Maintain High Interest Rates, Group of 7 Says

Top economic officials from the seven major industrialized democracies agreed Saturday that they must maintain high interest rates to keep the oil price shock caused by the Persian Gulf conflict from producing an inflationary price spiral.

But a statement by finance ministers and central bankers, issued after a seven-hour private meeting at Blair House across from the White House, left wiggle room for the Bush Administration to urge lower U.S. rates if Congress and the White House ever reach agreement on a plan to shrink the gaping federal deficit.

“The rise in the price of oil associated with the gulf crisis poses two risks: a risk of inflation and a risk of lower economic growth,” the Group of Seven communique said.

“The ministers and governors consider that stability-oriented monetary policies and sound fiscal policies constitute the correct policy response,” the statement continued. “Such a response should help guard against the underlying inflation rate being affected by higher oil prices and thus reduce the risks of lower economic growth.”

Federal Reserve Chairman Alan Greenspan and most economic officials abroad want to keep a tight rein on credit to fight inflation, even if it means running a greater risk of an economic downturn in the months ahead.

Their goal is to avoid repeating the policy mistakes of the 1970s, when the United States and several other countries initially tried to cushion the blow of higher oil prices with easy money, only to be forced later to endure severe recessions in 1974-75 and in 1982 as they sought to wring double-digit inflation out of the world economy.

But Treasury Secretary Nicholas F. Brady, worried about sagging U.S. economic growth, has been seeking lower U.S. interest rates to stave off a recession.

Unable to settle the dispute, the G-7 officials did their best to paper over the issue.

Brady, in a briefing for reporters after the meeting, said the statement focused equally on the dangers of both increased inflation and slower growth.

“There was no intention to say one risk was greater than the other,” Brady said. The goal, he insisted, should be to seek stable economic policies that try to “steer between the two risks.”

But most other participants hammered away at the anti-inflation message in the communique.

Canadian Finance Minister Michael Wilson told reporters after the meeting that the group agreed that controlling inflation now would avert greater problems.

“If we don’t get on top of inflationary pressures now, the difficulties will be far more severe in the future,” Wilson warned.

And Karl Otto Poehl, president of West Germany’s central bank, also said he expects most countries to continue to fight inflation with higher interest rates.

“Countries already have high interest rates,” Poehl said before the meeting started, “and I think that’s the right way to go.”

The G-7, meeting in advance of this week’s annual meeting of the 152-nation International Monetary Fund and its sister lending organization, the World Bank, includes finance ministers and central bankers from the United States, Japan, West Germany, France, Britain, Italy and Canada.

Despite growing worries over the shaky global economic outlook, the economic officials also sought to reassure world markets that they can ride out the current oil price shock without suffering a worldwide recession.

“Notwithstanding oil price developments, solid growth is being experienced in their economies this year, particularly in continental Europe and Japan,” the statement noted. “The G-7 expansion is expected to continue next year, the ninth consecutive year of sustained growth.”

The officials argued that major industrial nations are in a better position to withstand an oil price shock today because of sharp improvements in energy efficiency since the late 1970s.

Unlike previous years, when most of the focus of the G-7 meetings was on the need to narrow the U.S. trade deficit through a lower dollar without causing a panic in world currency markets, there was only a mild reference to currency fluctuations.

The policy-makers endorsed recent changes in exchange markets, where the Japanese yen has strengthened while the dollar has weakened.

A lower dollar can help reduce the U.S. trade deficit by making American goods cheaper to foreign buyers, but it also fuels inflation here by adding to the cost of imports and making it easier for American manufacturers to raise their prices.

Ryutaro Hashimoto, Japan’s minister of finance, said he told the G-7 officials that Tokyo welcomes “the fact that recently, the yen has been moving firmly against the U.S. dollar and European currencies. We could accept the continuation of this trend. But we must by all means avoid the nose-diving of the U.S. dollar.”

Japan, despite its heavy dependence on imported oil, will continue to grow, Hashimoto said, and does not need to slam on its monetary-policy brakes to keep inflation under control.

The G-7 also lent strong support to the U.S.-led effort to “provide immediate and medium-term economic assistance to the front-line states” of Jordan, Egypt and Turkey in the potential military conflict with Iraq.

The officials urged the lending agencies to relax their normal insistence on austerity measures in the borrowing countries.

U.S. officials are fearful that the economic embargo of Iraq could begin to crack unless aid is funneled quickly to the countries coping with a flood of refugees and with the loss of export markets.

Brady said the policy-makers did not discuss a specific dollar amount for the aid, but Theo Waigel, West Germany’s finance minister, told reporters that the United States is seeking $14 billion for the front-line states. The IMF and World Bank are trying to develop a $9-billion package for other countries severely hurt by higher oil prices.

Times staff writer Sue Ellen Christian contributed to this report.