Greenspan Still Targeting Tight Labor Markets, Not Stock Markets

Alan Greenspan does not hate the stock market.

But that doesn't mean the Federal Reserve is finished doing its job.

In his semi-annual (former) Humphrey-Hawkins testimony today, the Fed chairman listed myriad factors that the Federal Open Market Committee believes are contributing to a recent slowing in the economy.

Though the markets are rallying today, the Fed chairman's carefully balanced testimony doesn't proclaim victory in achieving a "soft landing," in which growth slows without the economy plunging into recession. Greenspan was less hawkish than some economists expected, but the speech still leaves the Fed open for another possible rate hike at the Aug. 22 Fed meeting, the chances of which are currently viewed as a toss-up.

"He didn't give away any hands for August," says Diane Swonk, deputy chief economist at Bank One, who maintained her prediction the Fed will not raise rates in August. "But you walk away from it, and you don't get a sense they're done. The process of slowing has begun, but there's been more recent signs in terms of inflation, and so there's uncertainties going forward."

When the Fed began raising interest rates last June, at first Wall Street saw it as taking back the three rate decreases of late 1998. But with further rate hikes came more criticism, as investors felt Greenspan was attacking the stock market due to the incredible surge in equities near the end of 1999. Greenspan didn't help, sounding off on several occasions about inflated asset values (attempting to influence the stock market has never been his strong suit).

But the Fed was most worried about potentially dangerous imbalances -- exceedingly tight labor markets and what it believed was unsustainable consumer demand. Were it not for high levels of productivity, which enabled companies to meet demand, the economy could have gone completely off track, causing high inflation and, eventually, recession. The Fed, worried that productivity improvements could not be sustained, got pre-emptive, and hiked the target fed funds rate to 6.50% from 4.75% in less than a year.

Acknowledging a Slowing

Now, the pre-emptive period may be near its end. Greenspan was tentative in today's testimony, although he pointed out a number of factors contributing to the slowdown.

"Greenspan does believe that the policy tightening phase is nearing an end," says Paul Kasriel, chief U.S. economist at Northern Trust. "He does spend a lot of time arguing that there is a slowdown for real."

Some of the evidence:

• The core Consumer Price Index, the market's broadest measure of consumer inflation, has ticked up to 2.4% in June 2000 from 2.1% in June 1999, but it's moving very slowly.

• The last two monthly employment reports have reflected a slight easing in labor-market tightness, although it remains historically tight.

• Spending has slowed in recent months as well -- the June housing starts reported today hit their lowest level in more than two years.

However, as the chairman said, "it is certainly premature to make a definitive assessment of either the recent trends in household spending, or what they mean."

Greenspan highlighted the tightness in labor markets as an ongoing concern, despite the emerging signs of slowing. And he remained concerned about other factors, such as high energy prices and the heavy trade deficit, that could cause imbalances in the future.

But he was less concerned about the stock market, which has already taken care of itself. While the Dow Jones Industrial Average was influenced by Greenspan's harsh words in the first few months of the year, the Nasdaq didn't respond until a greater realization that the Internet wasn't going to create free money for all. Since then, the Nasdaq's rise has been much more inhibited.

That should continue -- economic growth is expected to slow from the pace of the previous few quarters. The availability of credit has diminished due to higher interest rates and tighter lending standards. Consumers may be less willing to step out and make big-ticket purchases now that the value of their equities has decreased, and they're putting a greater percentage of their disposable income toward debt (mortgage payments, credit cards) than in 12 years.

In and of itself -- without any phantom enmity from Greenspan -- that's going to hold back the market.