An Unmistakable Signal

THE ECONOMY

The U.S. economy collected a surprise dividend last week from its new burden of higher taxes. In a move that most moneymen had not expected for weeks or even months, the Federal Reserve Board lowered its discount rate from 51% to 51%. Though the 1% change was as small as the Reserve Board ever makes it, it was an unmistakable signal of a general trend toward lower interest rates on all kinds of loans.

The reduction dropped the economy's key interest rate below the crisis level, highest since 1929, to which the Reserve Board pushed it last April in its effort to fight inflation and steady the international standing of the dollar. The new rate applied initially only to the Minneapolis Reserve Bank, which requested the cut in the amount it charges member commercial banks for borrowed funds. Normally, the other eleven district Reserve Banks soon fall into line with such shifts, but this time there were signs of dissent and delay. The key New York Federal Reserve Bank, which frequently takes a more conservative view of monetary matters than the Washington board, let word leak out that it was miffed at the timing. By week's end, only the Richmond Reserve Bank had followed Minneapolis' lead. Still, few if any bankers really expected the holdouts to persist over a very long period of time.

Dwindling Pressures. By its 5-0 vote to cut the discount rate, the Reserve Board sided with Administration economists who contend that inflationary pressures in the economy are dwindling because of the 10% income-tax surcharge enacted in late June. Unless the credit brakes were eased, so their argument ran, the combination of both fiscal and monetary restraint could slow the economy too much and create the risk of a mini-recession. To offset such economic drags as a sharp drop in steel buying, a leveling off in defense outlays and the anticipated decline in consumer spending, the Administration counts on a major rebound in housing construction. Yet despite a huge backlog of unfilled demand for new housing, the result of the 1966 credit squeeze that crippled the industry for a year, no such upturn seems likely unless interest rates continue to fall.

In response to the cooling economic outlook--and the higher taxes that have reduced the Treasury's need to finance the federal deficit by borrowing--interest levels have already turned down in the sensitive bond and money markets. Last week Wisconsin Telephone Co. sold a $50 million issue of debentures yielding investors 6 1/4%, a full 1/2% less than the peak for Bell System bonds set in mid-April. Rates on other utility bonds, on 91-day U.S. Treasury bills, and on commercial bank certificates of deposit (a favorite haven for idle corporate cash) have fallen by similar amounts. Though mortgages respond slowly to changing money conditions, some New York lenders this month shaved their rate on residential loans from 7 3/4% to 7 1/4%. The Reserve Board's discount cut will promote further reductions, if only because bankers everywhere will take it as a sign of the board's future intentions in manipulating credit. Too Much Too Soon? Still, many bankers question whether the Reserve Board let up on its monetary brakes too much too soon. Says Vice President Beryl Sprinkel of Chicago's Harris Trust & Savings Bank, echoing a common sentiment: "It's a long, painful process to get the economy back to price stability, and we haven't even started yet." Consumer prices rose at a 6%-a-year clip during June. Nor have higher taxes slowed the rapid pace of economic growth. Federal Reserve figures last week showed that industrial production pushed to its third straight record in July. Wall Street perked up at the discount-rate news. On the New York Stock Exchange, the Dow Jones industrial average rose 6.38 points in the week's final trading session. For the week, the average gained 16.24 points to reach 885.89--its first rally after a month of losses.

This file is automatically generated by a robot program, so reader's discretion is required.