Tuesday, March 23, 2004

The Neutral Alan Greenspan?

An interesting question: Is Alan Greenspan as neutral and objective as he's supposed to be as the Fed chairman? Why is he holding the trend-setting federal funds rate at one percent? Is it because this is the right thing to do, given that hiring is still 'lagging' as the polite way puts it? Consider this:

Many economists don't expect the Fed to move up until the fall of 2004, and possibly not before the U.S. presidential election in early November.
But a few analysts, and even some of the 12 members of the Fed's interest rate-setting committee are growing uneasy about the easy money policy. They worry that keeping rates this low for much longer may cause a speculative bubble, in stocks and real estate, that could be hard to burst without inflicting collateral damage.
"Some members of the [committee] are already expressing concern that policy is remaining too loose for too long," said BMO Nesbitt Burns chief economist Sherry Cooper.
"There is increasing evidence that U.S. inflation has finally touched bottom and is beginning to stir.

There is indeed a bubble in the housing markets, and such bubbles have the unfortunate tendency to burst. When this happens, the consequences can be dire. Think of adjustable mortgage rates being adjusted upwards; think of suddenly owning a house with a lower sale price than your remaining mortgage payments, think of the chain-effects from this to other consumer markets, think of all those people who took out loans on the inflated value of their houses. As much as $3 trillion might vanish like a puff of hot air into the cold skies of a new recession.

The low value of the dollar is also creating inflationary pressures, and traditionally the Fed has viewed inflation as the worst possible outcome, and it has" even triggered recessions in order to fight real or imagined threats of even small increases in the rate of inflation." But not this time.

This time Alan Greenspan is reluctant to move, perhaps because he has truly decided that weak labor markets are more important than fighting housing market bubbles or inflation. Or perhaps because:

...Mr. Greenspan clearly doesn't want to be seen to be interfering in the coming election. As a result, there will likely be a rate hike blackout period between July and the November election...

But this is illogical: A rate hike blackout period is what the current administration most desires. I bet that it's the number one topic in many of the Bush prayer circles. How is doing the bidding of the Republicans 'not interfering' in the coming election? How is trying to guarantee that the housing bubble won't burst until AFTER the election good for objectivity?

I'm not convinced of Greenspan's nonneutrality yet, but I'm going to keep an eagle's eye on him from now on.