We are about to go through another round in the symbolic waltz that passes for a strategy to control inflation. Frightened by January's 18.2 percent annual-rate rise in consumer prices and by widespread calls for wage and price controls, the Carter administration plans to hand us about $20 billion in budget cuts -- $4 billion this year, the rest in fiscal 1981.
In a $2 trillion economy the effect will be roughly similar to using a 22-caliber rifle to deflect a charging elephant. The Congressional Budget Office calculated a year and a half ago that $25 billion in budget cuts would shave a mere one-tenth of 1 percent off the inflation rate over a year. The optimists think we might get two-tenths to three-tenths of a point less inflation. Whatever the short-term political value of a budget-cutting binge, it clearly has little to do with our real and urgent inflation problems.
Budget-cutting is merely a continuation of what Arthur Okun has called "muddle-through economics," a strategy based on the assumption that government should not directly deal with the larger forces battering the economy, or at least not on purpose. In other words, the strategy simply means trying to stave off disaster in the hope that your luck will turn.
This crossed-fingers school is not without its virtues. When times are good and economic forces stable, a case of sorts can be made for leaving things pretty much as they are and merely tinkering at the margin. But we are in the midst of massive changes in our economic relationships against which muddle-through is of little help.
The administration's inability to go beyond wishful thinking was reflected early on when the president refused to ask Congress to reauthorize his power to impose standby wage and price controls. For the president to throw away his most important weapon (a weapon even when it is not used) was a remarkable act that he surely will regret. With inflation unlikely to ease much, let alone go away, he probably will be forced to ask for the popularly supported controls at some point. While we wait we can expect a round of price increases by businessmen who want to get in their boosts before the price gates slam down.
But the issues facing us go beyond controls and even beyond the appalling fact that the budget ax is likely to fall most heavily on the weakest members of society. They go to the larger question of whether we will simply continue to hope that "something will turn up" -- or whether we will, on purpose, attack the central causes of inflation. Critics are correct in stating that if controls are clamped on, there would merely be another explosion of prices and wages once they are removed -- unless we simultaneously root out the causes.
Our new inflation, it must be understood, does not stem primarily from generalized pressures. It has been concentrated in a few key sectors for most of the '70s. Virtually all the increase in the inflation rate between 1978 and 1979 was caused by special and by now familiar factors that increased prices of the "basic necessities" -- energy, food, housing and medical costs. The combined rate for these items was 10.8 percent in 1978; last year it skyrocketed to 17.6 percent. By contrast, the inflation rate for consumer items other than these necessities changed only from 6.5 percent to 6.8 percent.
Conventional wisdom has viewed inflation in these key sectors as "temporary aberrations." The prescription is for wage earners to absorb the "shocks" and then the economy will resume its normal path. This is the meaning of Alfred Kahn's repeated argument that although "the desire to keep pace by catch-up increases is certainly understandable . . . unfortunately it is not possible . . ." Federal Reserve Board Chairman Paul Volcker has put the case more bluntly: "The standard of living of the average American has to decline."
Yet the necessities account for 60 to 70 percent of the spending of four out of five families; they take up 90 percent of spending for the lower 20 percent of society and even more for the poor among them (who must go constantly in debt -- or steal -- to pay for groceries and rent). Real spendable earnings of the average worker declined more than 5 percent last year. There may be some modest fat in family budgets, but it is both economically and politically absurd, as well as morally unconscionable, to expect family budgets to absorb all of the 17.6 percent inflation rate increase in basic necessities -- a rate which in 1979 was virtually double the average 8 to 9 percent wage settlement. This, however, has been precisely the premise of most of the administration's strategy.
Specifically, what Kahn and Volcker have in mind is a deflationary policy to force down general demand for goods and services. Here is where their economics become more muddled: The past failures in the "necessities" sectors are now "spilling over" into wage demands, as they inevitably had to. But symbolic budget cuts will not significantly affect demand, nor will they do much about food and fuel prices.
Indeed, the administration hasn't done much generally to ease inflation in the key sectors. Tightening the money supply obviously increases both business costs -- particularly threatening the survival of small businesses -- and monthly home mortgage payments. It also increases long-term inflationary problems in housing by reducing investment. When he presided over the Federal Reserve Board, William Miller had the honesty at one point to acknowledge the substantial irrelevancy of monetary policy to the biggest sectoral problems. Moreover, in energy, as is well known, the administration has deliberately stimulated inflation with its price-decontrol policy.
Only in connection with its weak hospital cost-containment proposals and support for a slight expansion of assistance to health maintenance organizations did it seriously attempt to target a basic-necessity sector. But the approach here has been half-hearted, and, more importantly, the anti-inflation benefits would be counteracted if the administration's plan for catastrophic-only health insurance were implemented.
Unless we focus on the necessities while wage-price controls are in effect, we will squeeze family income even further. This has happened already under the voluntary wage-price program, and it will worsen if key items in the family budget -- fuel oil and food, for example -- are allowed to skyrocket (as has happened in the past during periods of controls) while wages are held down with the force of law. We could see a replay of the Nixon program, properly described by one of the top men in then charge, Arnold Weber, as a mechanism to "zap labor." Wage-price controls by themselves would actually do more than that today: They would crush the average household budget. Unless, that is, we go beyond posturing.
