An early slowdown in the top rate of inflation is as certain as anything can be these days, and the program announced by the president last week may even promote the abatement a little -- but at the cost of a recession, which can be set right only by a new bout of inflation at a higher level later on.
For the new program does not deal with the inner mechanism of ongoing inflation -- the wage-price spiral. Nor does it afford long-term relief from oil price hikes, which constitute the main external source of inflation.
A distinction between the price indexes and the core rate of inflation is necessary to understand all this. The price indexes have recently been running at averages of 18 to 20 percent annually. The chief reason lies in very big increases of a one-shot kind (especially in oil prices, which doubled in 1979).
Those one-shot increases -- in housing and food as well as oil -- are so huge that in the very nature of things they are not going to be repeated. For that reason alone, the increase in the galloping rate of growth in the price indexes is bound to slow down later this year, perhaps to 12 or 13 percent annually.
The president's program increases the likelihood of that decline by limiting the total demand for goods and services in two ways. First, the availability of credit is to be sharply diminished. Second, government spending is to be cut. As credit tightens and government spending drops, pockets of unemployment develop. Eventually, businessmen are obliged to lower prices in order to sell their wares.
The impact on inflation of a decline in total demand, however, works very slowly. So the president's program is apt to yield a steep recession, with high unemployment, before it makes an important dent on inflation.
In order to cure the recession, and put people back to work again, credit will have to be eased and government spending resumed. At that point, the core rate of inflation comes into play.
The core rate expresses the basic, ongoing momentum of inflation. It is the amount by which businessmen have to raise prices in order to keep up with constantly rising costs -- the amount, in other words, by which prices rise independently of one-shot happenings. Because of the importance of labor to fixed costs, the core rate tends to come very close to the annual rate of wage increases. It now stands at 9 percent per annum.
Wage increases running from 7.5 to 9.5 percent are accepted by the new Carter program as the normal guideline for the coming year. So the program does nothing to lower the core rate. On the contrary, it sustains and validates the 9 percent figure.
Accordingly, when the recession hits home, and economic stimulus is required, the base will be the present 9 percent core rate. The stimulus -- if the past is any guide -- will certainly push the core rate even higher. The prospect is that the recovery from the recession will drive the core rate of inflation to well over 10 percent in the next year or two.
Moreover, the United States is not apt to win long-term relief from price hikes by the oil exporters. The Saudis and others may show price moderation now when there is a mini-glut on the market. But the president has decreed an import fee of $4.60 per barrel. That means he thinks Americans can afford to pay nearly $5 more per barrel of oil than we are paying now. It will be very surprising if the price hawks among the oil-exporting countries -- Libya and Iran, for example -- do not seize that sum for themselves by declaring an increase of around $5 per barrel.
Much of that could have been avoided or minimized. Had the president declared an emergency and applied a price freeze for, say, six months, he would have been in position when lifting the freeze to set as an annual guideline for wage increases something around 5 percent. He thus would have worked to lower the core rate and unwind inflation.
Under cover of the emergency, he also could have cut a deal with the leading oil-producing countries. In return for steady prices and steady supplies, the United States and its friends would have vouchsafed to the Saudis and their friends an indemnification against inflation, support in defense and an easing of the subversive pressures set up by Israeli intransigence toward the Palestinians.
The missed opportunity, in other words, is for a big comprehensive program that would have reduced both the core inflation rate and the main external source of higher prices. Another chance for such a program is not apt to come along. For the early easing of the top inflation rates will diminish the prime requisite for dealing effectively with the problem -- a sense of emergency.