Letter to the Editor, The Washington Post, sent on March 25, 2000

To the editor:

     Your alarmist editorial "The Fed's Broken Lever" [March 25] could hardly have been farther off the mark.  I expect that Alan Greenspan would be quite surprised to hear that the Fed's recent interest-rate increases have been "attempts to deflate Wall Street."  Despite Greenspan's famous line about "irrational exuberance" in the stock market, the Fed knows a bit better than to try to curb stock-market speculation by raising interest rates.  That move didn't work so well in the late 1920s -- in fact, many economic historians believe it to have been the catalyst for the Great Depression -- and the Fed isn't about to repeat it.

     As even the most casual Fed-watcher should have noticed by now, the Fed's obsession is inflation, not stock prices.  The Fed has justified virtually every recent rate hike with concerns that recent rapid economic growth may generate inflationary pressures.  The surges in stock and bond prices that followed last week's latest rate increase likely reflect investor confidence in the Fed's anti-inflation efforts and relief that the rate increase was no larger than anticipated.  To say that those surges mean the rate increases have been ineffectual is folly:  as any recent loan applicant could tell you, bank mortgage rates and the prime interest rate move almost in lock-step with changes in the Fed's main rate target, the federal funds rate.  Increases in those rates surely do raise the cost of borrowing money and, in due time, are likely to affect the aggregate level of interest-sensitive spending (especially durable-goods consumer spending).  To pronounce the latest rate increase a failure after just three days is, to say the least, premature.

     Your final point that "consumer-price inflation is running at twice the level of a year ago," while true, is completely specious.  You neglect to mention that the recent inflationary spike is almost entirely due to higher energy costs, which, as in previous oil shocks, are the result of OPEC, not a raging U.S. economy.  The more reliable "core" rate of inflation, which excludes food and energy costs, has not budged from its rate of a year ago (2.1 percent).  Moreover, the industrial capacity utilization rate, a closely watched measure of how extended the economy is, is at a very moderate 81.7%, well within historical norms and lower than it was in every single month of 1994-97.

     Economics may be the "dismal science," but your editorial goes beyond reasonable pessimism and enters a whole new realm, in which a surging U.S. economy and stock market are seen as little more than occasion for hand-wringing.

Ranjit S. Dighe
Department of Economics
State University of New York at Oswego
Oswego, NY  13126