Prices Take a Big Tumble

By Christopher Byron

The Administration's long battle to bring down the cost of living is paying off

Since 1965, prices in the U.S. economy have been heading one way. Sometimes rapidly, sometimes slowly, they went relentlessly upward. Yet last week the Labor Department reported that the economy's 17-year inflationary spiral had, for one month at least, finally been broken. During March, inflation as measured by the Consumer Price Index actually went down instead of up. This turned a trend of what economists call disinflation, or slowing price rises, into outright deflation, or falling prices.

The March figure, which showed prices declining at an annual rate of 3.3%, was the first such drop since August 1965, and the sharpest rate of decline since 1953. Skidding gasoline prices, which little more than a year ago were marching briskly upward, led the decline. They dropped 4%, one of the steepest slips ever recorded for a one-month period. As of last week, a gallon of gasoline was selling, on average, for $1.18, the lowest level since January 1980.

Other consumer items also showed healthy, though less dramatic, declines in price. After rising at a yearly pace of 7.4% in February, the cost of food and beverages dropped in March at an annual rate of 3.7%. That is bad news for cash-squeezed farmers but welcome relief for consumers battered by years of high prices at the check-out counter. Housing costs showed an equally pronounced slide, slipping at an annual rate of 3.7%, after having risen at a yearly pace of 4.9% the previous month.

While consumer prices are unlikely to continue dropping indefinitely, the March decline was not simply some statistical aberration. It came after nearly half a year of steadily sliding inflation. Instead of the vicious cycle of ever higher costs, the economy has now entered a virtuous cycle of declining inflation. Says Data Resources Chairman Otto Eckstein: "We still have not seen the full impact of declining mortgage rates turn up in the CPI figures. Consequently, I expect to see at least one or two more months of deflation this year."

In February 1981, the Reagan Administration unofficially forecast that inflation would drop to 5.7% during 1982. At the time, the projection was dismissed as outrageously optimistic. Yet that figure now seems, if anything, pessimistic. The Data Resources Inc. economic consulting firm projects that inflation this year will be no more than 3.9%, and the experts say that it could wind up still lower.

Murray Weidenbaum, the chairman of the President's Council of Economic Advisers, is more cautious. Last week he predicted a 6% inflation rate for the year as a whole. He added that the price news was "excellent" but warned that it was too early "to declare victory in this war."

Nonetheless, the Reagan Administration was happy to claim credit for the good news on inflation, which was the most concrete sign yet that the President was achieving his No. 1 economic goal of reining in runaway prices. Said Treasury Secretary Donald Regan: "We've turned the corner on inflation. It's further proof that the stage is set for economic recovery."

After weeks of mainly bad reports as the recession grew worse, the March inflation figures proved that the country's current economic travails are yielding some unappreciated benefits. The success of the anti-inflation portion of Reaganomics appears to leave only high interest rates blocking a substantial recovery. That will doubtless increase the White House's resolve to stick with its current policy.

It was almost two years ago to the month that the worst peacetime inflation in American history reached its peak. During the first three months of 1980, consumer prices rose at an annual rate of 17.3%. Many serious economists were concerned at the time that the U.S. might be on the brink of hyperinflation, the politically and socially dangerous phenomenon that occurs when money loses its value and consumers rush to buy before their cash is worth less.

Societies from ancient Rome to Weimar Germany have suffered the consequences of such runaway prices. That kind of inflation usually tears apart the very fabric of a nation. When its currency no longer has any meaning, a country often loses its sense of values. Saving and planning for the future seem foolish; speculators prosper. Says Henry Wallich, a governor of the Federal Reserve: "Inflation is like a country where nobody speaks the truth."

Runaway prices have dogged and bedeviled every President since Lyndon Johnson, who helped unleash the price spiral in 1965 by financing the Viet Nam War almost entirely out of federal deficit spending, without raising taxes. Richard Nixon's clumsy efforts to stop inflation by a 90-day wage and price freeze, and later by various "phases" of economic restraint and stimulus, merely made the problem worse. Gerald Ford's jawboning efforts, epitomized by WIN (Whip Inflation Now) buttons, gave the impression that Washington had few ideas on how to cope with price increases. Under Jimmy Carter, inflation reached towering new heights. From an annual rate of slightly less than 5% in 1976 just before Carter took office, consumer prices rose by nearly 7% in 1977, 9% in 1978 and a stunning 13.3% in 1979.

