To help stave off a feared run on the dollar prompted by anxieties abroad about the stability of the Carter administration, the Federal Reserve Board announced an increase yesterday of a half point in the discount rate, to 10 per cent.
It is largely a symbolic step, with little actual effect on money markets.
"But it is like raising the American flag internationally," New York economist Henry Kaufman said,."It is telling them we care."
But more than symbolic was the Fed action to let the federal fund rate -- which in effect determines short-term money market rates -- edge up from 10.5 to about 10 11/16 per cent.
Action on both rates -- the discount and the federal funds -- helps to tighten the economy precisely at the moment that most economy precisely at the moment that most economists agree the nation has entered recession. In other words, the action tends to reinforce recessinary tendencies, instead of countering weakness in the economy. Coincidentally, the Commerce Department announced that the Gross National Product had declined 3.3 percent in the second quarter.
Clearly, the Federal Reserve -- under Chairman G. William Miller, soon to assume the Treasury post in a restructured Carter administration -- had to make a choice between domestic and international priorities. The Fed, worried about the dollar, unanimously took the deflationary step.
The Fed's moves to bost key U.S. interest rates pushed the dollar generally higher on the world's currency exchanges yesterday as the price of gold continued to retreat.
Gold, which Wednesday topped $300 an ounce for the first time in history, fell by 75 cents from Thursday's close in Zurich to $298,375 an ounce. In London, bullion dropped 50 cents to $298.25, while in New York, gold fell 65 cents to $298.75.
The pound closed in London at $2.2725, down from Thursday's four year-high of $2.2030. Later in New York, the pound closed at $2.2840, down from $2.2880 Thursday.
Late dollar rates in Japan and Europe included: Tokyo, 216 Japanese yen, up from 214.925 Thursday; Frankfurt, 1.8180 West German marks, up from 1.8065; Zurch, 1.6430 Swiss francs, up from 1.6328; Paris, 4.2048; French francs, up from 4.2048; Amsterdam, 1.9895 Dutch guilders, up from 1.9825; and Milan 815.95 Italian lire, up from 813.58.
In New York, the dollar closed at 1.8153 West German marks, up from 1.8100 Thursday; 4.2375 French francs, up from 4.2200; 1.6355 Swiss francs, down from 1.6410; and 216.90 Japanese yen, up from 215.60.
Ironically, as some observers pointed out yesterday, the action will tend to make Miller's new assignment -- helping to move the country out of recession -- that much together.
As one top economist put it: "The Fed is telling us it has to concentrate on tightening, rather than loosening, the money strings. The day that they can move the federal funds rate lower has been pushed off a bit farther."
As was the case last November 1, when the dollar crisis was met with a full one point incease in the discount rate, a formal statement by the Federal Reserve stressed the international reasons for the increase.
Coordinated with the Fed announcement was a statement by lame-duck Treasury Secretary W. Michael Blumenthal endorsing the Fed action "on behalf of the president."
Blumenthal went on to say that the pressures on the dollar are "completely at odds" with the dramatic improvement in the U.S. balance of payments now under way.
Blumenthal could not add what is obvious -- that the pressures on the dollar stem from the extraordinary actions of the Carter administration over the past two weeks, which include the firing of four Cabinet officers, himself included.
He went on to say flatly that "the United States will not permit a renewal of depreciation of the dollar," and that resource for intervention, already "massive," could be increased.
"We will not hesitate to use these resources, and enlarge them if necessary, to deal with unjustified pressures on the dollar in exchange markets," Blumenthal said. The Dow Jones News service reported from London that U.S. officials had said privately that dollar-rescue resources might be doubled from $30 to $60 billion.
In most exchange markets, the dollar was stronger yesterday, a combination of many factors. First, there was relief that Blumenthal is to be replaced by the equally conservative G. William Miller. Miller, moreover, is known to have become increasingly attentive to the dollar's international problems in recent weeks.
Next, there was the fact of the Fed actions on the discount and federal funds rates, as well as heavy intervention to support the dollar. Finally, some credited the announcement of the 3.3 percent drop in U.S. economic activity in the second quarter -- this could be the first quarter of the much-heralded recession -- as having a beneficial impact.
Recession in !he U.S. is expected to reduce imports, thus further improve the balance of payments to which Blumenthal alluded. In addition, Assistant Treasury Secretary C. Fred Bergsten said the decline in activity might bring "some relief on the price front."