AN ANEMIC RECOVERY : How the Deficit Helps Keep Wolf From the Door

Suddenly, frightening buzzwords are being used to describe the U.S. economy.

“We’re in a contained depression,” said Dwayne Andreas, chairman of the agribusiness company Archer-Daniels-Midland, in a television talk show Sunday. “Contained depression” appeared in a Barron’s newspaper interview with an investment manager.

And the fellows who coined the term, economists David Levy and S. Jay Levy, say the “contained depression” could be with us for years to come. “If recession is a pause to work off excess inventories, depression is a longer-term stall to absorb surplus assets--such as the oversupply of office buildings that will be with us till the year 2000,” says Jay Levy, who with his nephew David runs the Jerome Levy Economics Institute at Bard College in Annandale, N.Y.

No buzzword can encompass the complex U.S. economy and using the term “depression” is exaggerating for effect. Still, the idea offers insights into what’s happening and where we’re headed.

Note the word “contained.” We are not suffering 30% unemployment, bank runs, bread lines and a Dust Bowl in the farmlands, as Americans did in the Great Depression of the 1930s. The reason, Levy explains, is the budget deficit, which represents a river of government money paying off depositors in savings and loans and banks, paying welfare and Medicare and Medicaid and continuing to fund defense contracts to produce surplus weapons.

Thus the deficit, which may amount to $400 billion this year, is both a drug sapping our economy and also its life support. We get sustenance but no lift from the money. The $100 billion-plus going to S&L; depositors is merely replenishing accounts from which the original deposits have been lost in bad loans on land, buildings and apartment complexes.

Similarly, welfare and medical payments keep people from the kind of desperation they knew in the ‘30s, and government contracts for defense and other purposes hold unemployment below extreme levels. We pay a price for deficit financing--notably $210 billion in annual interest on the national debt, 3.5% of the gross domestic product. But we would pay a price without it, too.

The deficit cannot be paid off quickly but will be amortized in time as new investment replaces old, and as we progress through this contained depression. Not all aspects of the period are discouraging.

For instance, if there is overcapacity in everything from real estate to automobile production--not only in the United States but in Japan and Europe--it stands to reason prices won’t be rising. In fact, inflation is heading to the lowest levels in decades. U.S. inflation in the next 12 months may get down to near 1%, analysts say. In the rest of the industrialized world, wholesale price inflation is at 1.8% and falling.

It’s worth reflecting that a dozen years ago that would have been an answer to economic prayers. Yet today people feel bad. On Tuesday, the Conference Board reported a sharp drop in U.S. consumer confidence.

One reason is simple. House prices in many parts of the country are either standing still or declining. That hurts because the house represents a nest egg for most families, the asset that can provide money for retirement. With the nest egg in doubt, and with corporate restructuring making employment uncertain, it’s small wonder that consumers are buying less and paying down past debts.

In retail stores, clothing sales are miserable--with the revealing exception that the Victoria’s Secret chain is doing well. In tough times, lingerie is an affordable indulgence.

Significantly, car sales also are doing fairly well--Chrysler reported spectacular earnings on Tuesday. One reason is bargain prices thanks to a surplus of 2 million cars in the U.S. market. Dealers are dealing and cars are good value.

If declining inflation argues against real estate, it encourages other investments. Bonds are rising in value as interest rates fall. The yield on the Treasury’s 30-year bond fell below 7.5% on Tuesday; five-year bonds are now yielding about 6%. And such rates will go lower--below 6% on the longest maturities, despite the fact that the government burdens the market with more than $1 billion of bond sales every day.

The key is falling inflation. With inflation below 2%, a taxpaying investor can earn a return after taxes even with a 5% bond.

The great incongruity, amid talk of depression, is that stocks remain strong. Prices were up sharply Tuesday. One reason is that savers have few alternatives, with the government paying little more than 3% on Treasury bills and banks offering even less for deposits.

But the surge in stocks and mutual funds also reflects the larger story of awakening promise in the world economy, pointing to the way out of depression. The Latin American countries are restraining inflation and encouraging growth, Eastern Europe is stirring and Asia continues to develop--China’s economy is growing at 14% a year.

All those areas are beginning to provide fresh markets, if not for finished goods like cars, then for equipment to make cars. “Eastern Europe already is a big market for telecommunications equipment, they need the essentials of modern industry,” says Jay Levy.

That’s the way we come out of depression, he explains. One way or another, we slowly pay off past mistakes, but prosper from investment in new industries and opportunities.

And over the next few years perhaps the words “contained depression” will change to great expectations.