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To: Les H who wrote (41071)	2/23/2000 4:57:00 PM
From: Les H	Respond to of 99985

GREENSPAN:MONETARY POLICY NOT BASED ON STOCKS;CAN'T SAY IF OVERVALUED --'Optimal' Monetary Policy 'Incremental' By Steven K. Beckner Market News International - Federal Reserve Chairman Alan Greenspan insisted Wednesday that the Fed is not basing monetary policy on the valuation of the stock market, and he suggested once more he is not inclined to raise margin requirements to counteract high stock market valuations and the wealth effects they produce. Greenspan, continuing the second leg of Humphrey-Hawkins testimony before the Senate Banking Committee, said he has no intention of dramatically slowing the economic expansion and that the Fed's policymaking Federal Open Market Committee believes an "incremental" tightening of monetary policy is "optimal." Greenspan declined to stay whether or not stocks are overvalued or whether a stock market bubble exists, but said the evidence of overvaluation is "not persuasive." Whether overvalued or undervalued, higher stock prices have stimulated demand, and that is what the Fed is responding to, he said. If productivity continues to accelerate without spurring higher stock prices and wealth effects on demand, it would not be a concern, Greenspan said, but if increased wealth effects result there would be a further shrinkage of the economy's "inflation buffers." The Fed chairman repeated that inflation is "very well contained" and should stay that way if the Fed does its job "properly," but he continued to express concern about the excess of demand over supply. That the current account deficit continues to widen while "the labor markets are getting ever tighter" shows that "inflation buffers" are eroding, he said. Democratic Senators Paul Sarbanes and Charles Schumer asked Greenspan why, if he is worried about stock market wealth effects on demand, the Fed doesn't raise margin requirements instead of raising interest rates. Greenspan began by emphasizing "We are not focusing monetary policy on the stock market" but on the economy. "To the extent that the stock market affects the economy we respond to that ... We cannot argue there is a direct relationship between what's happening in the stock market and what's happening in monetary policy. That is not our interest." If margin requirements could dampen stock market wealth effects there might be an argument for raising them, but "the evidence we have is that margin requirements per se don't affect stock prices," Greenspan said. Greenspan observed that margin debt has risen to a "significant extent," and that as a result "a number of broker-dealers are looking at their extensions to be sure they are not overextending themselves." The mere fact that more attention has been focused on margin credit is "beginning to have some effect," he said. Seemingly bending over backwards not to disparage stock market valuations, Greenspan said it has been "perfectly understandable and appropriate" for stocks to rise as accelerating productivity increases expectations of future corporate earnings. He said the issue for the Fed is not whether stocks are overvalued, but whether the increase in values has created wealth effects that have created a "gap" between demand and supply. "All you need to know is that they went up," Greenspan said. While admitting the possibility that stocks could prove to be overvalued, Greenspan said "We'll only know in retrospect." He said he does "not find the evidence persuasive" one way or the other that stocks are overvalued. If they are, it must mean pension funds and other institutional investors "don't know what they're doing," he remarked. Although he earlier said the Fed is concerned not with economic growth but with the gap between demand and supply, Greenspan said "the rate of growth of the economy has to phase down to rates that can be sustained indefinitely." But Greenspan said he and his Fed colleagues do not have in mind "bringing the economy to a roaring halt" or slowing growth "in a dramatic fashion." On the contrary, "We perceive that the optimal monetary policy is to move incrementally," Greenspan said. There have been times in the past when the Fed did need to "slam on the brakes" because "things looked to be on the edge of instability," but that is not the case now, he added. It's just that the economy is "growing at an extraordinary pace above the level that is sustainable over the longer term." Productivity and economic activity can continue to grow, but "what is important not to allow is for the inflation buffers to shrink to a level where they are no longer capable of absorbing the excess of demand over supply" Greenspan said. "Clearly we are confronted with a situation that cannot continue to exist indefinitely in the future," Greenspan continued. "We have a system that is creating a continued reduction in the buffers that cannot continue indefinitely" without endangering prosperity. Even if productivity continues to accelerate there could be problems for the economy, Greenspan said. "It depends on whether the acceleration in productivity carries with it a continued increase in stock prices." The quandary is "whether the acceleration in productivity does or does not create wealth effects that opens up a gap between supply and demand." Asked to estimate on a scale of one-to-ten what the chances are that inflation could rise to between 6% and 7%, Greenspan responded, "Can I go below one?" He added that "inflation is very well-contained" and "should stay that way," provided the Fed performs its function properly. Greenspan indicated that one reason for the Fed's incremental approach is that some of the Fed's old tools no longer apply to the "new economy." Greenspan downplayed the impact of Treasury debt reduction on the Fed's ability to conduct open market operations. He said the Fed can find new instruments to use. He said it is highly likely the bond market will develop new "benchmark" securities to replace the shrinking 30-year Treasury bond. He said a "triple A-plus" corporate bond could evolve into that role. In other comments, Greenspan again advocated liberalizing immigration restrictions on highly skilled foreign workers. He also said relaxing the earnings test on Social Security recipients could augment the labor force and reduce labor market strains. And he said he has become "increasingly worried" about protectionist pressures. For the economy to continue to grow it must be open to both goods and people from abroad, he said. Closing the hearing, Sen. Phil Gramm, R-Tex, insinuated this may have been the last Humphrey-Hawkins hearing. "I don't know if this is the last Humphrey-Hawkins hearing we ever have, but if it is it was a good one."