- The Washington Times - Sunday, December 1, 2002

Under the unassailable rubric that a 4 percent economic growth rate is better than 3 percent, this week's upward revision of third-quarter economic activity was welcome news. Yet, even the better-than-expected adjustment in the growth rate of gross domestic product (GDP), coupled with an increase in consumer confidence announced the same day, failed to prevent the S&P; 500 from falling more than 2 percent on Tuesday. No wonder one economist described America's economic landscape as "a Rodney Dangerfield economy it's not getting any respect."
Indeed, there seems to be little reason for unbridled enthusiasm. There has been an undeniable slowdown in the economy in recent months. Industrial output fell 0.8 percent in October, its third successive decline, as unused capacity increased to 24.8 percent. The Federal Reserve's Beige Book, released Wednesday, reported that "economic activity grew slowly, on balance, in late October and early November." Even service-industry activity was "generally sluggish." As unused capacity continues to exert inexorable pressure on prices, the specter of deflation continues to seriously threaten the economy.
On the bright side, America's consumer led the way last quarter. Personal consumption was responsible for nearly three-fourths of the third-quarter's 4 percent annual growth rate of GDP. And, nearly 60 percent of the increase in consumption was attributed to brisk auto sales, which occurred mostly during the first half of the quarter.
On the same day that the Commerce Department reported its GDP revision, the National Association for Business Economics (NABE) slashed its forecast for fourth-quarter growth to 1.4 percent, half the rate of growth it projected two months earlier. For the first quarter of 2003, NABE reduced its projected growth rate from 3.3 percent to 2.5 percent. At those lackluster rates, the unemployment rate will likely increase, calling to mind the jobless recovery that evolved following the 1990-1991 recession.
The Conference Board's consumer-confidence index increased from 79.6 in October, when it was at its lowest point in nine years, to 84.1 percent in November. It's worth noting, however, that the index hovered above 110 as recently as the second quarter and approached 120 before last year's terrorist attacks. With the revised GDP figures for the third quarter revealing that business investment declined for the eighth quarter in a row, the economy clearly exhibits an unhealthy reliance upon the spending habits of consumers, irrespective of their professed confidence levels.
What would happen if debt-burdened households actually reacted to their relatively low-confidence levels by comparably reducing their spending over a prolonged period? Well, as they viewed no doubt with horror the dramatic slowdown in economic activity during the second half of the third quarter, the policymakers at the Federal Reserve were clearly not interested in finding out.
With 25 basis points (one-quarter of a percentage point) representing one bullet of ammunition, the Fed earlier this month fired off a couple of rounds, discharging two of the remaining seven bullets from its federal-funds monetary-policy clip. It was surely the right action to take.
No sooner had the Fed reduced the overnight federal-funds rate from 1.75 percent to a 41-year low of 1.25 percent than its governors, including Fed Chairman Alan Greenspan and recently arrived intellectual bigfoot Ben Bernanke, began fanning out and screaming to the markets that the Fed, in fact, had much more ammunition remaining than commonly assumed. In Mr. Greenspan's Nov. 13 testimony before the Joint Economic Committee and Mr. Bernanke's follow-up interview with the Wall Street Journal, both central bankers emphasized that the Fed could still pursue an expansionary monetary policy even after it had reduced the federal-funds rate to zero. The Fed, for example, could purchase longer-term bonds in the market; it could buy foreign-government securities, driving down the value of the dollar; and it could lend directly to banks through its regional discount windows. The Fed could even finance an expansionary fiscal policy by buying bonds issued by the federal government.
Though the Fed is reluctant to admit it, there clearly is a whiff of deflation in the air. Mr. Greenspan, for example, insisted that he himself found it "extraordinarily remote" that the overnight federal-funds rate would reach zero. In his testimony, moreover, he emphasized the Fed's conclusion that the U.S. economy is "not close to a deflationary cliff." But Mr. Greenspan and his colleagues know that Japan has already fallen off that cliff. And, the third-quarter GDP revisions revealed that prices received by nonfinancial corporate businesses had declined for the fourth quarter in a row the first time in more than 50 years.
Notwithstanding the calm demeanor the Fed displays in public, it commissioned a report earlier this year that criticized Japan for delaying the pursuit of an extremely aggressive monetary policy until after deflation had taken hold. That probably explains the Fed's recent pre-emptive action. Acknowledging that it is "easier to contain inflation than to contain deflation," Mr. Greenspan is wise to use his soothing rhetoric to calm the markets as long as he remains ready to fire at will.

Sign up for Daily Newsletters

Manage Newsletters

Copyright © 2019 The Washington Times, LLC. Click here for reprint permission.

Please read our comment policy before commenting.


Click to Read More and View Comments

Click to Hide