Greenspan's remarks could spell bad news for the Bush Administration, which is counting on robust economic growth to reduce the federal budget deficit without increased taxes.
Greenspan released an economic forecast prepared by the central bank that showed growth significantly lower than the Bush Administration's estimate.
Greenspan's comments were made in testimony to the Senate Banking Committee as part of the requirement that the central bank reveal its economic assumptions and monetary policy targets twice a year.
The central bank has been pushing interest rates higher in an effort to restrain domestic demand since March of last year, an effort that has sent a variety of short-term interest rates climbing by about 3 percentage points.
In his testimony, Greenspan discussed this effort and said the central bank "remains more inclined to act in the direction of restraint" on the supply of credit.
For the last two years, consumer prices have increased 4.4% annually, a rate of increase that Greenspan said is worrisome.
"The wage and price process may have developed some momentum," Greenspan said, citing reports showing that wage increases are rising at a faster clip because of the tight labor markets.
"Let me stress that the current rate of inflation, let alone an increase, is not acceptable, and our policies are designed to reduce inflation in coming years," he said. "This restraint will involve containing pressures on our productive resources and, thus, some slowing in the underlying rate of growth" of the overall economy.
Since taking office, President Bush has on several occasions said he believes that the Fed's worries about inflation are misplaced, saying he sees no need to push interest rates higher.
The central bank has so far ignored those comments, however, launching its latest credit tightening effort just last week after a report on prices at the wholesale level that showed an unexpectedly sharp 1% increase in January.
In his report to Congress, Greenspan said the Fed is predicting that the overall economy, as measured by the gross national product, will expand by between 2.5% and 3% in 1989. The Administration, however, is basing its budget on a forecast that expects growth to be a more robust 3.5% this year.
To support its move to restrain inflationary pressures, Greenspan said the central bank policy makers reaffirmed a decision made last summer to lower money growth targets for 1989. For M-2, the measure of the money supply that includes currency in circulation and interest-bearing checking accounts, the Fed said it would aim for an increase of between 3% and 7%, down a percentage point from the 1988 growth target.
Greenspan said he understands that moves toward tightening the availability of money and driving up interest rates could have an adverse effect on the savings and loan crisis, the Third World debt situation and the debt problems of some American businesses.