Tue, Jun 05, 2001 page21

• Greenspan says inflation not a problem

  IGNORING INDICATORS According to the US Fed, rising labor costs, falling productivity and higher energy prices are merely cutting into profit margins

  • BLOOMBERG
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  Inflation is not a threat to the US economy because businesses are absorbing higher labor costs and energy prices, US Federal Reserve Chairman Alan Greenspan said.

  While that has hurt profit margins, cost pressures should ease as energy prices fall over the coming months, he said.

  

  US Federal Reserve Chief Alan Greenspan listens to a question at the International Monetary Conference 2001 in Singapore yesterday. Greenspan was linked to the meeting from Washington via video conferencing.

  PHOTO: AFP

  With inflation contained, the Fed has latitude to lower interest rates further to boost growth if necessary. The US economy expanded at just a 1.3 percent annual pace in the first quarter after growing 5 percent in 2000.

  "Inflation is not a significant problem at this moment," Greenspan said, speaking by satellite link from the US to the International Monetary Conference in Singapore.

  That's so despite rising labor costs, declining productivity and higher energy prices, Greenspan said. Companies in the past were able to pass such costs on to consumers by raising prices.

  "What we see however at this moment is a fairly extraordinary lack of pricing power in the American economy, which means, in effect, that the cost increases are not being followed through into significant pressure in prices but rather on profit margins," he said.

  Analysts expect earnings for the companies in the Standard & Poor's 500 Index to decline 3.3 percent this year, according to First Call/Thomson Financial.

  The Fed's policy making Open Market Committee has cut the benchmark overnight bank lending rate by 2.5 percentage points in five moves since the first of the year. At 4 percent, the overnight rate is at its lowest in seven years.

  A majority of Wall Street economists polled by Bloomberg News on Friday expect the FOMC to cut the overnight rate another quarter point on June 27. Of the 25 primary dealers surveyed, 19 are calling for policy makers to lower the central bank's target rate to 3.75 percent at their June meeting.

  Bonds were little changed in Asian trading after Greenspan spoke, with the yield on the 10-year Treasury note at 5.4 percent.

  "It's confirmation that inflation is not a constraint on the Fed to move," said James Malcolm, a senior economist at J.P. Morgan Securities in Tokyo. Morgan economists expect the Fed to reduce the fed funds by another 50 basis points on June 27.

  The strength of the dollar is evidence that inflation is not a short-term concern, Greenspan said.

  "Obviously our exchange rate is firm and rising and that is not the type of thing one would ordinarily envisage in the context of inflationary pressures," he said.

  A fall in short-term interest rates, particularly for corporate bonds, also shows investors don't see inflation on the horizon, either, Greenspan said. "As best we can judge at the moment there is very little in the way of emerging short-term inflation expectations" in financial markets, he said.

  Yields on longer-term bonds are higher in part because the US is buying back longer-dated Treasury securities, driving their value higher, he said.

  Still, investors are expecting inflationary pressures to rise in the future as the economy recovers, he said. That's reflected in the spread between rates on 10-year Treasury notes and their inflation-indexed counterparts. The spread has risen about half a percentage point since mid-March.

  The long-term potential for inflation "is clearly something we are watching closely," Greenspan said. "Should we fail to watch this process we are inviting trouble and that is not what we would like to see." Energy prices, which have acted like a tax on companies and consumers, haven't received enough attention as a cause of the economic slowdown in the US, Greenspan said.

  As oil and natural gas prices ease, however, "there will be an easing in pressure on profit margins in this quarter from energy prices," he said.

  Energy costs, which account for about a tenth of the consumer price index, rose 1.8 percent in April, compared with a 2.1 decline in March. Fuel oil prices decreased 2.1 percent and the cost of natural gas declined 1.6 percent.

  The price of gasoline surged 5 percent, though, the largest increase since a 6.1 percent increase in September of last year. That should reverse in the months ahead, Greenspan suggested.

  "Gasoline inventories are filling and forward prices are down," he said. "There has been a flattening in retail gasoline prices after rises in the last couple of years." The GDP deflator rose 3.2 percent in the first quarter of the year, up from a 2 percent increase in the fourth quarter of 2000.

  The personal consumption expenditures price index, a measure of inflation tied to consumer spending, rose at a 3.3 percent annual rate, after a 1.9 percent gain in the fourth quarter.

  The Fed expects the PCE index to rise by 1.75 percent to 2.25 percent this year, following a 2.4 percent increase in 2000, when measured from fourth quarter to fourth quarter. Last year's increase was largest since 1993.
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