~ OT ~<<Greenspan Says Developing Imbalances in Economy Give Fed Pause
Washington, June 17 -- Resilient demand for a
shrinking pool of available workers and stock prices that may be
excessively high are creating imbalances in the U.S. economy that
could jeopardize the nearly nine-year-old expansion, Federal
Reserve Chairman Alan Greenspan said.
''While this stellar noninflationary economic expansion
still appears remarkably stress free on the surface, there are
developing imbalances that give us pause,'' Greenspan said in the
text of testimony to the Joint Economic Committee of Congress.
''For monetary policy to foster maximum sustainable economic
growth, it is useful to preempt forces of imbalance before they
threaten economic activity,'' he said. ''When we can be
preemptive we should be, because modest preemptive actions can
obviate the need of more drastic actions at a later date that
could destabilize the economy.''
Greenspan's remarks suggest he's ready to support an
increase in the overnight bank lending rate, currently 4.75
percent, when the Fed's policy-making Open Market Committee next
meets on June 29 and 30.
Members of the FOMC reduced the overnight bank lending rate
in a series of three steps between September and November of last
year, after financial markets froze following Russia's default on
its debts. The FOMC has left the rate unchanged since then,
although at its last meeting, the members adopted a so-called
bias towards higher interest rates.
Now, Greenspan said, market strains have receded and the
spread between yields on government securities and market
securities has narrowed.
''The American economy has retained its momentum and
emerging economies in Asia and Latin America are clearly on
firmer footing, though in some cases their turnarounds appear
fragile,'' he said.
In fact, an increase in interest rates might not be a bad
thing for the stock market, he said. ''While bubbles that burst
are scarcely benign, the consequences need not be catastrophic
for the economy,'' he said.
Unsustainable Spending
The U.S. economy isn't slowing as Fed policy-makers had
hoped, he said. After expanding 6.8 percent in the fourth quarter
of 1998, the economy grew 4.1 percent in the first quarter of
this year, and private economists estimate growth of about 4
percent again in the current quarter.
Rising stock and home prices have created an ''unsustainable
trend'' in consumers' spending ''beyond the gains in their income
from production,'' Greenspan said.
Should labor markets continue to tighten, ''significant''
wage increases in excess of productivity growth will
''inevitably'' develop,'' Greenspan said.
That, in turn is supporting strong demand for labor. Last
Friday, the Labor Department reported that the U.S. unemployment
rate fell to 4.2 percent in May -- tying a 29-year low -- and
average hourly earnings accelerated.
While ''an impressive proliferation of new technologies''
has increased productivity -- worker output per hour rose at a
3.5 percent annual rate in the first quarter -- ''labor
productivity has not grown fast enough to accommodate the
increased demand for labor induced by the exceptional strength in
demand for goods and services,'' Greenspan said.
''Even if this period of rapid expansion of capital gains
comes to an end shortly, there remains a substantial amount in
the pipeline to support outsized increases in consumption for
many months into the future,'' Greenspan said.
Market Bubble?
So far, though ''inflationary pressures seem well-
contained,'' he said. ''Pricing power is still generally reported
to be virtually nonexistent. Moreover, the re-emergence of
rising profit margins, after severe problems last fall, indicates
cost pressures on prices remain small,'' Greenspan said.
This week the Labor Department reported the CPI was
unchanged in May, while the core rate -- which excludes volatile
fuel and energy prices -- rose just 0.1 percent. Those numbers
reversed a big jump in April, when the overall CPI rose 0.7
percent -- the fastest in nine years -- and the core rate
increased 0.4 percent.
''However, product price stability does not guarantee either
the maintenance of financial market stability or maximum
sustainable growth,'' Greenspan said.
The Fed chairman said the current ''benign'' economic
environment could be inducing investors to take on more risk and
''drive asset prices to unsustainable levels.''
While it's difficult for the Fed to say there's a bubble in
financial markets, ''a large number of analysts have judged the
level of equity prices to be excessive, even taking into account
the rise in 'fair value' resulting from the acceleration of
productivity and the associated long-term corporate earnings
outlook,'' he said.
Should interest rates rise, markets would likely fall, he
said. However, that doesn't have to be a problem. ''The bursting
of the Japanese bubble a decade ago did not lead immediately to
sharp contractions in output or a significant rise in
unemployment. Arguably, it was the subsequent failure to address
the damage to the financial system in a timely manner that caused
Japan's current economic problems,'' Greenspan said.
''Likewise, while the stock market crash of 1929 was
destabilizing, most analysts attribute the Great Depression to
ensuing failures of policy. And certainly the crash of October
1987 left little lasting imprint on the American economy,'' he
said.
Low Inflation
If Fed policy-makers do decide to raise interest rates this
month, measured inflation will be lower than at any time the Fed
under Greenspan was acting to apply the brakes. In May, the CPI
was 2.1 percent higher than May a year ago. In March 1997, the
last time the Fed raised the overnight bank lending rate, the CPI
was 2.8 percent higher than 12 months earlier.
During the last sustained series of Fed rate increases from
the beginning of 1994 into early 1995, the CPI measured year over
year averaged about 2.7 percent, falling as low as 2.3 percent
for one month in May 1994.
A series of Fed increases from early 1988 through early 1989
corresponded with an average year-to-year rise in the CPI of 4.3
percent.
Recent government reports suggest the best news on inflation
is over. On Friday, the Labor Department reported producer prices
rose 0.2 percent in May, the third monthly increase in a row, led
by higher food costs. The core rate, which excludes food and
energy prices, rose 0.1 percent.
In addition, the costs of raw materials rose at the fastest
rate in 2 1/2 years, reflecting increases for oil, natural gas,
scrap metals and hogs and poultry, the government said.>> |
