Storm clouds over the USA

Nicholas von Hoffman

For the first time in this recession or any other in the past 25 years you can hear sober-sided people discussing the possibility of a depression. Alan (ireenspan, chairman of the Council of Economic Advisers under Nixon and Ford, is hopping about on the television declaring that such speculation is no longer in the realm of the 'kooky'. He has pronounced the odds of such an occurrence as one in ten, while adding that if an epochal economic collapse is on the way it is already too late to stop it. Such fatalism from men who glory in aggressive initiative.

Without predicting that things are going to get worse, they are already bad enough to make some Americans begin to do some Painful head-scratching. While the unemployment rates in western Texas, Oklahoma and Colorado remain low, California, which hitherto has thought of itself as recession-proof, has been disillu- sioned. The state's jobless rate has reached the national average of just below 9 per Cent, but unemployment distributes itself unevenly: in the great agricultural San Joa- quin valley the rate is 13 per cent. Califor- nia farmers are suffering in the same way as the wheat growers in the high plateau areas of Montana and the Dakotas.

The beef industry has been badly hit but, as with a number of other industries, one must sort out how far the disaster is due to the recession and how far to the many discreet long-term changes working their Way into the economy. Although the price of beef has, after adjustment for inflation, dropped over the past few years, per capita Consumption of this formerly highly regard- ed macho military food has tailed off by 10 or 15 per cent. In addition there have been major changes in the technology and organisation of beef packing which the older, famous names in the industry haven't been able to master.

Deregulation of transportation has as Much to do with the chaos in trucking and airlines as has the decline of business. Firms With no experience in a competitive market In which a company can set its own prices and its own routes have not been able to make the necessary adjustments. Braniff Airlines, which has cut its work force by 40 Per cent and has asked its remaining employees to forego a pay increase, is a case I° Point. When deregulation came and it found it had the freedom to fly whatever routes it wanted, it immediately made a series of idiotic business decisions which bid fair to cost Braniff its life.

But the catastrophes in the air and truck- Ingindustries have also been created by a falling off of business that has left both

with huge overcapacity and has led to fierce price wars. At the minimum this recession is showing that a lot of American corporate management has been taking profits for granted while living off the ac- complishments of former executives. In a tight, competitive age the stupid don't make money and we're finding out there is a lot of incompetence in the boardroorhs.

With 30 per cent of American industrial capacity idle, gigantic companies like RCA have been exposed as debt-ridden, direc- tionless behemoths. Current thinking on Wall Street is that the company has been so mutilated and mismanaged it should be sold, part by part, on the auction block. Exxon and Mobil both saw their profits slip last year as investors questioned their management's extravagantly costly forays outside the oil business.

The United States Steel Corporation's $6.5 billion purchase of the Marathon Oil Company had to be made by borrowing, with annual interest on the loan of about $450 million. This would be all right were it not that US Steel bought Marathon at the top of the market and now oil prices have fallen heavily. If oil prices go low enough, there could be some awful losses.

One of the imponderables in the situation is what the drop in oil prices will bring. It might prove to be a powerful elixir to the airline industry and may be marginally helpful to car manufacturers, but in the short run it may cause the Arab oil- producing states, which had been running big surpluses in their international ac- counts, to cash in their certificates of deposit, thereby drawing large sums of money out of the banking system.

The banks' cousins — called savings and loan associations here — are already in terri- ble trouble. The Thrifts, as they are known in the trade, provided most of the mortgage money which fuelled the home building in- dustry. They were able to do so because for decades the laws and regulations were rigged so that they could offer small savers a larger interest rate than commercial banks, small denomination government bonds or any other depositories where most working peo- ple could put their money. Then a few years ago the stockbrokers invented the Money Fund, a mutual fund that these same people could invest in for $1,000, and which would enable them to take advantage of the high in- terest rates hitherto only available to the rich. Money left the Thrifts in unheard-of amounts — $39 billion last year alone. To compete and attract new depositors the Thrifts were allowed to raise their rates, but this was the road to bankruptcy since the basement vaults of these institutions were stuffed with old, low interest loans. You can't stay in business if you're borrowing money at 12 per cent and being repaid at eight.

So, depending upon who is conducting the audit, anywhere from a quarter to a half of the nation's savings institutions are technically bankrupt. Non-technically they have been going under at the rate of one a week and, unless interest rates take a downward turn in the near future, that rate will grow. The Government, by levelling a tax against the Thrifts' assets, has an in- surance fund of $7 billion to repay depositors of defunct savings and loan associations. But much, much more than $7 billion is in danger of going down the drain; the clamour grows for the Administration to accede to an enormous, budget-busting ap- propriation to save the Thrifts, or else get the interest rates down. Everybody wants the in- terest rates down. A week scarcely passes that a prime minister doesn't pay a call on the White House to exhort the President to do something. Easier said than done.

In theory you lower interest rates by creating more money, on the assumption that the price of money — interest — will act like the price of any other commodity: more oats, fewer pfennigs per bushel; fewer oats, more zlotis per bushel. In practice that's the way it used to work, but no longer. Investors embittered by inflation now demand higher rates when the money supply goes up. A recent study of a typical US Treasury bond (the 103/4 , 2004-9 for anybody from the City who might be reading this) shows that in the past year its behaviour has been exactly contrary to what the theory says it should have been. Every time the Federal Reserve Board an- nounced an increase in the money supply, the bond's price dropped, which is the same as an interest rate rise; every time the Fed announced a decrease in money the bond's price rose, the equivalent of a drop in the rate.

Thus the only way the Government can hope to lower the rates is to do what nobody wants the Government to do, which is to pursue a tight money policy. Another choice has been proposed by the Federal Reserve Board chairman, Paul Volker; he is suggesting the Fed might solve the problem by delaying publication of its money supply figures, a strategy calculated to induce the kind of pailic which drives interest rates ever higher.

Last year at this time all woe was blamed on inflation; this year it's interest rates, but, historically, there is no connection between high or low interest rates and prosperity. Rates were never lower than they were in 1932 and weren't very much higher in the happy days of the mid-Fifties. Businessmen will borrow at 20 per cent if they can see how they can make 23 per cent with the money. They won't borrow at one per cent if they don't see how they can profitably use the loan.

But as the record level of business bank- ruptcies — more than 500 a week — attests, times are hard on the bottom line. Whence cometh profitability? In addition to the unemployed, there is the growing number of partially employed, the elimination of bonuses, the salary cutting, the fear that there is worse to come which turns potential customers into worried savers. The advice here is to stay liquid. If you have a dollar, don't spend it.

Thus far Mr Greenspan is wrong. Many of the things which characterised 1929-33 have not happened ... yet. There is still a lot of money, a lot of banked purchasing power, easily enough to stop this gliding to the nether altitudes. There are plenty of things that can be done to power up the jets, but some strong hand must push the throttles forward — and soon.