policies on four occasions, and the hard-nosed Fed chairman has replied in kind. In his view, business profits are too low, and something must be done to increase them to prevent economic recovery from petering out. Two weeks ago he declared: "Anyone who wonders why capital spending has been so halting or why stock prices have behaved so poorly for so long would be well advised to study this dismal record of what American business has been earning." Indeed, a Wall Street Journal survey last week found that analysts expect corporate balance sheets to take a turn for the worse next year, which could mean a further slash in capital-investment plans and even a cut in dividends.

Like many other economists, liberal and conservative, Burns compares the present situation with that of the early 1960s and reaches for the same magic solution: "bold" tax cuts. After all, the Kennedy-Johnson tax cut of 1964 ushered in the fondly remembered boom of the middle and late '60s. Why not try again? Burns urges reductions for individuals and corporations and, to spur business spending on plant and equipment, liberalized tax depreciation rules and a higher investment tax credit than the current 10%.

Some hands in Washington suspect that Burns has encouraged the argument with the White House to rally businessmen behind him, thereby improving his chances for reappointment, or at least making it more likely that his successor will not be too liberal. Administration aides say Carter has not even begun to consider whether to keep Burns. That is January's decision, they say, not November's. But postponement of a decision on Burns, just like the delay on the tax package, unsettles the business community and adds to the forces that are lessening chances for a robust economy in the second year of the Carter Administration.

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