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Greenspan Keeps Playing Sphinx on Interest Rates

January 23, 1991|TOM PETRUNO

Dear Alan Greenspan: Are you or are you not planning to lower interest rates further in the months ahead?

Forty or 50 million savers and investors would like to know. Because yields on short-term investments are looking really lousy, and if they get any lousier, a lot more people will want to buy longer-term bonds.

Tuesday on Capitol Hill, the Federal Reserve chairman continued to play the Sphinx, spinning riddles for answers to interest rate questions. Like this answer from his testimony:

"The uncertainties in the current situation are great, and the risks of making policy mistakes are high."

OK, that's dandy. But what about those rates?

For the most part, Greenspan indicated Tuesday that the Fed didn't feel obligated to cut interest rates again . . . but that could change.

The truth is, every Fed chairman since the time of Moses has played the Riddler. You can't get a straight answer about rates--partly because the Fed usually doesn't want to telegraph its intent and partly because the Fed just doesn't know whether its stance on rates will change dramatically two days from now.

If Iraq surrenders tomorrow, consumer confidence rebounds and the economy starts to grow again, chances are rates have seen their lows. But the longer the war drags on, many experts believe that Greenspan & Co. will have little choice but to continue to prop up the economy with lower short-term interest rates.

In fact, some experts look at the results of the Fed's handiwork so far--a drop of 1.5 percentage points in short-term rates since last July--and say it has done nothing for the economy. The message, say these Fed critics, is that the financial system is in very bad shape, consumers are shell-shocked and it's going to take far bigger dose of Fed leniency to get things moving again. And that's with or without a long war.

"It's very clear that, as of right now, the Fed is not getting the job done," argues Lacy Hunt, chief U.S. economist for the Hongkong Bank group in New York.

Hunt notes that long-term interest rates, especially on bonds of lower-quality companies, haven't come down much since last fall. U.S. banks, Greenspan admitted Tuesday, aren't lending like they should, because they're trying to protect themselves and rebuild their capital. So despite the Fed's efforts to ease the credit crunch, money still is tight while the recession continues to pinch--a bad combo.

Robert Brusca, economist at Nikko Securities in New York, believes that Greenspan has painted himself into a corner. The Fed chief on Tuesday told Congress not to raise taxes to finance the Iraq war, while at the same time he warned lawmakers not to change the federal budget deficit-reduction agreement reached a few months ago. Brusca says that leaves the Fed in the position of having to save Uncle Sam's fiscal neck by keeping interest rates moving down--especially as the Treasury goes to sell billions of dollars in bonds in the first week of February.

"It seems to me Mr. Greenspan has put most of the burden of this economy on the Fed's shoulders now," Brusca says. While some analysts say there's a growing risk that rates could rise in the months ahead if the economy turns, Brusca believes that "all of the risk here is that rates will end up being lower , not higher."

For savers and investors, here's the score:

* Last July, the yield on 30-year Treasury bonds was only about 0.5 percentage points above rates on three-month T-bills.

* Now, the 30-year bond yield is at 8.25%, while three-month T-bills pay 6.14%. That's a spread of 2.11 percentage points in favor of the bond.

If the Fed continues to push short-term rates lower, which seems all but certain, returns on T-bills and short-term bank CDs are going to become increasingly anemic. You're going to feel compelled to invest your money elsewhere, and that's going to mean buying bonds and other higher-paying, longer-term instruments.

You shouldn't just rush out and dump all your cash into a 30-year T-bond, of course. But if you still haven't moved any funds into longer-term investments, the bell is ringing. Even 7-year T-notes still are paying nearly 8%. If short-term T-bills drop to 5% in a few months, 8% will feel very good.

Hanging Up on Phone Stocks: Investors in the former Baby Bell phone companies got a rude wake-up call on Tuesday. Poor earnings reports from Pacific Telesis and Bell Atlantic shocked the market, sparking a selloff of all seven of the major regional phone companies.

PacTel plunged $3.125 to $41.25, a 7% drop. Bell Atlantic gave up 7.4%, losing $4 to $50. Southwest Bell tumbled 4.8%, off $2.625 to $52.625. The other four also fell, though less so.

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