Here Comes the Recession

The outlook: modest slowdown, steeper prices, higher stock market

Recession will strike the U.S. economy later this year, but the slowdown will be shallow and brief.

Inflation will continue to oppress the nation, though prices will be rising at a somewhat lower rate at year's end than they are now.

Interest rates will continue to climb for several more months and then begin to decline rather substantially.

Unemployment will start to march up, and by Christmas roughly 1 million more Americans will be out of work.

The U.S. trade deficit will diminish this year, but the dollar will remain weak against the mighty German mark and Swiss franc.

The federal budget deficit will soar much higher than Jimmy Carter's overly optimistic goals for fiscal 1980.

The stock market will remain sluggish for months, but later this year it will rebound.

These are the basic forecasts of TIME'S ten-member Board of Economists, which met for a day in Manhattan last week. Each member acknowledged that predictions are particularly chancy in these mercurial tunes, and that any seemingly logical forecast could be thrown off by a severe oil crisis or some unforeseen event.

Economist Walter Heller of the University of Minnesota noted: "We seem to have an accident-prone inflation." For example, the extra-cold winter has dulled the sex drive of sows. Because they have not produced as many piglets as usual, the price of pork chops is going up. Though the economy is vulnerable to further shocks of climate, biology or politics, the members of TIME'S bipartisan, multi-opinion board displayed a rare unanimity of views about what lies ahead for the nation.

All agreed that an economic downturn is both inevitable and necessary to curb inflation, which is surging to scary levels. The January Consumer Price Index, released last week, rose at an annual rate of 11.4%. Leading the price parade was food, up at an 18.2% rate. Contends David Grove, a former IBM vice president who heads his own economic consulting firm: " To get inflation under control, everyone has to sacrifice. There has to be a willingness by the public to forgo tax relief, tolerate tighter money, and not put tremendous pressure on the Government to step up spending for pet programs." Adds Beryl Sprinkel, executive vice president of Chicago's Harris Bank: "The key question is, what happens when unemployment starts moving up to 7% or 7.5%? Will the Administration have the guts to hang in with a moderate policy that provides some long-term hope that we will get inflation down?"

Signs of economic slowdown are beginning to appear. Indicators as disparate as factory operating rates and farm income slipped a bit in January. Most important, housing starts plunged 20% from December to January, and a further decline was signaled by the fact that building permits dropped 18%. A housing slump could lead the whole economy into decline, because the demand for so many other products--building materials, furniture, rugs, cars--bounces up and down along with sales of houses. Furthermore, millions of American families have socked large sums into their houses, and if they see that the market is softening and housing prices leveling, they will tend to pull back their spending.

TIME'S economists expect precisely that to occur. In fact, they have a kind of script of just how the economy will unfold in 1979:

Economic growth will slow from an annual rate of just over 6% in the last quarter of 1978 to about 3% in this quarter, which ends in March. The brave talk in Washington that the economy will be stronger is mostly public relations puffery. Says Walter Heller, who is well connected with high Administration officials: "Some people in Washington think that this quarter will come in at less than 3%." Adds Democrat Joseph Pechman, director of economic studies at Washington's Brookings Institution: "The cry is, 'Bring on the slowdown, not the recession.' "

Several of the economists worry that the darkest cloud outside Iran is that corporate profits early this year will be very high, as a result of momentum built up in the recent past. Seeing those earnings, labor may well be unwilling to accept moderate wage settlements. Heller expects this year's first-quarter profits after taxes will leap as much as 30%, compared with the same period last year. Even so, the economists are optimistic that the next major labor contract, the one covering the Teamsters and expiring in March, will not grossly exceed the 7% guideline for wage-and-benefit increases. One reason: the Teamsters are fearful of federal prosecution and trucking deregulation.

If the Teamsters' settlement can be kept near 7%, the real turning point on wage settlements will come much later, when the United Auto Workers' contract expires in September. But Robert Nathan, a veteran Washington economic consultant who is close to labor, senses that the autoworkers might be willing to swallow a modest raise.

