Pre-emptive strike economics Interest rate hike: Federal Reserve acts to head off pressures that could lead to inflation.

March 26, 1997

FEDERAL RESERVE chairman Alan Greenspan's reputation as a skilled manager of monetary policy is such that Wall Street would have been disappointed had he not raised short-term interest rates by a modest quarter-percent yesterday.

He had prepped the markets for such a pre-emptive strike against future inflation beginning with his December admonition against "irrational exuberance" on the part of investors and his warning that soaring share prices could be a factor in overheating the economy.

Mr. Greenspan has his detractors who still blame him for precipitating the 1987 stock market crash and the 1990-91 recession with interest-rate policies that depressed economic growth. But his success in modulating the long recovery that started the following year has so enhanced his image that he can now count public relations mastery among his personal assets.

Because the Fed chairman is so adept at phraseology that jolts as well as confuses, there is a tendency to overlook the really revolutionary impact he has had on monetary policy. Beginning in February 1994, he roiled strong-growth advocates (liberal Democrats as well as supply-side Republicans) by doubling short-term interest rates, from 3 percent to 6 percent, over a period of 17 months. His argument, highly unorthodox at the time, was that by heading off future inflationary pressures he could prolong the upward trend of the U.S. economy. Cries that he was precipitating a recession faded as a slow, steady recovery marked by low inflation, low unemployment and a subsequent paring down of interest rates set records for longevity.

Wall Street had the flat year Mr. Greenspan wanted in 1994 but the payoff came in 1995 and 1996 as the Dow Jones Index soared along with the profits of financial houses. The process converted Mr. Greenspan into a guru whose "pre-emptive strike" philosophy suddenly became common wisdom. Thus, the rather contented, ho-hum market reaction to his latest move -- probably the first of a series of small rate hikes the Fed "viewed as a prudent step that affords greater assurance of prolonging the current economic expansion."

Monetary policy is more an art than a science, but until Mr. Greenspan is found to be grossly wrong in his actions and analysis, he deserves the support of the public, the administration, the markets -- and even his critics.

Pub Date: 3/26/97

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