Statement by Alan Greenspan, Chairman, Board of Governors of the Federal Reserve System, before the Subcommittee on Economic Growth and Credit Formation of the Committee on Banking, Finance and Urban Affairs, U.S. House of Representatives, February 22, 1994 - Transcript

Federal Reserve Bulletin, April, 1994

Statement by Alan Greenspan, Chairman, Board of Governors of the Federal Reserve System, before the Subcommittee on Economic Growth and Credit Formation of the Committee on Banking, Finance and Urban Affairs, U.S. House of Representatives, February 22, 1994.

I am pleased to appear today to present the Federal Reserve's semiannual monetary policy report to the Congress.

In the seven months since I gave the previous Humphrey-Hawkins testimony, the performance of the U.S. economy has improved appreciably. Private sector spending has surged, boosted in large part by very favorable financial conditions. With mortgage rates at the lowest level in a quarter century, housing construction soared in the latter part of 1993. Consumer spending, especially on autos and other durables, has exhibited considerable strength. Business fixed investment has maintained its previous rapid growth. Important components of growth in gross domestic product during the second half of last year represented one-time upward adjustments to the level of activity in certain key sectors, and with output in these areas unlikely to continue to climb as steeply, significant slowing in the rate of growth this year is widely expected. In addition, the southern California earthquake and severe winter weather may have dulled the force of the favorable trends in spending in January and February. Nonetheless, as best we can judge, the economy's forward momentum remains intact.

The strengthening of demand has been accompanied by favorable developments in labor markets. In the second half of the year, employment continued to post moderate gains, and the unemployment rate fell further, bringing its decrease over the full year to nearly 1 percentage point. The unemployment rate in January apparently declined again on both the old and new survey bases.

On the inflation front, the deterioration evident in some indicators in the first half of 1993 proved transitory. For the year as a whole, the consumer price index (CPI) rose 23/4 percent, the smallest increase since the big drop in oil prices in 1986. Broader inflation measures covering purchases by businesses as well as consumers rose even less. While declining oil prices contributed to last year's good readings, inflation measured by the CPI excluding food and energy also diminished slightly further, to just more than a 3 percent rate for the whole year. In January the CPI remained quite well behaved on the whole. Not all signs have been equally favorable, however. For example, several commodity prices have firmed noticeably in recent months. And indications that such increases may be broadening engendered a backup in long-term interest rates in recent days. In particular, the Federal Reserve Bank of Philadelphia's survey showing a marked increase in prices paid by manufacturers early this year was taken as evidence of a more general emergence of inflation pressures.

It is important to note, however, that in the past such price data have often been an indication more of strength in new orders and activity than a precursor of rising inflation throughout the economy. In the current period, overall cost and price pressures still appear to remain damped. Wages do not seem to be accelerating despite scattered reports of some skilled-worker shortages, and advances in productivity early this year are holding down unit labor costs. Moreover, although private borrowing has picked up, broad money--to be sure a highly imperfect indicator of inflation in recent years--has continued to grow slowly.

Nonetheless, markets appear to be concerned that a strengthening economy is sowing the seeds of an acceleration of prices later this year by rapidly eliminating the remaining slack in resource utilization. Such concerns were reinforced by forecasts that recent data suggest that revised estimates of fourth-quarter gross domestic product to be released next week will show upward revisions from the preliminary annual rate of growth of 5.9 percent. Rapid expansion late last year, it is apparently feared, may carry over into a much smaller deceleration of activity in 1994 than many had previously expected.

But it is too early to judge the degree of underlying economic strength in the early months of 1994. Anecdotal evidence does indicate continued underlying strength in manufacturers' new orders and production, but we will have a better reading on new orders on Thursday when preliminary data for January are released. The labor markets are signaling a somewhat less buoyant degree of activity as initial claims for unemployment insurance in recent weeks have moved up a notch. Clearly, the Federal Reserve will have to carefully monitor ongoing developments for indications of potential inflation or a strengthening in inflation expectations. As I have often noted, if the Federal Reserve is to promote long-term growth, we must contribute, as best we can, to keeping inflation pressures contained.

In this regard, a clear lesson we have learned over the decades since World War II is the key role of inflation expectations in the inflation process and in the overall performance of the macroeconomy. As I indicated in my testimony before the Joint Economic Committee last month, until the late 1960s economists often paid inadequate attention to expectations as a key determinant of inflation. Unemployment and inflation were considered simple tradeoffs. A lower rate of unemployment was thought to be associated with a higher, though constant, rate of inflation; conversely, a higher rate of unemployment was thought to be associated with a lower rate of inflation.