Exploring the New Economic World

Patrick Trainer, aged ten, thought that it was time for an increase in his weekly allowance of $1. But when he finally got up enough courage to ask for $1.50 last week, his father Thomas, a suburban Philadelphia photographer, pointed out that under President Nixon's new program all wages were frozen--even allowances. Dissatisfied with the answer, young Patrick wrote to a local newspaper, which carried his problem to the men at the Office of Emergency Preparedness. Their ruling: allowances can be raised "only if the receiver s productivity or responsibility increases." Patrick promptly offered to start washing the family car in addition to performing his other chores, which include feeding four cats and two gerbils. He won his increase.

SUDDENLY, the state of the U.S. economy loomed directly over the lives of almost every American. Wage earner and corporate chieftain, small shareholder and Wall Street operator, vacationer abroad and ordinary consumer at home--each faced a radically altered set of rules as a result of President Nixon's brief, stunning television speech. Millions of Americans, contemplating restrictions on their business and financial lives unprecedented in the nation's peacetime history, spent the week in an uncertain--but vaguely hopeful --examination of a new economic world.

Few found firm answers as readily as Patrick Trainer. The long-range economic effects of the President's program, like the political ones, were still largely incalculable. The great majority of business leaders applauded the plan, convinced that it would create general economic momentum and thus benefit everyone. The Argus Weekly Staff Report, an investment newsletter with a good forecasting record, predicted that general business activity would "accelerate sharply" over the next year. Still, few businessmen had a chance to assess completely the program's impact on their own operations. An executive of Lockheed spoke bluntly for many other firms. Just before learning that the British-made Rolls-Royce engines for Lockheed's L-1011 jetliner will be subjected to the 10% import tax he exploded: "The whole goddam nation is confused over the plan, and we bow to no one in our confusion."

Nevertheless, businessmen and economists lost no time in exploring their new world. In it, Nixon hoped to perform three monumental tasks: 1) HALT INFLATION. By freezing wages and prices at their current levels for at least 90 days, Nixon declared full-scale war on the economic trouble that disturbs more Americans than any other: the unrelenting increase in the cost of living and the cost of doing business. Nixon's critics have long urged him to attack the problem with less severe measures, either by establishing wage-price guidelines similar to those imposed by

President Kennedy or by engaging in L.B.J.-style jawboning with business and labor chiefs. Instead, Nixon decided to start out tough. One benefit of this policy will be that when the President finally feels prepared to ease the freeze, guidelines and jawboning will seem a welcome relief. Says Ted Eck, chief economist for Standard Oil: "The freeze is sort of like putting people in jail so they can see how it feels."

They are almost certainly going to have the experience of a closely supervised parole as well. Even if the President does not extend the 90-day period of total shock, and practically everyone feels that an extension is likely, the forces of inflation will take much longer than that to become really quiescent. In an interview with TIME Correspondent Lawrence Malkin, Secretary of the Treasury John Connally revealed that one of the first jobs of his Cost of Living Council would be to draft a post-freeze wage-price plan, known among its planners as "Phase 2." Said Connally: "We will analyze what structure is necessary so that we don't rekindle inflation." One part of the plan, already decreed by the council, is a ban on retroactive wage increases after the freeze period ends, thus barring labor from collecting lump-sum payments for increases negotiated during the 90 days. Whatever Connally's full program, it will commit the White House to a long-term incomes policy, something that the President has sought to avoid for 21 years.

Such a policy may well be necessary medicine for a nation in which, as Federal Reserve Board Chairman Arthur Burns says, "the rules of economics are not working quite the way they used to." Even so, its administration could become an enormous and cumbersome job. For the time being, Nixon and Connally plan to rely primarily on the force of public opinion, confident that, as the Treasury Secretary says, it will bring down "the wrath of the American people" on violators. But such intensity of feeling is unlikely to last for long, especially in peacetime. In the later stages of Britain's six-year experience with wage-price controls under Harold Wilson, infractions were common, even though a review board had power to delay announced increases.

The President's other fiscal move was to cut some federal spending primarily to please key conservatives like Wilbur Mills. In themselves, none of the deferred programs or expenses were inflationary. But they might have had to be financed through an excessive expansion of the money supply, which decidedly is. According to Economist Alan Greenspan, the federal deficit for the current year--before the President acted--would have reached a "horrendously inflationary" $25 billion. 2) CREATE JOBS AND LIFT THE ECONOMY.

Both consumers and businessmen stand to benefit from this goal, though the latter more broadly. If Congress passes the necessary legislation, the 39-year-old excise tax on new cars will be abolished, reducing the price of most models from $150 to $200, and taxpayers will receive a $100 increase in their standard deduction beginning in 1972, instead of the $50 increase previously scheduled. The major booster would be a far-reaching tax incentive for capital spending, enabling any company that invested in domestically produced equipment or plants to subtract 10% of the cost from the bottom line of its tax bill during the next year, and 5% thereafter. Individuals stand to collect the same benefit; for example, freelance writers would be able to subtract directly from their taxes part of the costs of new typewriters and desks; doctors could write off new diagnostic equipment and self-employed photographers could deduct new cameras. A similar incentive, pushed by Economist Walter Heller and enacted by the Kennedy Ad ministration in 1962, helped kick off the longest period of economic expansion in the nation's history. It was discontinued in 1969 to slow down the racing economy that resulted from the Viet Nam buildup.

