Greenspan will be out pretty soon, so he must be worrying not to be later blamed for the bubbles he's created. IMO he wants to go out with the image of bubble fighter but not bubble blower.
From yesterday's WSJ:
Fed Sees Inflation
As Bigger Threat
Than a Slowdown
More Boosts in Rates Likely
Despite Signs of Cooling;
Debating Use of 'Measured'
By GREG IP
Staff Reporter of THE WALL STREET JOURNAL
April 29, 2005; Page A1
Fed Sees Inflation
As Bigger Threat
Than a Slowdown
More Boosts in Rates Likely
Despite Signs of Cooling;
Debating Use of 'Measured'
By GREG IP
Staff Reporter of THE WALL STREET JOURNAL
April 29, 2005; Page A1
Despite signs that economic growth is slowing, the Federal Reserve sees signs of an upward creep in inflation as a bigger threat -- and is likely to keep raising interest rates in the months ahead to curb it.
On Tuesday, the Fed likely will raise the target for its key short-term interest rate to 3% from 2.75%. That would be the eighth quarter-point rate increase in as many meetings. Changes in the federal-funds rate, which is charged on overnight loans between banks, normally ripple out to consumer and business loan and savings rates, affecting the demand for credit.
Fed increases are likely to continue at subsequent meetings unless the economy slows much more than it already has. But officials are debating the wisdom of continuing to signal their intentions for interest rates as they have been. So far, the Fed has accompanied its rate increases with a statement indicating plans to continue boosting rates by no more than a quarter percentage point every six weeks or so.
Yesterday brought the latest sign of a slowing economy as the Commerce Department reported that economic growth hit a two-year low of 3.1% in the first quarter. Especially troubling was a deceleration in business capital spending, considered by the Fed to be the expansion's backbone. On Wednesday, the government reported a sharp drop in new orders for capital goods in March, though the data are volatile.
The gross-domestic-product report also showed inflation hitting at least a seven-year high of 2.2% at an annual rate in the first quarter, according to the Fed's preferred measure. That is an index of personal consumption, excluding food, energy and items for which market prices can't be readily determined, such as checking privileges on a no-fee bank account.
The unpleasant report sent stocks down sharply. The Dow Jones Industrial Average fell 128.43 points, or 1.26%, to 10070.37. The Dow industrials are down 433 points, or 4.1%, for April, with one trading session left -- on track for their biggest monthly point and percentage decline since December 2002. The Nasdaq Composite Index dropped 26.25 points, or 1.36%, to 1904.18, a new low for 2005.
Still, neither the growth nor inflation trends have yet alarmed the Fed. The growth slowdown appears mainly due to a sharp rise in energy prices. Oil prices, which started rising in early 2004, have eased somewhat in recent weeks. The limited data available for April, such as jobless claims, suggest economic momentum has picked up again.
Similarly, the pickup in inflation appears to reflect businesses passing along higher energy, commodity and import prices from last year, trends that should flatten in coming months.
The Greater Danger
Fed Chairman Alan Greenspan has said that in setting interest rates the Fed looks at all risks, then counteracts the one that could cause the greatest potential damage. Today, the Fed thinks the greater danger is to raise rates too little and let inflation accelerate. Such an error could force the Fed to raise rates sharply later on and risk a recession. So it would rather chance raising rates a bit too much now and slowing the economy further.
In addition, the timing of Mr. Greenspan's retirement could be a factor in Fed deliberations now, said Tom Gallagher, a policy analyst at ISI Group, a research firm. The 79-year-old chairman's current term ends in January, and he cannot be reappointed.
"Any central banker would rather risk a little bit weaker economy than a little bit higher inflation as part of your legacy," Mr. Gallagher said. Mr. Greenspan's fellow policy makers, meanwhile, "want to make sure his personal credibility as an inflation fighter stays with the institution," he said.
In the statement following its March 22 meeting, the last time it raised its short-term rate, the Fed cited concerns about inflation for the first time in four years, suggesting it had lowered the bar for raising rates in larger, half-point increments. Since then, the economy's apparent loss of momentum has taken half-point increases off the table, some officials have said. But they also have indicated it would take several more months of sub-par growth before they consider a pause in rate increases. After Tuesday, they will have an unusually long eight weeks to await such evidence before meeting again, on June 29 and 30.
In speeches, Fed officials have continued to emphasize their inflation focus. "The odds are that inflation pressures are contained and will remain so," Fed governor Donald Kohn said in a recent speech. "But in the current circumstances, we need to be vigilant for signs" of inflation pressure.
Fed Gov. Susan Bies recently said, "Productivity is slowing from its exceptional pace of the past couple years and unit labor costs are again increasing...While underlying inflation is expected to continue to be low, the Federal Reserve must be more alert to monitoring incoming data." And Federal Reserve Bank of Philadelphia President Anthony Santomero said oil prices "persistently in the $50-per-barrel-plus range" could slow growth, but said they "should not jeopardize the expansion."
The debate at next week's meeting likely will center on whether to continue to say rates will rise at a "measured" pace -- not over the rate change itself.
Minutes for the March meeting show some officials pressed to drop the word. Elaborating on these concerns, Cleveland Fed President Sandra Pianalto last week said, "There is a risk that at some point the [Fed] will take an action that the public regards as contrary to what is implied by the language."
Some officials worry continued use of the word "measured," a staple of Fed communications for the last year, could lead investors to think the Fed is more certain of its rate plans than it is -- and thus embrace riskier investments that could fall sharply in value later on.
However, removing the word "measured" could prompt some investors to think the Fed is about to raise rates by a half-percentage point. That's one reason Fed officials didn't change it in March, and instead conveyed their greater uncertainty about the outlook by citing inflation risks. Whether officials stick with "measured" next week likely will depend in part on how they think markets will react.
A 'Measured' Pace
"If you take that language out, in the near term that would be taken as a signal the [Federal Open Market] Committee is going to accelerate its tightening," said former Richmond Fed President Al Broaddus. "Unless the committee wants to give that signal...I'd expect them to leave it in."
Mr. Kohn and Ms. Bies both said they thought rates could keep rising at a "measured" pace, suggesting both are comfortable with keeping the sentence. Still, in his speech, Mr. Kohn said, "A time will come when we cannot provide guidance about our policy intentions because we ourselves will not be confident about the strategy that will be needed."
A related issue is how much longer the Fed will describe the federal-funds rate as "accommodative," that is, below some neutral level that neither stimulates nor restrains spending. Fed officials have said a neutral funds rate is somewhere between 3% and 5%, and by next week, the rate is expected to be in that range. But no Fed official has yet suggested that rates are close to neutral, which would imply the Fed was almost finished raising them.
Write to Greg Ip at greg.ip@wsj.com4
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