Fed considers unusual economy

May 17, 1994|By New York Times News Service

WASHINGTON -- An unusual pattern of growth has emerged in the U.S. economy in the last few years that poses a predicament for the Federal Reserve as its top officials gather here today to decide whether to continue raising short-term interest rates.

For the first time since the late 1940s, the economy is growing strongly despite a sustained drop in purchasing by federal, state and local governments.

The private sector is the only engine of growth in this recovery, unlike every other recovery in the last four decades, in which government spending accounted for at least part of the expansion.

The Federal Reserve must decide whether to brake that engine by raising interest rates sharply on the theory that such action will prevent future inflation, or whether to do little or nothing for fear that higher interest rates together with falling government spending could halt economic growth.

The betting of many economists is that Fed officials will raise short-term interest rates today, because concerns about the braking effect of lower government spending are balanced by ...Z...ZTC desire to reassure bond and foreign exchange markets that inflation is under control.

Higher rates would cause consumers to pay more for adjustable-rate mortgages and car loans.

Through the boom of the Korean War years, the rising prosperity of the late 1960s and the prolonged growth of the mid-1980s, government spending was a big part of economic expansion.

But primarily because of a sustained drop in military spending that began late in the Bush administration and continues under President Clinton, as well as other budget cuts, total government purchases, adjusted for inflation, have edged down slightly each year since 1991.

During the first quarter of this year, the private sector, including consumer spending, investment and net exports, grew 4.3 percent, as interest rates, still relatively low by recent standards, helped produce strong sales of everything from bulldozers to cellular telephones.

The overall economy, however, grew only 2.6 percent, dragged down by a 6.2 percent drop in government purchases of goods and services.

The first-quarter drop in government spending was particularly sharp because bad weather appears to have slowed state and local government construction severely, and because deliveries of some military goods were delayed.

Yet the first quarter was not a fluke. Adjusted for inflation, government purchases shrank nearly 1 percent from 1991 to 1993.

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