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How High Can The Fed's `Inflation Dove' Soar?


Economics

HOW HIGH CAN THE FED'S `INFLATION DOVE' SOAR?

When White House economist Alan S. Blinder traveled to New York last April to speak before a group of Wall Street traders, it was already widely believed that he would soon be nominated as vice-chairman of the Federal Reserve Board. But instead of professing the anti-inflation views the Street expects of central bankers, Blinder, who once described himself as an "inflation dove," expressed skepticism that prices were about to surge. "He did everything to confirm everyone's worst suspicions," grumbles William Feezer, co-manager of government trading for Sanwa Securities USA.

That Blinder made few converts on Wall Street didn't deter President Bill Clinton from choosing the 48-year-old Brooklyn native to become the first Democratic appointee to join the Fed in 14 years. Indeed, the President picked him precisely because he isn't an inflation hawk. Now Blinder, a longtime Princeton University professor and a former BUSINESS WEEK columnist, is trying to win over a different group of skeptics: the other Fed governors and Reserve Bank presidents who set interest rates.

Blinder, one of the leading liberal economists of his generation, joins a board of avid inflation fighters who have engineered four interest-rate hikes since February and are poised to boost rates again. In the near-term, the new Fed vice-chairman will have a tough time persuading his colleagues to let up their relentless fight against inflation. Shortly after his nomination, one Fed governor told Fed Chairman Alan Greenspan that, as a young scholar, Blinder's writings made him appear soft on inflation, "but it's not that he's a communist." Greenspan jokingly replied: "I would have preferred he were a communist."

THE HIGHEST RUNG. But with inflation apparently under control, Blinder could become an influential voice within the Federal Reserve as it makes difficult choices between allowing growth and fighting inflation. And Blinder's views surely will gain support when he is joined at the Fed by another Clinton nominee and like-minded colleague, University of California at Berkeley economist Janet L. Yellen, who is awaiting Senate confirmation.

Some Administration officials are privately promoting Blinder as a possible successor to Greenspan, whose term as Fed chairman expires in March, 1996. And that prospect already creates political cross-pressures for him. "He needs to be an aggressive advocate of growth to please Clinton and a strong inflation fighter to please Wall Street," notes a former Administration colleague.

Blinder admits becoming chairman would be "a chance of a lifetime," but he plays down the possibility, noting that a vice-chairman has never moved to the top spot in the Fed's 81-year history. "I don't spend a lot of time thinking about it," he says. In the meantime, he vows he won't forsake his beliefs simply to appease traders whom he claims have unfairly miscast him as indifferent to inflation. Blinder's mentor, Nobel Prize-winning economist Robert M. Solow, puts it this way: "He is not willing to sacrifice the whole economy for a couple tenths of a point off the inflation rate."

Still, some Fed watchers believe one sign of Blinder's aspirations will be whether he dissents from Fed votes to tighten credit. To project leadership to the Street, they say, Blinder may feel compelled to argue his case but stick with the majority even when he disagrees. His first vote on the policy-making Federal Open Market Committee (FOMC) July 5-6 was easy--the board decided to sit tight for the time being. But the Aug. 16 meeting of the FOMC will be Blinder's first test, as pressure from Wall Street grows for the Fed to tighten credit again despite no clear signs of worsening inflation.

Certainly, Blinder is no stranger to bucking the prevailing wisdom. As an academic, he kept the Keynesian flame alive during the 1970s and 1980s, even as it fell into disrepute against such other camps as monetarism and the supply-side movement. "It was a lonely battle," says Blinder, who still proudly proclaims himself a believer in Keynesian economics, with its emphasis on managing the demand side of the economy.

In his extensive writings, which include a popular economics textbook and eight years of monthly columns for BUSINESS WEEK, Blinder has argued that policymakers exaggerate the perils of inflation. In his 1987 book, Hard Heads, Soft Hearts, Blinder likens inflation to a greatly misunderstood teenager, and he chides economists who have prescribed "the economic equivalent of lobotomy [high unemployment] as a cure for the inflationary cold."

FRESH FISCAL POLICY. So far, Blinder has slid easily into his new job, which has the cloistered feel and leisurely pace of college life. While his father was a businessman who dabbled in hotels, vending machines, restaurants, and textiles, Blinder sought refuge in academia with a 22-year teaching stint at Princeton, his alma mater. "One of the things I learned from my father was not to be a self-employed entrepreneur," he jokes. "It's a tough way to make a living."

At Princeton, Blinder made his name for research that questioned some widely held conventions of the "new classical" school, which viewed government attempts to smooth out the business cycle as doomed to failure. Blinder's work argued, by contrast, that changes in monetary and fiscal policy could have powerful impacts on economic growth.

Blinder made the leap to Washington last year when he became a member of Clinton's Council of Economic Advisers. Friends say he was deeply disappointed when he was passed over for CEA chairman in favor of a grad school classmate, Cal-Berkeley economist Laura D'Andrea Tyson, but he swallowed his pride and signed on as the CEA's macroeconomist. Within the White House, he won respect for his pragmatism and an ability to find consensus.

The question now is can he do the same thing at the Fed. It will be a tough balancing act to help set a monetary course while staying true to his Keynesian roots. But if he can help keep the economy headed toward moderate, low-inflationary growth, Blinder may earn the grudging respect of Wall Street--and get himself a promotion as well.

THE VICE-CHAIRMAN SPEAKS:

ON INFLATION

"I see very few inflationary pressures--not zero, but some. You're at functional price stability when people stop talking about inflation. By that definition, we're close, but not quite there."

ON THE FED'S SECRETIVE HISTORY

"The Fed could do a better job of explaining itself...informing the people. It's their economy, not ours....And if we can't explain our decisions, we haven't made good ones."

ON THE ECONOMY

"If I could tell you now that for the next 5 or 10 years, the economy would grow 2.5% and inflation would be 3%, every sensible person in America would buy on. Now that's not a prediction or a guarantee ...but it does look like we have a fighting chance to glide into it."

ON HIS REPUTATION AS AN `INFLATION DOVE'

"I don't intend to disavow any of the things that I said previously....I believe people should be judged by what they do. I will have a record, and I'm perfectly willing to be judged by that record."Dean Foust in Washington


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