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The Nation

Fed's Chief Foresees Growth

Alan Greenspan pledges to keep interest rates down to support an economic recovery. But skeptics in Congress question his optimism.

July 16, 2003|Peter G. Gosselin | Times Staff Writer

WASHINGTON — Federal Reserve Chairman Alan Greenspan said Tuesday that the nation may be on the verge of a long run of economic growth similar to that of the 1990s.

But in a preview of the approaching presidential campaign, both Republicans and Democrats peppered the central banker with tough questions about tax cuts, unemployment and the economy's halting progress.

Greenspan pledged repeatedly that the Fed would keep interest rates low "for as long as necessary" to ensure full recovery.

Yet his promise of easy money was partially undercut when investors reacted by driving up the very market-set interest rates on which he must depend for growth and the White House's Office of Management and Budget acknowledged Tuesday that the federal government would run a deficit close to $1 trillion over this fiscal year and next.

"Confronted with a period of low inflation and ... quite favorable financial conditions, we could well be embarking on a period of extended growth," Greenspan told the House Financial Services Committee.

The Fed "stands prepared to maintain a highly accommodative stance of policy for as long as needed to promote satisfactory economic performance," he said at another point.

Greenspan's comments were awaited with greater-than-usual eagerness because, with the Fed's signal-sending short-term interest rate at a 45-year low of 1%, words are quickly becoming the central bank's chief means of influencing the economy.

Fed policymakers briefly succeeded during May and June in talking stock prices up and bond interest rates down, a growth-spurring combination. But their efforts have faltered.

On Tuesday, the Dow Jones industrial average fell 48.18 points, or 0.5%, to 9,128.87 as the yield or market interest rate on a 10-year U.S. Treasury note jumped more than one-quarter of a point to 3.98%, its highest level in three months.

"There was no way the Fed was going to get both the equity market and the bond market to behave the way they've been recently for any sustained period," Los Angeles economist Donald Straszheim said. "The last few weeks -- and especially the markets' reaction to Greenspan -- prove it."

Greenspan acknowledged in his testimony that the economy still faces significant problems. Among them: productivity gains that let companies operate with fewer workers, a deficit-damaged national savings rate and continued reluctance by business to invest, expand and hire.

Statistics released separately from Greenspan's testimony Tuesday suggested that the economy may finally be responding to the Fed's strong medicine.

The Commerce Department announced that retail sales rose an unexpectedly strong 0.5% last month after stagnating in May and falling in April as Americans snapped up building materials, furniture and clothes. And the New York Federal Reserve Bank said manufacturing in New York state was expanding for a third straight month in July.

But these positive economic indicators were largely overshadowed by word from the Bush administration that the federal government's finances are in even worse shape than previously thought.

In its midyear review, the Office of Management and Budget said the federal deficit would reach $455 billion this fiscal year, a record in dollar terms, and climb to an even higher $475 billion next fiscal year.

OMB Director Joshua Bolton sought to portray the deficits as largely the product of recession and the war on terrorism and not administration-inspired tax cuts. Officials said that even at their largest, the deficits would amount to 4.2% of the nation's gross domestic product, still smaller than the 6% shortfalls of the late 1980s and early 1990s.

Although officials said the deficits should decline after next fiscal year, slipping to $213 billion by 2007, administration figures show the deficit beginning to climb again in 2008.

A report accompanying Greenspan's remarks said the nation's savings rate has plunged from a 1998 high of 6.5% of GDP to less than 1%, almost entirely because of the federal government's swing from budget surpluses to deficits. The report warned that unless reversed, "such low levels of national saving could impinge on the formation of private capital...."

Greenspan admitted that the Fed's drive to slash interest rates has yet to produce the effect the central bank most wants -- a pop in business investment.

"In the past, such reductions in ... the cost of capital ... have been associated with rising capital spending," he said. "But as yet there is little evidence that the more accommodative financial environment has materially improved the willingness of top executives to increase capital outlays."

The Fed chairman said that even with such problems, the nation's economy still was poised to improve, perhaps powerfully.

He said the combination of rising stock prices, sustained low interest rates and a new $350-billion tax cut package "should bolster economic activity over coming quarters."

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