All together, by the estimate of former Budget Director Charles Schultze, the President's tax package will pump $5 billion to $6 billion into private spending during the current fiscal year, which ends June 30, 1972. The Administration hopes that these funds will quickly create jobs for many of the 5.8% of the work force presently unemployed--one of Nixon's major political deficits. To show what could happen in a single industry, White House spokesmen pointed out that an increase of 100,000 orders for new cars would provide some 25,000 additional jobs.

Before such marvels can occur, however, the nation must undergo the subtle but central change in psychology that so far has eluded it during an increasingly frustrating recovery period: a turn-around in consumer and business confidence. "Confidence is catching," says Ford Vice President John Naughton, and the President is clearly hoping for a happy epidemic. Pollster Albert E. Sindlinger reported that consumer confidence zoomed in the week after Nixon's speech. After polling some 1,100 homes, Sindlinger workers reported that 64% of those asked were satisfied with their job and income prospects, compared with 55% of respondents two days before the President's speech. If that optimism is transformed even partly into buying action, the result would be a windfall of billions for retailers. U.S. families are saving an unprecedented rate of 8.4% of their incomes, and have salted away more than $30 billion just this year.

Businessmen may also feel confident enough to spend much more. After Nixon's speech, a top economist at Chase Manhattan Bank revised estimates for capital spending upward by a minimum of 20%, and leaders of many large corporations ordered complete budget reviews. Said Paul Oreffice, financial vice president of Dow Chemical: "Our budget for new plants over the next year could go up from its present level of $150 million to as much as $200 million." One major complaint was the one-year time limit on the maximum 10% credit. The incentive would have almost no effect during the 90-day freeze. Pointing out that most capital investments take 18 to 24 months to complete, Harold Williams, dean of U.C.L.A.'s business school, argued that a permanent credit of 71% would provide more stimulation in the long run. 3) DEVALUE THE DOLLAR. By abrogating the 22-year-old U.S. pledge to exchange dollars for gold, the President set off a chain of events that will almost certainly lead to worldwide monetary reform (see story, page 14). He chose to do so in the most palatable way possible for himself--by forcing other nations to revalue their currency upward against the dollar rather than by declaring a lower value for U.S. currency. By making the dollar worth less abroad, he automatically turned U.S. goods sold there into a better buy--and thus increased the nation's sagging export potential. At the same time, investment in foreign businesses will become less attractive to U.S. corporations, stemming the outflow of capital that helped fuel speculation against the dollar abroad.

To make his ultimatum for foreign revaluation even clearer, Nixon also slapped the 10% surtax on imports to the U.S. The draftsmen of the President's program candidly admitted that the tax is a bargaining chip to be used in winning revaluation of strong currencies against the dollar to the full extent the U.S. deems necessary (around 12%). The tax is also designed to obtain some other concessions, including bigger subsidies from U.S. allies for the maintenance of G.I.s in NATO countries and the removal of import quotas and other nontariff barriers that hurt sales of U.S. goods abroad.

Detroit Proving Ground

What does the program mean for U.S. business? There may well be important gains for many firms, especially in the auto industry. The President almost set up Detroit as the proving ground for his plan. The excise-tax cut will undoubtedly boost demand for new cars, and the import surtax (or the currency revaluations that it is designed to bring about) will make U.S. automakers' lowest-priced models competitive with Volkswagen and other big-selling imports for the first time in a decade. In Detroit, Ford President Lee lacocca beamed: "This makes Nixon's trip to China look like child's play."

Ironically, the momentary result of Nixon's announcement was to fire up foreign-car sales. Customers poured into the showrooms of Toyota, Volkswagen and other import dealers, quickly buying models that would soon become relatively more expensive. "People were still shopping at 11 o'clock at night," said suburban St. Louis Datsun Dealer Ed DeBrecht. Dealers of U.S. cars, on the other hand, were left wondering how to get rid of a huge inventory of 1,900,000 '71 model cars. With prices on the '72 models expected to be almost identical (less excise), the soon-to-be-outdated '71s went begging. They will probably be sold at greater-than-usual discounts.

The dilemma was typical of "special" problems created in almost every industry when the President fired his economic stop-action gun. Fuel-oil dealers were fearful that they might have to continue selling at summer discount rates until Nov. 12, when the 90-day emergency period will be over. Lumber-company officials wondered how timber could be sold at auction when bidders presumably could not offer more than the maximum price gaveled down over the past month. Boston landlords complained that new taxes, which became effective before Aug. 15, could not be reflected in their rent payments until three months later.

