Slow Down Now to Halt Inflation : Economy: Without a tightening of monetary policy, a hard-won victory of the early 1980s will be sacrificed.

Is the Fed losing its battle against inflation? Consumer prices jumped at an annual rate of 8.4% during the first quarter of this year, ending the quarter 5.2% higher than a year earlier. Both figures show a worrisome rise from the roughly 4.5% inflation rate that the United States has experienced since 1987.

We believe that the Federal Reserve’s Open Market Committee should agree at its meeting next Tuesday to raise interest rates and slow the pace of the economy.

Without such a tightening of monetary policy, there is a serious danger that the hard-won victory over inflation, gained in the early 1980s, will be sacrificed.

For the past two years, Alan Greenspan and his colleagues at the Federal Reserve Board have been trying to achieve the difficult but appropriate goal of reducing inflation without causing a recession. Recently, however, the Fed has not been carrying out that strategy with enough attention to the danger of rising inflation.

It is by controlling the growth of money supply that the Fed influences the growth of total spending--and thus, ultimately, inflation. In recent months the Fed has been allowing the total supply of money in the economy to grow too quickly.

Immediately after the October, 1987, stock market crash, the Fed substantially increased the money supply to reduce the risk of recession. But by the spring of 1988, when it was becoming clear that such a recession was not developing, the Fed moved to withdraw the excess money growth of the previous months and to set the annual rate at about 5% for the next two years.

For the past nine months, however, the money supply has grown substantially faster--at an annual rate of more than 7%. This would be the right policy if the demand for money per dollar of total spending were increasing. Indeed, the Fed might well have expected such an increased demand for money because of the fall in interest rates last year. But the opposite has occurred. For the first quarter of the year, the growth of total spending has been outpacing the rise in money. If that continues, the only way to bring total spending down to a pace that stops the inflation rate from rising is to substantially reduce the money growth rate.

There are two reasons why the Fed may have been reluctant to apply the brakes. First, it is arguable that the Fed’s policy of slowing the economy in 1988 and ’89 is just about to pay off with lower inflation. The case for that conclusion rests on well-known lags in economic behavior. Experience suggests that prices do not respond immediately to changes in overall economic activity. When total spending slows down, inflation persists--then eventually responds to slack in the economy. The growth rate of total spending has declined from 8.5% in 1987 to 7.5% in 1988 and 6.4% in 1989. Progress on inflation could soon show up.

That argument might be convincing if total spending were continuing to decline and inflation was just sticking at it previous level. But recently, total spending and inflation have both shot up sharply. It is hard to believe that inflation will drop below last year’s level without some shift in policy.

The second reason that the Fed may have hesitated is the fear that changes in credit availability may already be slowing the economy. Because of problems in the savings and loan industry, banking regulators have been taking a harsh look at business loans throughout the banking industry. Banks are already cutting back on their willingness to issue business and construction loans. In this environment, a slowdown could occur even without tightening by the Fed. But a new survey by the Fed itself indicates that such credit restrictions have not become a significant factor in slowing the economy.

On balance, therefore, we believe that the time has come for the Fed to start gradually slowing the growth of the money supply. A small rise now in the short-term interest rates that the Fed controls can reverse the recent increase in inflation. Failing to move now could result in much harsher measures later.