Barry Bosworth, to his credit, has acknowledged that much of the anti-inflation strategy he helped design as director of the Council on Wage and Price Stability was based on the false assumption that we can treat inflation in the necessities as aberrations.
Can anyone believe energy prices will go anywhere but up during the 1980s, especially with the president letting domestic energy prices rise to OPEC-determined levels? The same holds for food: As food analyst Lester Brown notes, the growing gap between world food demand and supply "takes us to the bottom line," promising future price rises "that may dwarf those of the recent past." To what but spiralling health care costs can we look forward as the population ages and as medical science develops new technologies that are not subjected to hard cost-benefit analyses? Similarly, by driving interest rates high enough, we may succeed in making it impossible for young couples to own a home, but how will we prevent the rent increases that will result (people have to live somewhere) from forcing poor people out of theirs?
Controls alone self-evidently do not deal with the fundamentals of health care inflation. We need instead a steady expansion of prepaid health care and health maintenance organizations employing salaried professionals. We also need to devote far more of our national health resources to health education and other public and occupational health measures.
The longer-term inflation in housing requires us to expand the supply to bring it into line with growing demand. Current tight-money strategies aim only at dampening short-term speculation and run contrary to the fundamental problem: We are in the midst of a surge in household formations as the postwar baby boom has become a family boom and as more people (divorcees, the young and the elderly) are living alone. In the 1980s we will need a phased program which steadily allocates more credit and investment to the housing sector.
Recontrol of energy prices (at least in necessities areas) is essential if the energy part of inflation is ever to be controlled. But recontrol makes sense only if coupled with direct measures to achieve energy conservation. These include gasoline rationing, tough auto mileage standards and more meaningful solar, gasohol and insulation and weatherization programs, to say nothing of expanded systems of mass transit and passenger railroads. Direct government-to-government efforts to diversify our oil supply with more non-OPEC countries are also essential.
The obstacles to solving our underlying food inflation problems are more political than economic. We are not in a shortage situation here is in energy. Relative to domestic needs, the United States is the richest agricultural nation in history of the world; we export half of our grain.
But the United States (unlikely virtually every other major industrialized country) does not yet have a serious policy of insulating our domestic food economy from the effects of short-term world shortages. A system of export management, coupled with expanded deficiency payments to farmers, could stabilize domestic grain prices and thereby also reduce fluctuations in meat supplies. International agreements on grain reserves must also be pursued.
In short, for our anti-inflation strategy to be something other than wishful thinking or a repeat of Richard Nixon's election-year controls program, this administration or the next must have a clear plan for how it wants to reshape the key markets generating the bulk of the inflation. This requires more than a simple-minded notion of government intervention; it requires a willingness to plan.
Planning is a dirty word in American politics. Instead we prefer muddling towards a crisis solution like unplanned wage-price controls. It is an all too familiar pattern. Both the massive government interventions to bail out Chrysler and to build an $88 billion synfuels industry were preceded by the muddle-through, symbolic posture of looking the other way and hoping something would turn up.
We may have to go through an economic bloodbath before the lesson is learned: Government intervention is the likely result of the process in any event. The question is whether it is based on serious confrontation with the new problems we actually face.
Once all of this is recognized, we may have a chance of dealing with the central issue facing the economy in the coming decade: the sharp lag in U.S. productivity. From 1967 to 1978, for example, output per manhour in U.S. manufacturing rose only 28 percent, while it climbed 75 percent in West Germany and 113 percent in Japan. Our manufacturing growth was the lowest of 11 industrial nations -- trailing even Great Britain. And last year we suffered an actual decline in productivity.
If we repeat this performance this decade, the effects of compounding guarantee that the very heart of our industrial economy will be threatened while our major competitors race forward.
But no intelligent excecutive can plan for long-term investment in high-productivity equipment unless there is confidence of a growing market. So the uncertainties of our stop/start economy caused by the government's policy responses -- or non-responses -- lead business to shift away from long-term, productivity-improving investments toward short-term speculation.
To some, the answer is always "supplyside economics," especially more tax breaks for business to help increase productivity. But most executives make large investment decisions because of confidence in a future market, not becuase of tax breaks. Congress' General Accounting Office, assessing the effect of investment tax credits in 1978, found they prompted little change in actual investment decisions -- at a cost to federal budget of $19 billion.
While a "supply-side economics" is necessary, it must be carefully targeted to the problem sectors -- and integrated, on purpose, into an overall plan that can offer confidence in resumed growth. We can no longer just cross our fingers that we will avert a major crisis. CAPTION: Illustration 1, no caption, By Tony Auth -- The Philadelphia Inquirer; Copyright (c) 1979, The Philadelphia Inquirer -- The Washington Post Writers Group; Illustration 2, no caption, By Tony Auth -- The Philadelphia Inquirer; Copyright (c) 1979 The Philadelphia Inquirer -- The Washington Writers Group; Graph, Inflation Rate.