When Inflation Sours

June 15, 1964

Italy in recent years has been Europe’s fastest growing economy. In the ten years ended in 1963 its total statistical output of goods and services more than doubled. But now it has been suddenly plunged into what the Wall Street Journal calls “the worst economic distress to hit any member of the European Common Market since shortly after the Market’s 1958 birth.”

Italy’s apparent economic miracle was at least partly the result of its inflation. This inflation was also the greatest in any European country in the last three years. In those three years prices in Italy increased 14.7 percent, wages 23.8 percent, and the money supply 57.7 percent. But Italy’s imports have soared. It suffered a balance-of-payments deficit last year of more than $1 billion, draining its reserves of dollars and other foreign exchange. The Italian Government has been forced to tighten credit. Unemployment has reappeared. Stock prices on the Milan exchange have fallen to the lowest level in four years.

Italy is merely the latest illustration of the truth of the warning issued recently by Robert Marjolin, vice president of the Common Market’s Commission: “Sooner or later, continuing inflation will lead to a halt in expansion or even to a recession, touched off by automatic factors . . . and also by government action. This action will have to be more drastic the longer it is deferred.”

THE EUROPEAN RECORD

Yet inflation in other European countries, in France, Belgium, Holland, Germany, Switzerland (discussed in this column of May 18), has been only slightly less in extent than that in Italy. Both wages and prices have been rising faster in Europe than here. According to the figures of the International Monetary Fund, wages in the U.S. and Britain rose only 3.5 percent last year, but in Germany 7, in Belgium 7.6, in Holland 7.8, in France 8.8, and in Italy 10.2 percent. Similarly, consumer prices in the U.S. rose only 1.2 percent last year, but in Belgium 1.9, in Britain and Germany 2.8, in Switzerland 3.7, in Holland 3.8, in France 5, and in Italy 7.3 percent.

As a result of this situation, there has been a shift in the balance of payments. Our situation has improved. In the first five months of the present year the deficit in the U.S. balance of payments shrank to a seasonally adjusted annual rate of about $1.5 billion, compared with $3.3 billion in the calendar year 1963 and $3.9 billion in 1960.

THE U.S. RECORD

Yet this should not be a reason for American complacency. We are still running a deficit in our balance of payments, not a surplus. And though the rate at which this deficit is piling up has slowed down, we should not forget that this deficit is cumulative. In the six years from the end of 1957 to the end of 1963 it has amounted to $19 billion. Foreigners now hold $25.9 billion of our short-term liabilities, and our gold stock is down to $15.7 billion.

We cannot count on being bailed out by European inflation. We too are still inflating. Since the end of 1962 we have increased our money supply by 5 percent, and, including time deposits, by 10 percent. In April our consumer price index went to the highest level on record.

Yet our government officials, instead of trying to halt our inflation, criticize European countries for trying to halt theirs. Secretary Dillon told a Vienna conference that raising interest rates to discourage an inflationary expansion of credit was not an “appropriate” way to fight inflation. Is that because higher interest rates abroad cause capital to flow out of the U.S.? Instead of allowing higher compensatory interest rates here, our Treasury prefers to hold interest rates down and to tax American investments abroad. Yet while it discourages sound private foreign investment, our government contributes most of a $1 billion credit to prop up the inflated Italian lira.

In a recent survey the National Industrial Conference Board found that in 39 countries living costs have risen in the last five years in every country but El Salvador. Today inflation is considered the great economic panacea. But what happens when, as in present-day Italy, an inflationary boom begins to turn sour?