Federal Reserve Board Chairman Alan Greenspan said Wednesday that the full impact of higher interest rates has yet to be felt, and he defended the central bank’s gradual credit-tightening by saying the policy will allow the economy to continue growing at a modest pace.
In congressional testimony, he answered critics who say either that the Fed has been too stringent for the beleaguered thrift industry or too lax to snuff out inflation.
“The best way to stabilize the economy is to make sure disruptive inflationary pressures don’t take over,” Greenspan told the House banking financial institutions subcommittee.
He said there is a “significant lag” between the time the Fed raises interest rates and the impact that action has on the economy. He was answering a question on why the economy has shown signs of inflating despite tighter Fed policy.
The comment was taken by some dealers as a sign that the Fed will wait before raising interest rates further, causing the dollar and credit market interest rates to ease in afternoon trading.
The central bank has been gradually pushing up interest rates since last March in an effort to cool inflationary pressures that Greenspan said were building in the economy. But recent economic data suggests that higher rates have had little impact to date on cooling inflation.
Holding Rates Down
Interest rates would be even higher now had the central bank done nothing, Greenspan said in defense of the central bank’s tight policy, since the Fed’s yearlong tightening has kept inflation from getting out of hand and kept market rates from rising even more.
“Because of the actions we have taken so far, rates at the long end are significantly lower than they otherwise would have been,” Greenspan said.
“The Fed is trying to minimize the rise in real interest rates,” Greenspan added.
He said the rise in short-term interest rates engineered by the Fed, from 6.5% last March to nearly 10% today, was aimed at extending the current economic expansion, now in its seventh year, into 1990 and beyond.
“Our job is to suppress inflationary forces that would destabilize the economy,” Greenspan said. “To the extent that we can do that, we can prolong the recovery through this year and well beyond,” he said.
It was the Fed chairman’s first public comments on inflation since Friday’s one percentage point jump in wholesale prices for February and the more moderate 0.4% rise in consumer prices announced Tuesday.
Greenspan said the Fed was aware that an unchecked rise in interest rates would increase the cost of resolving the savings and loan crisis, estimated by the Bush Administration at $157 billion over the next 10 years.
But he said the Fed was concerned that the ultimate cost to the thrift industry and to the taxpayer would mount if it allowed inflation to get out of control.