The recession will hit some time between late spring and Labor Day. About that time, tight money and rising interest rates will cut not only into housing but also into consumer spending, the mainstay of the current expansion. David Grove observes that Americans have been spending at a fast clip, even though the average worker's real earnings, after inflation and taxes, declined fractionally last year. They have done so by borrowing at record rates and dipping into their savings, figuring that they had better buy now because prices will be even higher in the future. But soon they will run out of savings and credit and be frightened by news of recession. As spending slows, production will falter and unemployment will climb, moving from 5.8% last month to about 6.8% by year's end.

The economic slump will be mild. The gross national product, which was rising at an annual rate of 6.4% in last year's fourth quarter, will be declining at about a 2% rate in this year's fourth quarter.

The slowdown will also be brief, lasting six to nine months.

There are many safeguards against a sharper recession. Generous unemployment benefits and the rise of two-income families will keep personal income and spending high even when layoffs hit. The Government has set up many federal mortgage lending institutions that will keep housing from falling through the floor. Besides, businessmen have cautiously avoided the excesses that in the past have led to precipitate tumbles. Inventories in warehouses and on store shelves are lean, although Otto Eckstein, head of Data Resources Inc., notes that the Iranian crisis and fear of an oil crunch have lately moved some businessmen to stock up in fear of more general shortages.

Because U.S. growth will be sluggish this year, imports are expected to decline. Exports should rise because the cheap dollar makes U.S. cars, jets, grain, and other goods bargains in international markets. Those factors should trim the nation's trade deficit from a horrendous $28.5 billion last year to a merely very bad $22 billion this year. But the dollar probably will remain weak for a variety of reasons: a surfeit of $600 billion in greenbacks is sloshing around the world as a result of inflationary excesses; foreign governments are weary of spending their own currency to support the beleaguered buck; and foreign moneymen think that America's leadership is soft and uncertain.

They will have further reason to worry because the economy's decline will kill all chances of reducing the federal budget deficit from $37 billion this year to the $29 billion that Carter projects for the fiscal year beginning in October. The Board of Economists expects the deficit in fiscal 1980 to bulge to $45 billion. In fact, says Alan Greenspan, head of the economic consulting firm of Townsend-Greenspan, "Carter has a better chance of bringing in the budget below $30 billion this fiscal year than next." One reason: tax receipts this year will be up because the economy was much stronger than expected this winter and expenditures will be below expectations.

As the economy drifts down, the present extremely strong hunger for consumer, mortgage and corporate credit will also ease, causing interest rates to fall. The prime rate on loans to big companies should move down from a peak of 12 1/2% this spring to 9 1/2% a year from now. The general lessening of demand should make a dent in inflation. TIME'S economists expect consumer prices, which surged 9% last year, to go up 8.3% this year and 6.8% in 1980. That certainly would not amount to victory over inflation, but at least the trend would be favorable.

When interest rates decline and inflation moderates later this year, the long bearish stock market should rise. The time is not yet at hand, warn TIME'S economists, who recommend putting investment money into high-yielding Treasury bills until the recession bites. Even then, the bulls may not let out a full-throated roar. Warns Pechman: "The fact that we are suggesting that late this year may be a time to buy equities does not mean that equity prices will go through the roof." But, says Beryl Sprinkel, "the cheapest assets in this world today are U.S. stocks."

Foreign investors tend to agree. Europeans, Latin Americans and Asians are eager to invest huge sums in the U.S., which they believe to be the land of political stability and unbounded economic promise. But they are wary and waiting, because they lack faith that pushable Jimmy Carter and the uncontrollable Congress have the will to curb U.S. inflation and energy profligacy. If the forthcoming recession can ease the malaise of rising prices, the slowdown will be worth its penalties. But if the U.S. fails to rein in living costs this time, the sacrifices of a slump will have been in vain.

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