Summer Slump

By John S. DeMott

Last winter the U.S. dollar was rising powerfully, setting records against the French franc, the West German mark and the Italian lira. During the long, hot summer, though, the dollar has sweltered and gone limp. Main reason: fears that the U.S. economy may be stagnating. Since late February, the dollar's value has dropped 25% against the British pound, 10% against the Japanese yen and 14% against the lira. Last week the greenback lost ground in four of five trading sessions, closing Friday at its lowest level in more than a year against the German mark and the French franc.

What touched off last week's weakness was a new forecast issued the previous Friday by Salomon Brothers' Henry Kaufman, one of Wall Street's most respected prognosticators. He said that U.S. interest rates, which have been falling for five months, could continue to ease because of sluggishness in the economy. The prospect of lower interest rates drives down the value of the American currency because it makes foreigners less eager to convert their money into dollars for investment in the U.S.

Several Government reports issued last week gave added credence to the Kaufman view that interest rates would stay down. The new statistics suggested that the U.S. economy is about as energetic as a beached jellyfish and has not yet started the second-half rebound that the Reagan Administration has been predicting. The Federal Reserve Board revealed that industrial production rose only .2% in July, putting it just 1.4% above its level of a year ago. The Commerce Department said that the combined total of business sales at the retail, wholesale and manufacturing levels was down 2.1% in June. It was the second-largest one-month decrease ever, exceeded only by a 2.8% slump in March. Homebuilding, meanwhile, was off 2.4% in July. That drop was somewhat mysterious because economists had expected that recent declines in mortgage rates would give a boost to housing.

A preliminary report on retail sales for July showed them rising by an anemic .4%, indicating Americans are buying at a slower pace than in the spring, when sales were already lackluster. Administration planners had been counting on a consumer-spending spree to lead the economy to a 5% growth rate in the second half of the year.

In addition to the sluggish economy, an important factor in the dollar's weakness may be fears that President Reagan, because of his recent brush with cancer, will not be able to serve out his full term. Says Alfred Roth, the chief currency trader at New York City's Chemical Bank: "So much of this market is not just economics. It's pure psychology, and Reagan's health has done a lot to hurt the dollar." Agrees Pierre Rinfret, a New York-based economic consultant: "Confidence in President Reagan's leadership made the dollar a strong, upbeat currency for roughly three years. New uncertainties about the President's health will erode confidence and weaken the Reagan dollar over time."

A steep decline in the dollar poses serious risks for the U.S. It could fan inflation by making imports more expensive. That might force the Federal Reserve Board to raise interest rates to defend against rising prices. But a continued gradual fall in the dollar could be highly beneficial. It would make American products cheaper overseas and thus help the U.S. trim its gargantuan trade deficit, which may hit $150 billion this year. So while consumers may grumble that the prices of Toyota cars and European vacations are going up, American manufacturers are rooting for the dollar to keep drooping. --By John S. DeMott. Reported by Christopher Redman/Washington and Frederick Ungeheuer/New York

With reporting by Reported by Christopher Redman/Washington, Frederick Ungeheuer/New York