Automakers face another problem that is increasingly common in U.S. industry: domestic cars contain a variety of parts produced abroad. Ford officials announced that the price of its '72 Pinto, Capri and Pantera models will be hiked to reflect the surtax on such imported parts as engines and transmissions. But on domestically produced cars, the big three rolled back scheduled increases averaging about 5% on their entire '72 line. The lower prices will hit hardest at financially troubled Chrysler (1970 losses: $7,600,000). Generally, Ford and G.M. officials are hoping to make up for the freeze with rapidly increasing volume. Says Ford's lacocca: "1972 cars at 1971 prices will be a helluva buy."

Since one out of every six U.S. jobs is directly or indirectly linked to the auto industry, its triumphs could pass along many benefits. Among the principal recipients will be Pittsburgh's steelmen, Akron's rubber firms and U.S. producers of copper, glass and leather. The investment tax credit will probably benefit the construction-steel and excavation-equipment industries to a lesser degree than the computer and machine-tool industries. Reason: with industrial production running at a sluggish 73% of capacity as a result of the recession, corporate planners will be much more likely to use the tax credit to modernize existing plants than to build new ones. As businessmen start to borrow money to finance these projects, banks and other lending institutions will feel a sharper demand. Many bankers, including those at Chase Manhattan and Bank of America, all but pledged not to raise interest rates during the freeze period, even though the price of money is not regulated in the President's freeze.

Cheese Stockpile

In other businesses, there will be severe shock waves. Several members of the Organization of Petroleum Exporting Countries (OPEC) threatened to raise the price of oil by the amount of the eventual dollar devaluation, which could result in much higher tags on gasoline and fuel oil. The airlines, international hotel companies and travel agents stand to be hurt by the higher costs of traveling abroad, which vacationers are already beginning to bear (see page 13). International air fares will not immediately go up as a consequence of dollar devaluation. The 108-member International Air Transport Association must unanimously approve any changes in the basic fare structure, and the members will not be able to agree on any increases for at least several months.

The surcharge will make Japanese cameras, Swiss watches, Italian shoes, German beer and French wines more expensive. But nobody knows by how much--or how soon. For some imports there is still a few months' supply left--surcharge-exempt--in Stateside stores and warehouses. Even for perishable items like cheese, stockpiles vary immensely: ten days' supply for French Brie, two months' for Swiss Gruyere. Foreign producers are delaying their decisions on price increases until the new value of the dollar is established. In any case, the extra cost to U.S. consumers will rarely be as much as 10%. The surcharge is imposed on wholesale prices, which are seldom more than half of retail prices. Moreover, many importers and foreign manufacturers will be willing to swallow part of the surcharge to keep their products competitive. For example, Manhattan importers of Scotch whisky forecast that shelf prices would go up about 100 per fifth.

Faith in Facts

On the other hand, the tax on imported goods will almost certainly raise the cost of living for many consumers, especially those who can least afford it: the poor, who buy imported clothing and shoes because they are cheap. Says Ralph Nader: "Imports are the only real competition left for many American firms." It is the low-income American, too, who will lose most in the deferral of welfare reforms and revenue sharing. Although many Americans have finally accepted the fact that the nation's "peace dividend" would be far less than once believed, few are likely to feel comfortable with the prospect of a social austerity program, even in times of economic turmoil. Says U.C.L.A.'s Dean Williams: "We should not delay for any reason pushing for basic reforms needed in our system."

There is little chance for any reform without a prosperous U.S. economy. Richard Nixon, a man who instinctively favors the traditional, long believed that the nation would find that prosperity and stability where it normally has in the past: the marketplaces of classic lais sez-faire economics. On the other hand, John Connally, the chief of Nixon's new economic world, puts his faith in facts. Says Connally: "Look, unemployment in California is high and yet it doesn't affect wage rates there." Gradually, pragmatist convinced traditionalist that, in Connally's words, "serious structural problems" had interfered with the marketplace, that huge corporations and unions were able to operate outside it by setting their own prices and wages almost with impunity. Thus in deciding to intervene last week on a massive scale against those structural problems, the President in many ways began the most basic reform of all: a change in the nation's very means of livelihood.

Stimulative Package

Assuming that the majority of Americans follow through on their early enthusiasm for Nixon's new program, the U.S. economy should come out of its 90-day wonderment in better shape than when it started. An increase in consumer buying will likely raise corporate profits. But that rise should not result in any substantial increase in wages, which are not only frozen but are relatively easy to control. Prices, on the other hand, have in the past been slightly more volatile. Still, no major upward march should occur in the freeze period.

Economists have far more serious doubts about the really stimulative parts of Nixon's package, particularly the substitution of business spending for public spending. As Economist Walter Heller notes, businessmen operating at far less than capacity and frequently at low profit are in a much less advantageous position to spend than are the nation's savings-flushed consumers. Moreover, the President may well have trouble persuading Congress to avoid allocating the funds from his budget cuts to other projects--and thus re-extend the danger of high deficit spending. On balance, however, the plan has a good chance of success, if only because, as Economist David Grove says, the President has finally told an apprehensive nation: "Yes, folks, the Government will do something."

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