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Alan Greenspan likes to stick with the tried-and-true -- at least when it comes to monetary policy. On July 15, in the first leg of his semiannual so-called Humphrey-Hawkins testimony before Congress, the Federal Reserve chairman updated the House Financial Services Committee on the state of the economy. As for achieving the central bank's twin objectives of economic growth and price stability, he emphasized conventional policy tactics -- i.e., hiking or cutting interest rates -- over unorthodox measures, such as purchases of longer-dated Treasury issues.
While the testimony's overall tone was incrementally optimistic by Greenspan standards, he expressed some concerns about growth, suggesting that the Fed will stick with its accommodative stance on monetary policy well into next year.
In typically Greenspanian fashion, the chairman's comments were backloaded. The last page of the text contained most of the policy-related nuggets -- after a lengthy preamble on current economic fundamentals. Greenspan reiterated that he felt the country had reached "effective price stability" when adjustments for inflation-measurement errors were taken into account. Given that assumption, he made it clear that the Fed would maintain "very accommodative policy for as long as it takes" to avoid the "remote" risk of a "corrosive deflationary spiral" developing in the event of an adverse economic shock.
"LETHARGIC GROWTH." Greenspan's upbeat tone contrasted with a downward revision to the Fed's economic projections, known as the central tendency forecasts, in its most recent monetary-policy report. Indeed, Fed projections for 2003 domestic product growth in real terms were lowered to a range of 2.5% to 2.75% from the 3.25% to 3.5% seen in February. The forecast for the chain-price index for personal consumption expenditures -- one of Greenspan's favorite tools for monitoring inflation -- was kept at a low 1.25% to 1.50%.
What's to like about the economy? Greenspan emphasized resilient consumer spending, spurred on by the robust housing sector's mortgage-refinancing windfalls. Brighter omens also included narrowing of credit-risk spreads, firmer stock prices, and an overall decline in oil prices since the end of Gulf War II.
On the negative side, the Fed chief expressed concern that the pace of spending and production wasn't as quick as it should be, noting that employment data have been disappointing, while business capital spending and hiring remain "reluctant." Although the second round of tax-cut stimulus approved by the White House and Congress is well-timed and should "bolster economic activity" in combination with accommodative monetary policy, Greenspan fretted about high natural gas prices and "lethargic growth" among major U.S. trading partners.
HAWKS AND DOVES. Since Greenspan told lawmakers that the Fed fully expected some negative bond-market reaction to a smaller-than-desired quarter-point ease in June, he shouldn't have been surprised to see Treasury yields head sharply higher as he took "unconventional policy" methods off the table. The yield on the 2-year note rose from around 1.30% to 1.43%, while the 30-year bond yield surged 20 basis points, from 4.75% to 4.95%. This pushed the spread between the two issues wider by 10 basis points, to 350 basis points. Stocks faltered and closed lower after a positive start to the session, while the dollar gained sharply amid Greenspan's critique of slow global growth.
The chairman's somewhat mixed outlook provides fodder for policy hawks, whose primary goal is to battle inflation, as well as doves, for whom fostering economic growth is the primary aim. The uncertainty effectively ensures that market volatility will remain elevated. Wall Street will be watching for more policy cues from the Maestro as Act II of the twice yearly show gets under way -- this time in front of a Senate panel -- on July 16.
Wallace is a senior market strategist for MMS International
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