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What economist Kaufman is saying now

By DAVID R. FRANCIS / October 17, 1983



Washington

When Henry Kaufman speaks, Wall Street does listen - and acts. That is sometimes awkward for the chief economist of Phibro-Salomon Inc. ''If you are in this business (of forecasting interest rates), you should never think about what market impact you have,'' he said in a recent interview. ''You couldn't function analytically.''

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Some investors think Mr. Kaufman wasn't functioning too well anyway last year when he stuck much too long to his Jan. 5 forecast that interest rates would spurt to near-record highs in the second half of that year. They plunged instead. When Kaufman changed his mind in August, the stock market took off in the biggest rally ever.

''I never expected the enormous impact it had,'' Mr. Kaufman recalls.

It wasn't always that way. When he joined Salomon Brothers in the early 1960s as a junior economist, one of his first chores was to proofread a book on the history of interest rates by his boss, Sidney Homer. Mr. Homer insisted he read it aloud - all 500 or so pages, including long tables of rates - to a secretary, figuring more mistakes would be caught that way. The young economist did so, also learning much about financial events in the process.

Kaufman acquired his high reputation during the late '70s for his persistent and accurate warnings of higher interest rates. But his 1982 interest-rate miss prompted some bad press, including a critical article in Barron's, a weekly financial newspaper.

The financial forecaster excuses somewhat his delay in reversing his forecast by saying that he had been in the process of changing his mind for six weeks, then went on vacation for 10 days, during which he decided to go bullish on bonds. But then he got tied up in some management meetings for several days before actually issuing a news release. Long-term interest rates, which peaked at 15 percent, had slipped to 13 percent by then. Some customers lost heavily as a result.

Nonetheless, Mr. Kaufman retains considerable clout on Wall Street. Here's his latest forecast:

''Interest rates will go irregularly higher over the next year or so,'' he says. For instance, long-term government bonds, now yielding around 11.5 percent , should rise to 12 to 13 percent a year from now, he estimates. The movement up will not be in a straight line, however, with intervening periods of ''remission.''

Short-term rates, such as the federal funds rate, will rise from around 9 to 9.5 percent now to 10 or 11 percent within the next year.

''Economic growth,'' he says, ''will continue to assert itself.'' Gross national product (the output of goods and services) in 1984 will average 4 or 5 percent over 1983.

The next phase of the recovery, he continues, will be fueled by the business side as companies build up inventory and step up spending on plant and equipment. Consumption spending will remain at ''a good pace.''

Housing will not collapse, even though mortgage interest rates should go up 1 to 1.5 percent from their current levels. Kaufman explains that there are plenty of funds available for mortgages. But because of the higher rates, he suspects that more house buyers will choose variable-rate mortgages next year. This year, some 65 to 70 percent of new mortgages have been made with fixed interest charges.

Industry capacity utilization will move from the current 76 percent into the low 80 percent area next year, he reckons. And unemployment will drop to about 8 .5 percent or a little lower. Consumer prices will increase at a 6 to 6.5 percent annual rate sometime next year.

Turning to the financial markets, Kaufman predicts ''some lift'' in external financing by corporations next year. ''Profits, though large, will not be adequate to meet corporate needs.'' This year business credit demands have been modest. Many companies were able to meet some of their needs by selling stock - some $4 billion a month this year on average, twice as much as 1982.

Mr. Kaufman figures that a modest decline in the value of the US dollar next year will slow the flow of investment money from abroad, making it ''more cumbersome'' to finance a federal deficit that could run $165 billion to $175 billion in the new year, down a little from the $195-200 billion of this year. He terms that deficit reduction ''inadequate.''

He expects the Federal Reserve System, as the economic expansion proceeds and inflation steps up, to ''tilt somewhat'' toward enforcing a monetarist approach to monetary policy - that is, paying more attention to meeting its targets for growth in the money supply rather than to interest rates.

With his current relatively optimistic forecasts, Mr. Kaufman may lose the nickname he got in the late 1970s of ''Dr. Doom.'' He will undoubtedly be glad of that.