Greenspan’s Preemptive Strike

In the fall of 1990, Fed chairman Alan Greenspan said publicly that there was no sign of a recession on the horizon. When the numbers came in, we found that at the time of Greenspan’s statement, the U.S. economy had already been in recession for a few months. If the last two months are any indication, there’s no chance of Greenspan making that mistake again.

In those two months, the Federal reserve has cut its target for the federal funds rate (the interest rate banks charge each other for borrowing) twice, to 5 percent, and has also cut the discount rate (the rate the Fed charges banks for overnight borrowing). The discount rate cut and the second fed funds rate cut came between Fed meetings, and helped spark the current rally on Wall Street. At the same time, various Fed governors have shifted their rhetorical stances, raising the specters of credit crunches and deflation, and emphasizing that the task now is not inflation-fighting, but rather keeping the U.S. economy out of recession.

Yet when the numbers for third-quarter GDP were reported on Friday, that same U.S. economy was shown to be growing at a brisk 3.3 percent, up from 1.8 percent in the previous quarter (when the General Motors strike hurt growth). American consumers continue to spend at an almost hysterical rate (the U.S. savings rate is now actually negative, for the first time since the Eisenhower years), and unemployment remains low, although layoff announcements are up sharply from last year. Certainly the stock market seems to have shrugged off its concerns about slumping corporate profits. There’s no recession priced into the Dow at this point. So what was Greenspan worried about?

In the simplest terms, he was worried about not staying ahead of the curve. There are aspects of the third-quarter numbers that are potentially worrisome, including a slowdown in capital spending and a widening of the trade gap to a remarkable $262 billion. And while consumer confidence remains high, businessmen seem much less sure about the future. Today, the National Association for Purchasing Managers Index was released, and the number was below 50, which is generally interpreted to forecast a future contraction in manufacturing. A number of high-profile companies–including Merrill Lynch–have publicly announced that they’ll be cutting back on capital spending. And a number of Fortune 500 corporations have announced layoffs that would seem to make sense only if a recession is in the cards. Greenspan would like these signs of trouble to remain just that: signs.

Still, there’s something striking about how quickly the Fed has moved (and may still move again in a couple of weeks, although the stock-market rally and the GDP numbers make that less likely). Not that a looser monetary policy doesn’t make sense. But Greenspan built his reputation as an inflation hawk, and many of the Fed governors are far more conservative on that issue than he is. For the Fed to slash rates in the face of a still healthily growing economy suggests either that we should be really worried about the next year or that Greenspan figures that a strong move at the beginning will avert the necessity for more drastic moves at the end.

Though this sounds odd, there’s something oddly comforting about the Fed’s recent actions, because they suggest that Greenspan recognizes the extent to which the business cycle has not yet been eradicated, and the degree to which economic growth requires nurturing and attention. As recently as a year ago, we heard a lot about the eradication of the business cycle. And the speed with which U.S. corporations are adjusting to the global slowdown–trimming inventories, changing business plans, cutting spending–is testimony to the way in which new technologies and new management structures have lessened the likelihood of recession. But that likelihood has not disappeared, and Greenspan’s rate cuts are a necessary reminder that the problem of the business cycle remains a central, and not entirely solved, concern of any modern economy.