- The Washington Times - Monday, January 3, 2000

Is it possible the Fed's arcane use of language has fooled even the vast army of Wall Street and news media Fed-watchers into missing an important new signal contained in its late December announcement?
Within that announcement, there seems to be a nugget or two that might infer a softer stance on future interest rate increases. Might the Fed be backing off from its recent attacks on growth and jobs?
From the Dec. 21 Fed press release that indicated no policy change in rates or bias, note the artful phrase "the committee remains concerned with the possibility that over time increases in demand will continue to exceed the growth in potential supply." Only a possibility? This is new.
A month earlier, in their 25 basis point tightening announcement dated Nov. 16, the operating phrase read "the expansion of activity continues in excess of the economy's growth potential." In other words, they believed so-called "excess demand" was in fact definitively present, so they tightened. Not a possibility, but a fact, at least in their view.
A month before that, in their tightening bias announcement of Oct. 5, the operating phrase stated "the growth of demand has continued to outpace that of supply." Again, not a possibility, but a fact, at least from the Fed's analysis (however misguided) of the economy.
Here's another interesting shift in language. In the October and November announcements, the Fed went out of its way to emphasize tight labor markets and the so-called decreasing pool of available workers.
However, in the Dec. 21 statement released at 2:15 p.m., the Fed made no mention of labor market tightness. Perhaps they are responding to the moderation of wage growth, which disproves the labor shortfall theory.
Or, maybe Greenspan & Co. actually read the recent Urban Institute study that shows a complete lack of factual evidence for the alleged Phillips Curve tradeoff between unemployment and wage growth among the 10 lowest and 10 highest state unemployment rates (see my article, "Wage trends begging Fed attention," in The Washington Times, Dec. 22, page A-21).
My reading of the Fed's language shifts, both what they put in and what they left out, suggests a kinder and gentler approach to year 2000 credit policy. In particular, the phrase "possibility that over time" could be interpreted as a softer statement of rising interest rate intentions than most observers seem to think.
From this, a case could be made that the central bank now is more inclined to adopt a wait-and-see attitude about next year's economy, inflation and interest rates. In a sense, they may be telling us that they've done their work for now taking back 1998's three rate cuts and they expect to chill out for a while to see how future events play out.
If so, then futures markets and bond traders who expect a 50 to 75 basis-point interest rate tightening early next year may be too pessimistic.
After all, reported inflation which I believe is still a more important Fed decision variable than unemployment or economic growth remains low. Fed fears of excess demand and labor shortages have not played out into higher inflation. Ultimately, without higher inflation reports, the Fed can have no brief against the rapid growth of the new information economy.
The latest 5.7 percent growth update for third-quarter gross domestic product was accompanied by a low 1.1 percent inflation rate. Strong growth and minimal price increases. What a great country. The overheating theory held dear by senior Fed staff and the platoon of demand-side economists on Wall Street is being blown out of the water.
What's more, the last 12 months' consumer price index, ex-energy, shows only 2 percent inflation, actually less than 1998's performance. Oil prices look to be peaking, and could ease toward $21 per barrel next year. If so, the overall CPI rate will slow markedly.
Fast-forward market-based inflation signs, such as low gold, trendless commodity indexes, a strong King Dollar and a very flat Treasury yield curve, all suggest that money is relatively scarce, not excessive.
In the price rule model developed long ago by classical Swedish economist Knut Wicksell, stable commodity and financial market indicators would suggest no need to change the central bank rate. In today's context, the current 5.5 percent fed funds rate is sufficient to restrain inflation.
Taking all this into account, let me wonder out loud whether Mr. Greenspan all along this year has been using Keynesian language ("excess demand") mainly to keep Laurence Meyer and the Phillips Curvers on the reservation. Think of it as team play, without public carping.
Meanwhile, the chairman himself pursues the undercover goal of an inflation-target price rule (though I wish he would announce this publicly). Sort of a clever CIA-type counterintelligence operation, not unheard of in the Washington bureaucratic turf wars (where intelligence is countered at every turn).
Then again, the great reality today is the technology-driven Internet economy that is throwing off massive economic and investment returns that are increasing intelligence and countering inflation (more money chasing even more goods and services). This is what the year-end Nasdaq rally is telling us; market prices contain more information than econometric forecasts.
The Internet is more important than the Fed, both now and for years to come. Possibly, Mr. Greenspan has come around to accepting this view, including the deflationary pricing central to the Internet model of the economy.
If so, then the Fed's wait-and-see message last month was an unexpected holiday season gift. Perhaps the chairman is not our Malthusian-in-chief after all.

Lawrence Kudlow is chief economist of CNBC.com and Schroder & Co. Inc.



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