Caution on inflation again hurts stocks
Faced with 15-percent government bonds and the prospect of continued high inflation, the stock market fell for the second consecutive week. The Dow Jones industrial average, which was off 16 points the week before, fell another 5.63 points last week. At 863.14, the Dow average has lost about 50 percent of its January and early February gains, which had taken the average to the 900 level. Volume was relatively low on last week's pullback.
According to Monte Gordon, an analyst with the Dreyfus Group, the pullback is no surprise. "The stock market was acting foolishly when it tried to ignore the effects of inflation," he says. He expects that until the Carter administration and the Federal Reserve Board detail plans to stem inflation, stocks will tread water, at best, and that once the action is taken the market should react positively, even if this means interest rates are going higher. He says, however, that "if the actions don't work in two or three months, the market will yield again."
Cutting back spending and raising interest rates are among the actions that Mr. Gordon thinks the administration and the Federal Reserve might take. He notes that Congress is talking about cutting $10 billion to $20 billion off the 1981 budget to reduce inflation pressures. And he thinks the Fed might impose some form of selective credit controls. Initially, it might tighten up on the terms for credit-card borrowing and also on borrowing for housing.
The board's actions continued to have a negative effect on the bond markets last week as interest rates kept rising and bond prices declined. The nation's major banks continued to raise their prime lending rates, the rates they charge their best customers -- from 16 1/2 percent to 16 3/4 percent. Most analysts expect a 17 percent rate by the end of this week.
The impact of these rates was felt by corporate and public borrowers alike. Many companies postponed borrowings or paid record rates to borrow. Still others borrowed from the banks, hoping that short-term loans would tide them over until long-term rates came down.
One of the reasons rates have remained high is the general strength of the economy. Donald Woolley, an economist at Bankers Trust Company, says the main reason for the "surprising refusal of business activity to give any real ground" stems from the continued buying enthusiasm of the consumer. Retail sales so far this year have been stronger than expected. And even though the auto and housing industries remain soft, he says, there are not signs the economy is entering a full-fledged recession.