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Greenspan warns on negative impact of massive deficits

With just three months left before he leaves office, Federal Reserve Chairman Alan Greenspan raised a warning to Congress: The country could face "serious economic disruptions" if bloated budget deficits are not curbed.

The Fed chief's strong comments, made during an appearance Thursday before Congress' Joint Economic Committee, come after the government produced a US$319 billion budget deficit this year -- an improvement from the record amount of red ink registered last year but still the third-highest deficit on record.

In the short term, costs related to rebuilding after the trio of devastating hurricanes will make it harder to improve the nation's balance sheets, he acknowledged. In the long term, a huge wave of retiring baby boomers will put massive strains on government resources, he said.

No easy choices

"There are no easy choices. Easy choices are long gone," said Greenspan, whose 18-plus year run at the Fed comes to an end on Jan. 31.

Even as he sounded an alarm about the dangers that budget deficits pose to the country's long-term health, Greenspan struck a more positive note about the economy's current prospects after being jolted by the recent hurricanes.

Katrina, Rita and Wilma are likely to "exert a drag" on employment and production in the short term and may aggravate inflation pressures, Greenspan said. "But the economic fundamentals remain firm, and the US economy appears to retain important forward momentum," Greenspan said in his most extensive remarks thus far on the impact of the storms.

The Fed is keeping a close eye on high energy prices to make sure they don't spark broader inflation.

"We are very firm in the notion that this country should not visit the 1970s again in the way of inflation," Greenspan said, referring to a period where the economy was rocked by skyrocketing prices.

Drag on growth

Persistently large deficits will eventually push up interest rates, Greenspan said. Higher borrowing costs would weigh on the willingness of consumers and businesses to spend and invest and that could be a drag on economic growth, analysts say.

The Fed chief's appearance on Capitol Hill comes two days after the central bank boosted a key interest rate up to its highest level in more than four years to thwart inflation.

Oil prices briefly shot up past US$70 a barrel in late August, and gasoline prices topped US$3 a gallon before moderating. But home heating costs are expected to be much higher this winter than a year ago.

"I think people are going to be quite surprised at their heating bills this winter," Greenspan said.
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