The decline in inflation during the past year is due to a combination of better policy and better luck. Since Reagan took office, his Administration has sent unmistakable signals to Congress and the American public that the fight against inflation was its No. 1 priority. In addition, the Federal Reserve has maintained a reasonably firm, although often unpopular, control over the growth of money. That has kept interest rates high but helped bring down inflation. Finally, Reagan has enjoyed a little luck of the Irish, as world commodity prices, especially oil prices, dropped sharply.

The Administration deserves credit for policies that have given Americans their first real confidence in more than a decade that inflation is being seriously attacked. The President's tough stand on wages, for example, evidenced by his firing last August of 15,000 professional air traffic controllers for their illegal strike action in a wage dispute, has already helped stiffen the resolve of employers in contract talks. Wages and benefits account for some two-thirds of all U.S. business costs, and the emerging pattern of wage restraint in key industries, such as autos, trucking and airlines, strongly suggests that the slowdown in inflation is now beginning to chip away at the so-called core, or underlying, rate of price increase.

Another Reagan policy that has paid off in lower inflation is the President's decision last January to scrap remaining controls on crude oil and refined-petroleum products. That helped to increase the glut in world oil markets, which caused the drop in world petroleum prices.

The Federal Reserve's tough policy of keeping the growth of money at 2.3% in the past year, compared with 6.6% during the last year of the Carter Administration, has also been an important factor in the success in fighting inflation. Although the Administration has frequently indicated its unhappiness with the erratic growth and contraction of the money supply, the Federal Reserve has persisted in its efforts to slow the growth of money and bring down inflation.

A fortunate set of circumstances on world commodity markets has also been important in combating inflation. Oil prices, which had jumped from about $2 per bbl. in 1972 to a high of more than $40 per bbl. in 1980, have been declining dramatically. Since petroleum is the basic raw material for scores of products, such as gasoline, fertilizers and many chemicals, a drop in its price is felt throughout the whole economy. The falling prices of raw materials, including tin and copper, and farm products have also been slowing the rate of inflation.

There is no doubt that the current recession has been a major factor in controlling runaway prices. With unemployment at the postwar record high of 9%, and interest rates hovering in the middle teens, people have simply been spending less. This has forced everyone from producers to wholesalers to retailers to slash prices in order to sell their products.

Slowing inflation, of course, will force some consumers to make unexpected adjustments. Despite often loud complaints about the effects of surging prices on family finances, creeping inflation has been a silent, and often unrecognized, subsidy that has enabled young families to finance homes, cars and other big-ticket purchases on credit.

In addition, the more than 9 million wage earners covered by contracts containing cost of living adjustment clauses will also feel a transitional pinch. COLAS automatically adjust earnings to help offset inflation, and many people have become accustomed to counting on those illusionary increases in their incomes.

Reductions in the size of automatic cost of living adjustments will surprise many of the 36 million recipients of Social Security benefits. Every July, the Government readjusts monthly payments to.take into account cost of living increases. Last July the payments were boosted by 11.2%, but this year they will be up only 7.4%. Declining inflation now means that the Government will pay out an estimated $1 billion less during the 1983 fiscal year that begins in October than had previously been anticipated.

Ironically, the Reagan Administration's good news on inflation will make it even more difficult to keep the budget deficits down. Reason: with inflation rising, both wages and prices go up, and the Federal Government's tax receipts climb sharply. Conversely, when inflation goes down, tax receipts grow less rapidly and the deficit temporarily widens. The budget shortfall for the 1983 fiscal year is already projected by the Congressional Budget Office to reach perhaps $153 billion, rising to as much as $188 billion in fiscal 1984.

Those deficits are the most serious dangers for the new outlook on inflation. Without some progress in bringing the deficits down, the economy is likely to remain in recession or return to inflation once economic growth picks up. Unless there is that essential budget control, the single most impressive accomplishment to date of the Reagan presidency--keeping inflation on the run--could be lost. The Reagan program against high prices is succeeding, but it will take still more action on the budget deficit to remove the disease of inflation permanently from the American economy.

--By Christopher Byron. Reported by Bernard Baumohl/New York and David Beckwith/Washington

With reporting by Bernard Baurnohl, David Beckwith

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