ONE can understand White House concern about the latest increase in the prime lending rate by major banks, from 12 percent to 12.5 percent. Economically, the interest-rate climb could affect such consumer-sensitive industries as housing and autos. Politically, rising interest rates and a slowing economy could work against President Reagan's reelection bid.Skip to next paragraph
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But what is less understandable is why the White House and Congress do not seem to be taking the upward movement in interest rates as clear evidence that quick and meaningful action is needed to reduce massive federal budget deficits - since heavy federal borrowing to finance deficits puts upward pressure on interest. Current deficit-reduction plans by both the White House and Congress (in the $144 billion-to-$182 billion range over three years) are mere token efforts at best. The deficit-reduction plans will not make any significant dent in deficits projected in the range of $700 billion to $800 billion between now and 1987.
In that regard, most economists would find it difficult to accept the premise of the Reagan administration that this week's increase in the prime rate is because the Federal Reserve Board has become too restrictive in its money-supply policies. The unusually sharp White House criticism of the Fed is surely designed to help Mr. Reagan in case interest rates continue to go up. The extent to which yesterday's announcement by White House chief economic adviser Martin Feldstein that he will leave the administration July 10 is linked to the current brouhaha about the Fed is not known as of this writing. But it is surely not lost on Washington that Mr. Feldstein did not disapprove of the recent credit-tightening actions taken by the Fed in late March. Mr. Feldstein was expected to leave later this year anyway, to return to his Harvard faculty position. Now, his departure not only removes from the White House a highly respected economist who has often been at odds with the administration over fiscal and monetary policy, but more important, it frees him up to speak out more publicly against the dangers of continuing high deficits.
The hike in the prime rate - the lending rate that banks charge their best customers - was the third increase in less than two months and reflects strong loan demand from both government and private borrowers.
Some economists believe conditions are now in place for continuing increases in interest rates. Conditions include heavy corporate and personal borrowing; an evident, although so far modest, upward trend in inflation, which means that lenders will add an inflation premium to loan rates; the fact that the Fed has already tightened its grip on money supply growth; and the deficits.
In that sense, the latest increase in the prime has not been unexpected, and, in fact, was largely discounted by the Wall Street financial community. First-quarter economic growth was a robust 8.3 percent adjusted for inflation. Growth in the second quarter is also expected to be strong. So some cooling of the economy seems in order at this point to head off a resurgence of inflation and ensure that the recovery proves durable and long lasting.