Will Reagan See Economic Risks? : Strong Dollar’s Effect on Outlook May Be Troubling His Team

President Reagan, more than most people, has a remarkable capacity to ignore bad news when it contradicts what he wants to believe--which, among other things, is that the economy is doing great.

Fortunately, however, the latest batch of economic news--reporting sluggish economic growth, a disastrously large trade deficit and the transition of the United States to a debtor nation for the first time since 1914--shows definite signs of troubling the President’s own men.

As recently as Feb. 2l Reagan said that the government should not be “toying around” with its currency. But Treasury Secretary James A. Baker III told an interviewer the other day that he was concerned about the instability of world currency markets and was willing to consider proposals for collective international action to impose order.

More to the point was Commerce Secretary Malcolm Baldrige’s reaction to his department’s report that the economy is growing at a rate of only 2.1% in the current quarter--less than half the growth rate in the final three months of 1984. Baldrige laid the blame squarely at the door of the strong dollar and its effect on this country’s international trade balance.

“The growth in our domestic demand is being increasingly met by imports,” he said, instead of by goods and services produced in America. The result is to “transfer manufacturing output and jobs to foreign producers.” Robert Ortner, the Commerce Department’s chief economist, commented that imports have become “a drag on our economy . . . . We can’t keep growing if we’re importing all our goods.”

It would be nice if Baldrige, reputed to be a Reagan favorite, could communicate his concern to the Oval Office. Up to now the President has refused to get excited about what the strong dollar is doing to the industrial underpinnings of the American economy. He has absorbed the alarming projections of the federal budget deficit with equal aplomb.

Inflation is under control for the present. Unemployment is still at troublesome levels, but Reagan is more impressed by the tens of thousands of Americans going back to work each month. From where he sits, the strong dollar reflects the faith that foreign businessmen and investors have in the fundamental soundness of the U.S. economy under his leadership.

As he made clear again last week, his top domestic priority is squeezing more cuts in non-military spending out of Congress. Concern over the dangerously high federal budget deficit, and the gap between exports and imports, runs a poor second at best.

Reagan is a politician whose track record demonstrates an ability to change his policies under the pressure of public opinion and political reality. But the American people do not seem disposed to quarrel with his rosy outlook. After all, the average family is doing well in the here and now; people are not inclined to pay much attention to warnings that the roof may fall in tomorrow because of seeming abstractions like huge deficits in the trade balance and the federal budget.

But there really is a dark cloud behind the silver lining. Consumer spending, for example, continues to rise at a healthy pace. So does total employment. Look a little closer, however, and you discover people spending money that they don’t have. Personal income is rising much more slowly than family spending. To make up the difference, consumers are going into debt at near-record levels.

The seemingly healthy increase in overall employment masks the fact that jobs in goods-producing industries are way, way down. More than 80% of all those new jobs that Reagan likes to talk about were in the service industries--things like banking, insurance, advertising and retail stores.

One problem with this is that, on the whole, jobs in service industries pay less than in manufacturing. So overall buying power tends to erode, creating a built-in drag on prosperity. Another problem is that service industries don’t generate nearly enough export revenues to offset the enormous increase in imports. The result: The trade deficit hit an astronomic $101.6 billion in 1984 and will go higher this year.

Estimates vary as to the number of jobs lost because of the huge trade deficit, but it is in the neighborhood of 2 million to 3 million. The inroads made by imports are most pronounced in steel, autos and other old smokestack industries, but the effect is also being felt in advanced industries such as pharmaceuticals, electronics, communications and chemicals, where U.S. producers should be able to hold their own.

Lack of fair access to the Japanese market is part of the problem. But the real culprit is the strong dollar, which in effect imposes a surcharge on American farmers and manufacturers while allowing foreign producers to sell at a discount.

In many industries, Du Pont Chairman Edward G. Jefferson warned recently, “reinvestment in the United States does not make economic sense. Prospects for a continuing strong dollar will discourage U.S. manufacturers from building new plants in this country and encourage U.S. investment abroad. Such investment decisions result in long-term export of jobs and tax revenues.”

Where American companies are buying new equipment, an increasing proportion of such machinery is not bought from our own capital-goods producers but is imported. The best cure is a cheaper dollar. In fact, the dollar has fallen a bit lately. If the downward trend continues (which is far from certain), U.S. producers should become more competitive, provided the decline proceeds in an orderly way.

But if panic selling of the dollar should turn orderly retreat into a destructive rout, inflationary pressures would return with a vengeance, and the Federal Reserve Board would have to jack up interest rates to avoid a disastrous crunch on credit availability. High borrowing costs could bring back economic recession and make it hard to make the payments on the huge foreign debt that we have heedlessly accumulated.

It is difficult to see how the dollar problem can be managed without controlling the federal budget deficit through a rational combination of spending cuts and tax increases. But that isn’t the message that our President wants to hear.