Kaufman spoke and market went full steam for cover

Henry Kaufman, a general partner at Salomon Brothers, lowered the boom on the stock market. Mr. Kaufman, "the rear admiral of the economy," ran up the storm warnings for the nations's economy and Wall Street investors ran for safer harbors.

He told a banking investment conference in Los Angeles last week that the government "should declare a national emergency" to deal with inflation. He said further: "We are in a quagmire from which it will be hard to extricate ourselves without substantial risks and pain. . . . The path to sustainable economic growth seems lost to us. Inflation is roaring ahead."

Such strong words left investors with little stomach for stocks, and the Dow Jones industrial average dropped 16.25 points, closing at 868.77. On Thursday, the day, of Mr. Kaufman's speech, the Dow dropped 18.34 points. Volume during the slide remained heavy.

Reinforcing his words was a government report Friday that the consumer price index rose in January at a compounded annual rate of 18.2 per cent -- the highest in the nation's history.

The inflation woes placed pressure on the Federal Reserve Board to tighten interest rates. The Fed reacted as expected, pushing rates higher. Thus, at the end of the week, most major banks raised their prime interest rates. Citibank moved to 16 1/4 percent and Morgan Guaranty Trust jumped to 16 1/2 percent, both up from 15 3/4 percent.

At the same time, the long-term bond markets continued their prolonged slide. Longterm high-grade corporate bonds are now yielding over 13 percent.

William E. Gibson of Smith Barney, Harris Upham & Co. noted that the bond markets suffered through a "panic." With the Federal Reserve Board raising the discount rate -- the the rate it lends money to member banks -- by a full percentage point, the bond markets plummeted. At one point, Mr. Gibson noted, the overnight rate for funds rose to 20 percent. He says that now the markets have concluded that 13-percent returns on long-term bonds "cannot be perceived as bargains." He expects instead that bond levels will continue to slip and that interest rates will rise.

The bond market's collapse will cause problems in the immediate future of those companies that intended to obtain long-term financing on that market, Larry Wachtel, an analyst with Bache Halsey Stuart Shields, Inc., says. Instead , he figures, they will be forced to borrow short-term funds from the large banks -- keeping pressure on the Federal Reserve Board. For the small-business person who must borrow funds at rates above the prime -- in some cases at 20 percent or more -- the fifficulties of staying in business are growing. Already some analysts are predicting the possibility of a prime rate at 20 percent by midyear and a real credit squeeze as well.

One optimist in the group is Lawrence Kudlow, chief economist at Bear, Stearns. He says he believes that the bond markets have "overreacted" and that the atmosphere of pessimism pervading them is unwarranted. He maintains that inflationary expectations will follow suit, and concludes, "We recall past periods when, as quickly as one mood came upon the market, changing events and new data reversed expectations almost overnight."

One reason for the prevalent pessimistic mood on Wall Street is the economy's continued strength. One indication of this was the government's report on Friday that durable-goods orders rose 4.2 percent in January. Likewise, retail sales remained relatively strong last month -- indicating that the consumer continues to spend. Thus, as Christopher S. Rupkey, an economic analyst at Paine, Webber, Jackson & Curtis, comments, "We've come to look recession in the eye this closely before, during 1966-67, and yet backed away from the edge." He concludes that as long as the economy remains so strong, "investors are now realizing that they've just been heated for dinner, and the just desserts of lower interest rates are still some quarters away."

Despite the market's downward move last week, the oil stocks were stellar performers. Mobil Corporation, one of the fastest-soaring of the group, reported that it had found some "areas of interest" in drilling records from its second Hibernia well off Canada. At the same time, a wildcat well 20 miles away also came up with signs of oil. The result was a burst of buying enthusiasm on Wall Street for the companies involved, including Gulf Oil. Gulf Oil of Canada, Standard Oil of California, and Columbia Gas.

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