Greenspan Hints at Interest Rate Increase
In oblique but relatively transparent terms, Federal Reserve Board Chairman Alan Greenspan sent his strongest signal to date Thursday that the Fed is on the verge of boosting interest rates.
With underlying indicators raising new concerns that the expanding economy no longer will be able to fend off inflationary pressures, Greenspan’s comments to the congressional Joint Economic Committee continued a recent decline in the stock market.
Greenspan, in the view of many analysts, has been itching to raise rates for some time. Gary Schlossberg, a senior economist at Wells Capital Management of San Francisco, said the chairman’s latest testimony “sounded like a dress rehearsal for a post-tightening press conference.”
The Federal Reserve’s policy-making Federal Open Market Committee will have an opportunity to raise rates when it meets Tuesday. The federal funds rate, which is the interest that banks charge each other on overnight loans, is 5.25%, and an increase to 5.5%, a likely target, would ripple throughout the financial community and boost all market-driven short-term rates.
In his regularly scheduled testimony to the Joint Economic Committee, Greenspan said that the U.S. economic performance has been “quite favorable.” But, in a warning of inflationary pressures, he said: “Demand has been growing quite strongly in recent months.”
Making clear that his target is the long-range threat of inflation rather than the likelihood of sharp wage and price increases just around the corner, he said: “Should we choose to alter monetary policy, we know from past experience that, although the financial markets may respond immediately, the main effects on inflationary pressures may not be felt until late this year and in 1998.”
It was a typical Greenspan performance.
The Fed chairman rarely speaks in a direct manner or in unguarded language. Instead, he uses finely combed public comments, whose purpose may be apparent only to economists experienced in parsing his rhetoric.
And his testimony Thursday appeared intended to take some of the shock out of whatever interest rate increase might follow--while being presented in sufficiently vague language that Greenspan would have little explaining to do if no increase occurred after all.
“What he’s doing, a week before the Federal Open Market Committee meets, is tilling the ground,” said Martin Regalia, vice president and chief economist of the U.S. Chamber of Commerce. “He’s out there with his anti-inflation plow, digging furrows in the economy, so when he raises the rates he isn’t hung out to dry.”
Wall Street responded accordingly. The Dow Jones industrial average lost 57.40 points to close at 6,820.28 after a topsy-turvy day.
At first glance, the economic signals being sent by such indicators as the unemployment rate, still-low inflation and continued growth of the gross domestic product would appear to be anything but the storm clouds signaled by Greenspan’s comments.
The economy, as measured by the gross domestic product, grew by a mild 2.5% in 1996. Consumer prices rose an average of 0.3% in February, with the core rate, which excludes volatile food and energy prices, increasing 0.2%. Producer prices actually dropped 0.4%.
But some conditions that usually result in rising wages and prices are in place. The unemployment rate, 5.3% in February, has been hovering barely above 5% for months, raising the chance that employers will be forced to pay more to find workers. Average hourly earnings have indeed already begun inching ahead. Manufacturing activity is also increasing, raising the possibility that prices for sought-after raw materials will increase.
An increase in rates would be the first since Feb. 1, 1995. In its most recent action, the Fed cut rates by a quarter of a percentage point on Jan. 31, 1996, as a hedge against an economic slowdown.
