Eighteen percent inflation, a runaway federal budget, financial markets battered in consequence, and no relief in sight: concern about America's economy has reached the boiling point.
The talk, as it often does when fears heat up, has turned to controls, and the object of these controls is that unruly fueler of inflation, the consumer.
One respected economist put it this way:
"At the focal point [of inflation] has been the atypical behavior of the American consumer. As inflation rose . . . the consumer, instead of maintaining his savings rate and lowering his spending, did just the opposite. He maintained his spending and lowered his savings rate . . . Moreover . . . the consumer has been steadily substituting borrowing as a means of wealth-building and maintaining living standards."
It would be hard to improve on this analysis.
What is surprising is that the behavior of the American consumer should be regarded as "atypical." After all, the federal government controls the amount customers may earn on their savings. The savings account, traditional saving tool of small savers, can't pay even a third the current rate of inflation. The savings certificates more well-to-do savers use pay considerably less than the rate of inflation. And if limiting those earings weren't enough, the government also taxes them. So a typical consumer might be earning aroung 3 1/2 percent after-tax from a savings account, or 9 percent after-tax from a "high-interest" savings certificate.
At the same time, price controls in the form of state usury laws limit the amount that consumers pay to borrow. And the government lets borrowers write the interest off their income tax. So a typical consumer might be paying, after-tax, 9 percent for a mortgage or 12 percent for a personal loan. With inflation at 18 percent and the prime rate over 16, these controls subsidize borrowing.
People are pretty smart. They had no trouble figuring out that if they earn 3 percent on their savings when inflation is in double digits, then the system is stealing them blind. They also preceive that if they borrow at 9 or 12 percent when inflation is 18, then they're beating the system.
Under these pressures, consumers show unimpeachable logic and common sense by saving less and borrowing more. That experts find this behavior to be "atypical" is astonishing.
What is even more astonishing is that the government, having made this the only logical course for a sensible consumer, now denounces this inevitable behavior as a major contributor to the inflation that threatens the nation. And how does the government propose to compel this reckless villian, the consumer, to behave differently? By more controls, of course.
The cruel fact is that it won't work. It never has. The vision of controls is the old story of hope over experience.
If controls make money available for housing but not "luxuries," the person who wants luxuries will mortgage the house to finance the luxury. When controls make credit for "good" purposes cheap and credit for "bad" purposes expensive, first thing you know it's almost impossible to find any of that cheap money for those "good" purposes -- while, to the consternation of the controllers, we're wallowing in expensive money for "bad" purposes.
Putting faith in credit controls is like saying: get a firm grip on the quicksilver. A more logical approach might be to ease inflation by removing controls that contribute to it.
A tornado is fueled by warm, moist air. You can stop it either by trying to put a box around the whole tornado or by removing the moisture from the air that's fueling it. Since disincentives to save and incentives to borrow have fueled a nationwide whirlwind of inflation, why try to box in the whirlwind with additional controls? Why not remove the fuel?
Why not give consumers a real incentive to save by letting them earn whatever the market is willing to pay for their savings?
Why not make people think twice about whether they need to borrow by making them pay whatever the market demands as a price?
The federal government should strike two powerful, concurrent and immediate blows against inflation by 1) preempting all state usury ceilings and 2) eliminating Federal Reserve Board Regulation q, which limits interest on bank deposits.
These methods work. When the federal government preempted state mortgage ceilings, funds flooded into areas where people hadn't been able to get mortgages for years -- and at rates that were snapped up. When money market mutual funds offered consumers market rates of interest for their savings, funds flooded into this new investment instrument. We've seen these methods work.
Controls don't work. They've also been tried, and we've seen them fail.
The need is clear. It isn't simple, and it will require a lot of adjustments. But we must have the courage to do what is necessary, and theimagination and determination to find the ways to adjust and solve the problems involved.