Your boy Greenspan has his eye on the ball -g-
>>January 5, 2001
Greenspan Is Determined to Avoid Repeating the Mistake of 1990
By RICHARD W. STEVENSON
n the second half of 1989 and again in mid-1990, Alan Greenspan and his colleagues at the Federal Reserve trimmed interest rates, sensing that the economy was slowing. But Mr. Greenspan did not see any substantial threat of a recession, and although he continued to cut rates in subsequent months, he did so in small steps.
It was one of the few times in his more than 13 years as Fed chairman that Mr. Greenspan got it wrong. The economy had gone into a recession in the summer of 1990 without the central bank recognizing it or responding in any aggressive fashion.
It is a mistake that Mr. Greenspan seems determined to avoid repeating as a long boom again gives way to a period of economic risk.
In cutting the Fed's benchmark federal funds target rate by half a percentage point on Wednesday — in attention-grabbing fashion — Mr. Greenspan was clearly signaling his willingness to act early and vigorously to keep the current expansion going.
And in doing so he reminded the world that interest rate policy, while an imperfect tool for managing the ups and downs of the economy, can be put to use far more quickly than the alternative, which in this case is to cut taxes.
"In 1990, the Fed's performance was not bad, but it was suboptimal," said Allen Sinai, an economist at Primark Decision Economics, a consulting firm. "I can't believe he's forgotten that. He seems to have said we're not going to do it that way because we could have done better."
In moving so aggressively, the Fed chairman implicitly acknowledged another reality that has often been lost as his stature as master of the economy has grown: setting interest rates is an extremely tricky business, one that is subject not just to errors in judgment but also to rapidly changing economic conditions.
The Fed action on Wednesday was in essence a reversal of the half-point increase that Mr. Greenspan adopted just last May, when it seemed that the economy was on the brink of overheating. And the cycle of rate increases that concluded last May was itself in part a response to a series of rate cuts in late 1998 that helped send economic growth up to potentially inflationary levels.
"They eased too much in 1998," said Mickey D. Levy, chief economist at Banc of America Securities. "Then they tightened, appropriately, but tightened too much. Having done so, they have now again moved appropriately this time."
Yet while it is easy to criticize in hindsight, Mr. Levy and other analysts said, Mr. Greenspan has distinguished himself again through his flexibility and willingness to adapt to new data, new anecdotal evidence about the state of the economy and new thinking about policy prescriptions.
"Alan Greenspan is the guy in the white hat at the Fed because he has been open to understanding how the economy is changing and has been prepared to take action to deal with that," said Jerry Jasinowski, president of the National Association of Manufacturers. He was open to the technological changes that were showing productivity gains leading to higher economic growth without inflation, Mr. Jasinowski added, "and he remained open to how the cumulative impact of energy price increases, interest rate increases and stock market declines were taking the economy down."
Moreover, analysts said, Mr. Greenspan has a knack for discerning what is happening in the economy well before it is apparent in official data, giving him the ability to move before it is too late to head off trouble. Part of that knack, they said, is an ability to detect the effect on the economy of investor and consumer psychology. That is true whether that psychology is irrational exuberance of the sort that four years ago he warned was infecting the stock market or the bleaker version that accompanied the pricking of the technology-stock bubble in recent months.
"Psychology is so important," said Alice M. Rivlin, a former vice chairman of the Fed. "This intermeeting move was an indication that the psychology of the situation could have made the downturn worse, and that it was better to act sooner rather than later."
Mr. Greenspan has always been uncomfortable with his status as an all-knowing seer. He often describes himself as just a hard-working economist with a lot of experience, and he sometimes seems to feel intense pressure to live up to the expectation that he can work miracles.
To some degree, he has done so, by helping to avoid a recession for almost 10 years, the longest stretch of consistent growth on record. At age 74, Mr. Greenspan no doubt is thinking about how history will view him, and guiding the economy into a second decade of expansion would be a legacy not soon forgotten.
He also has to be careful about the political influence that his success at the Fed has given him. The timing of the rate cut this week put the Fed in the middle of the debate over whether the economic slowdown provided more justification for cutting taxes, as President-elect George W. Bush and his fellow Republicans in Congress would like.
Republicans viewed the rate cut as validating their position that the economy could use the stimulus that a tax cut would provide. They stuck to that position even though it would take the better part of a year for a tax bill to make it through Congress, and it would probably be next year before any tax cut could have much of an economic effect.
Democrats viewed the Fed action as evidence that monetary policy was far better suited to dealing with the business cycle than fiscal policy. They said that while it might be time for a tax cut — especially given the growth in the budget surplus — there was no need to rush through a huge reduction in taxes.
That both sides could claim the Fed chairman as an ally for their views no doubt gratifies Mr. Greenspan, who finds it useful to have support for himself and the Fed on both sides of the aisle.
But keeping that support requires first that he not make any major mistakes. In cutting rates this week, Mr. Greenspan seemed intent on not succumbing to the tendency among central bankers to wait until the official data show incontrovertible evidence of trouble before acting.
Mr. Sinai said the real challenge for Mr. Greenspan or any forecaster was to recognize when gradual linear patterns of economic behavior had given way to sharp but not immediately evident changes. In this case, he said, Mr. Greenspan appeared to have relied on hard data, anecdotal evidence and instinct to conclude that the economy had reached an inflection point that required an immediate response.
In acting now, Mr. Greenspan is also illustrating his belief that monetary policy needs to act to prevent problems in the economy, not just to rectify them. More so than any of his predecessors, Mr. Greenspan seeks to head off inflation before it takes root, and, as in this case, to keep the economy growing rather than to revive it once it has stalled.
"The revolution of the Greenspan Fed," Mr. Sinai said, "is that monetary policy is forward looking." << |
