Subtle Message to Fed: Let Interest Rates Be

The Clinton administration has had a longstanding policy of not commenting on Federal Reserve issues. Joseph Stiglitz, chairman of the President's Council of Economic Advisers, refuses to take journalists' questions on the subject.

But that hasn't prevented Mr. Stiglitz from arguing that a rebirth of inflation is unlikely, in effect saying the Fed needn't raise interest rates - and thus debt costs of consumers - when its policymakers meet Tuesday in Washington.

When unemployment dropped to 5.1 percent of the labor force in August, the lowest level since 1989, many on Wall Street speculated that the Fed would boost short-term interest rates to slow the economy and discourage inflationary wage increases.

But in a talk to a meeting of the National Association of Business Economists in Boston this week, Stiglitz noted that there has been "no significant tendency for inflation to increase," despite the fact that unemployment has been less than 5.6 percent for almost two years. Fed economists used to argue that when unemployment dropped below 6 percent, inflation would accelerate. The consumer price index has been rising about 3 percent annually, and the broader inflation measure for the whole economy, the gross domestic product deflator, has been increasing 2.2 percent.

Moreover, Stiglitz said, some parts of the nation, such as Oregon, have been enjoying even lower unemployment - 4 percent. Perhaps, he said, this means the economy can operate at even lower levels without kicking off inflation.

Stiglitz further argued that a slowdown in housing starts could help return the economy to its long-term potential growth rate, avoid overheating, and leave unemployment in the "mid- or low-fives." And more job training, pushed by the Clinton administration, could help the economy operate at lower rates of unemployment without causing inflation.

At the same time, he boasted, "The economy is as strong as it has been for three decades."

The administration does not attack Fed policy publicly because it does not pay politically to do so. It makes some investors, particularly those in bonds, anxious that political pressure could upset the Fed's anti-inflation stance. Also, Clinton and his top economic officials can express their views at regular meetings with Fed chairman Alan Greenspan or other Fed officials. Public criticism, it is thought, may prompt Fed policymakers to be even tougher to demonstrate their independence from the White House.

Two Fed policymakers, speaking at the Boston conference, did not show their hand entirely on the interest-rate hike question.

"I think the economy is slowing," said Laurence Meyer in his first public remarks since joining the Fed as a governor in June. "But the jury is still out on whether it's slowing enough to get the job done." He indicated the Fed should tolerate some inflation if it keeps employment rates high.

"We are in a circumstance in which a prudent central bank must exercise heightened surveillance of the inflationary risks and stand ready to respond if necessary," he added.

He was echoed the next morning by Cathy Minehan, president of the Federal Reserve Bank of Boston: "More than ever, it is a time for considerable vigilance at the Federal Reserve."

Stiglitz offered a long list of good economic news for which he says the administration "deserves a lot of credit." He spoke of the 4.8 percent annual rate of real growth in national output in the second quarter of this year; business profits amounting to 8.7 percent of gross domestic product, the highest in 28 years; unemployment among black males at 8.2 percent, the lowest since 1970; more than 10.5 million jobs created since Clinton took office in January 1992; the misery index (a combination of inflation and unemployment) at its lowest level since the 1960s; and corporate downsizing back to levels before the 1990-91 recession.

Contrariwise, Republican nominee Bob Dole, in his campaign ads, criticizes Clinton for his management of the economy.

But many economists figure the Fed is a more important influence on the economy than any White House occupant.

The Fed, they note, controls short-term interest rates, and, to some degree long-term rates. Fed policy largely determines the rate of inflation through its control of the nation's money supply.

The Fed influences the growth rate of the economy during business ups and downs. But most economists figure technology, growth of the labor force, education, and other factors are more important over the long run than the Fed. Economists, noted Fed president Minehan, "are not sure of how to return the economy to the rate of growth we enjoyed in the 1950s and 1960s."

Daniel Bachman, chief economist at the WEFA Group in Eddystone, Pa., credits Clinton with reducing the federal deficit through the 1993 tax hike.

Allen Sinai, of Primark Decision Economics Inc., Waltham, Mass., praises the administration for "leaving the Fed alone," for following a free-trade policy, and for its financial rescue of Mexico. The Fed, he says, should get credit for its preemptive move to stop an inflationary boom in 1994 and thereby enable the recovery to continue.

Stiglitz says a Democratic administration that is pro-market gave business confidence.