Greenspan's Looming Dilemma


By Rich Miller Back in the summer of 2002, a confident Federal Reserve Chairman Alan Greenspan said he was looking forward to a second-half pick-up in the economy. But then corporate chieftains got a case of the willies. Hit by a spate of boardroom scandals and a sinking stock market, they held back on spending and hiring. As a result, the much-anticipated revival didn't materialize in the final six months of that year.

Now, there's some concern at the Fed that the same sort of thing may be happening again. On Aug. 6, the Labor Dept. reported that Corporate America added a mere 32,000 workers to their payrolls in July, when Fed and Wall Street economists had been expecting about 200,000. Coming in the wake of a subpar 78,000 addition to payrolls the month before, the July number raised the possibility that corporate execs may once more be turning cautious, this time in response to skyrocketing oil prices and renewed terrorism threats (see BW Online, 8/6/04, "Jobs: July's Stunning Disappointment")

So does that mean that the Fed will forego raising interest rates at its policy-making meeting on Aug. 10? Probably not. With an increase in short-term rates widely expected, the Fed would run the risk of stoking corporate unease about the state of the economy if it held off from tightening credit. A quarter percentage point rate rise, on the other hand, would be taken as a sign that Greenspan & Co. remain confident -- and it might even help allay some of the apparent anxiety in corporate boardrooms.

UPBEAT STATISTICS. Those same sorts of considerations argue against any substantive change in the closely scrutinized statement announcing the Fed's rate decision. Sure, the central bank will acknowledge that the economy has hit a soft patch. But the statement is likely to maintain, as Greenspan argued in Congressional testimony in July, that the slowdown will be short-lived. It's also likely to reiterate that the risks to the economy between faster inflation and slower growth are "roughly equal" and repeat the intention to raise rates in a "measured" fashion.

Right now, there's enough data out there to justify that kind of assessment. Auto sales rebounded smartly in July in response to stepped-up incentives from car makers. Manufacturing activity looks to have increased, based on a survey by the Institute of Supply Management. And consumer confidence remains high, with consumers telling the Conference Board that jobs are becoming easier, not harder, to get.

But the slowdown in hiring as reflected in the government's employment report is a worry. If it continues into August, then there starts to be a good chance that the Fed will refrain from raising interest rates at its Sept. 21 meeting. Until then, though, the central bank is likely to keep its concerns about corporate caution to itself, cross its fingers, and hope for the best. Miller is senior writer in BusinessWeek's Washington bureau


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