Greenspan Says U.S. Slowdown Likely to Intensify, Hinting at Rate Cut
Fed's Greenspan Says U.S. Slowdown Is Likely to Intensify
Washington, Sept. 23 (Bloomberg) -- The slowing of the U.S. economy is likely to intensify in the months ahead, Federal Reserve Chairman Alan Greenspan said, suggesting the central bank chief may push for lower interest rates at a policy meeting on Tuesday. ''Deteriorating foreign economies and their spillover to domestic markets has increased the possibility that the slowdown in the growth of the American economy will be more than sufficient to hold inflation in check,'' Greenspan said in testimony to the Senate Budget Committee.
In his most stark warning about the risks to the eight-year expansion in the U.S., Greenspan said that while there is little evidence of any ''significant underlying weakness in the American economy as a whole,'' the flow of funds in markets has been disrupted, at least temporarily. ''With few signs that the financial crisis that started in Asia last year has subsided, or is about to do so, policymakers around the world have to be especially sensitive to the deepening signs of global distress, which can impact their own economies,'' Greenspan said.
Those comments suggest Greenspan will argue for a reduction in the overnight bank lending rate from its current 5.50 percent at next Tuesday's meeting of the Federal Open Market Committee. It would be the first policy change in 18 months and the first interest-rate cut in 32 months.
Dropping Hints
Greenspan began dropping hints about the need for lower interest rates earlier this month. He told the House Banking Committee last week, for example, that he has seen some ''erosion'' in the U.S. economy.
That followed a speech in Berkeley, California on Sept. 4 when he said U.S. economic growth is likely to be slowed by global market woes. ''It's just not credible that the United States can remain an oasis of prosperity unaffected by a world that is experiencing greatly increased stress,'' he said at the University of California.
Russia's economic collapse in mid-August triggered the latest round of global financial instability, Greenspan said. While Russia's impact on the world economy 'is not large,'' he said, the severity of the crisis shocked investors, who began pulling funds out of emerging markets around the world. That pushed interest rates ''sharply higher across the globe,'' Greenspan said. ''In recent weeks, that shift internationally has also been accompanied by a rising concern for risk in the United States, presumably reflecting the fear that the contagion would adversely affect our economy,'' Greenspan said.
Some Positive Effects
The initial effect of the Asian financial crisis on the U.S. economy had been positive, he said, lowering long-term interest rates.
Now, ''however, the most recent more virulent phase of the crisis has infected our markets as well. Concerns about business profits and a general pulling back from risk-taking in the midst of great uncertainty around the globe have driven down stock prices and pushed u rates on the bonds of lower-rated borrowers,'' Greenspan said.
That's having a big effect on business in the U.S., he said. Stock and bond issuance by lower-rated U.S. companies ''has come virtually to a halt; even investment-grade companies have cut back substantially on their borrowing in capital markets,'' the Fed chairman said. ''Banks are also reportedly becoming more cautious and more expensive lenders to many companies.''
Aid Package Coming
The Fed chairman repeated many of the same prescriptions he's offered in the past for dealing with the global crisis. Countries must improve transparency in their economic and banking systems, to enable investors to better assess risk. Commercial and legal structures must be set up to protect commerce and investment, and there must be better supervision of banking and financial systems. ''I must also stress the obvious necessity of sound monetary and fiscal policies whose absence was so often the cause of earlier international financial crises,'' Greenspan said.
However, the Fed chairman warned the transition to more effective and more stable financial systems ''will take time.''
Given that, Greenspan suggested some sort of international financial rescue package for affected countries, including Brazil, may be forthcoming. ''The current crisis, accordingly, will have to be addressed with ad hoc remedies,'' Greenspan said. ''It is essential, however, that those remedies not conflict with a broader vision of how our new international financial system will function as we enter the next century.''
Since U.S. inflation is so benign, Fed officials have room to reduce rates. Consumer prices in the first eight months of the year rose at a 1.6 percent annual rate, the same as in the first eight months of 1997.
Other Fed Voices
Over the past two weeks, a number of Greenspan's colleagues at the Fed have said the global economic slowdown that began a year ago in Asia is taking a toll on U.S. economic prospects.
Federal Reserve Bank of Richmond President J. Alfred Broaddus said today that stabilizing financial markets in Brazil and other Latin American countries, and preventing the spread of the global slowdown that started in Asia, will be on the table when Federal Reserve policymakers meet next week.
Investors around the world are fleeing equity markets and buying relatively safer U.S. Treasury securities, Broaddus said, speaking to an audience of students and faculty at Frostburg State University. ''That's creating significant problems for countries that are fundamentally pretty strong,'' particularly Brazil and other Latin American countries, he said. ''This is ''an issue that we have to deal with.''
New York Fed President William McDonough said in London yesterday that slowing growth now poses more of a danger to the U.S. economy than inflation. That suggests he may have become more open in recent days to the idea of a cut in U.S. interest rates. McDonough's views gained support from two non-voting members of the FOMC, Chicago Fed Bank President Michael Moskow and Atlanta Fed Bank President Jack Guynn.
McDonough, a permanent voting member of the FOMC, told reporters in London that the U.S. domestic economy is ''strong,'' although he said the ''balance of risks'' has shifted ''from concern about inflation to concern about adequate growth.''
There are some who still say chances of an interest-rate cut next week from the Fed are slim. The ''predominant view'' among Fed policymakers is that the case now for a rate cut ''is simply not very strong'' because of the strength of the domestic economy, former Fed Vice Chairman Alan Blinder said in a Washington speech yesterday.
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