Hello, Sunshine

By John Greenwald

During the chill days of late winter, the U.S. economy slowed so sharply that some experts feared a new recession might be under way. Summer officially arrived last week, and the 30-month-old recovery seemed in much improved health. The latest economic indicators showed that business activity is finally picking up. A drop in the prime rate gave promise of further growth ahead. Said Charles Schultze, the chief economic adviser to President Carter: "The decline in interest rates will help stimulate the economy. I think it will be successful in keeping us out of a recession."

The Commerce Department reported particularly good news. Its so-called flash estimate of the gross national product indicated that growth would reach an annual rate of 3.1% for the second quarter of 1985. While that remains well below 1984's gain of 6.8%, it is far more robust than the annual increase of 0.3% compiled in the first three months of this year. A major reason for the improvement: consumer spending, which rose 1% in April and another 0.7% in May.

The burst of GNP growth was accompanied by continued low inflation. The May Consumer Price Index climbed just 0.2%, down from April's moderate 0.4% gain. Two months of falling food prices have helped keep living costs in check. A drop in the price of autos also contributed to the May performance.

Perhaps the most encouraging economic development last week was the prime rate's decrease from 10% to 9 1/2%. The move dropped the prime below double digits for the first time since 1978. The decline should give a needed boost to business spending, and may indicate that other borrowing costs will fall. Said Allen Sinai, chief economist for Shearson Lehman Brothers: "What we will see, independent of the prime rate, though in conjunction with it, is a decline in mortgage rates and, from time to time, a decline in consumer borrowing rates."

Lower mortgage interest would be a boon to home buyers and builders. In the past two months, rates on fixed mortgages have fallen from nearly 14% to about 12%. Housing starts, though, have responded erratically. The Commerce Department reported last week that new residential construction fell to an annual rate of 1.66 million units in May, down 14% from the previous month. Economists said the figures reflected in part the desire of consumers to wait for lower rates. Said Timothy Howard, chief economist for the Federal National Mortgage Association: "We should be seeing a fairly healthy rebound in new- home sales and starts."

The prospect of continued growth and the drop in interest rates helped spur a burst of buying on Wall Street. On Friday the Dow Jones industrial average surged 24.42 points. Analysts said that investors were taking large amounts of - cash from expired index options and futures contracts and putting them into stocks. The Dow Jones finished the week at 1324.15.

The economic future rests with the Federal Reserve Board, which has been allowing the money supply to grow rapidly. If credit costs are to fall further, the Fed will have to continue supplying the economy with ample funds. Said Walter Heller, chairman of the Council of Economic Advisers under Presidents Kennedy and Johnson: "The Fed has come to the rescue, and I think they will continue to be on the easy side."

The Federal Reserve has also been playing an important role in helping Third World borrowers repay their loans to U.S. banks. Last week a rare public dispute flared between Fed officials over the question of foreign IOUs. After Vice Chairman Preston Martin held a news conference to call for consideration of new steps to ease the debt crisis, Chairman Paul Volcker angrily rebutted his remarks. In a telephone call from Tokyo to a Federal Reserve spokesman in Washington, Volcker said he found Martin's reported comments "incomprehensible." The spat startled Fed watchers, who could not recall a similar attack by Volcker on another board member.

Such conflicts were the exception last week. As the favorable economic indicators mounted, Washington policymakers were increasingly pleased. Said Commerce Secretary Malcolm Baldrige: "The worst of the slowdown is probably behind us, and we should be back on a higher growth path by summer's end." But because of the bumps at the start of the year, growth for all of 1985 will almost certainly fall short of the Administration's forecast of 3.9%.

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With reporting by Wilmer Ames/New York and Christopher Redman/Washington