January 25, 2005 02:04 PM
Deficits May Be Wearing Thin at the Fed
Excerpt: But as President Bush embarked on his second term last week, it was hard to escape the sense that his longtime honeymoon with the Federal Reserve may be ending.
THEY are only low-level rumblings, oblique signals of discontent that are stripped of any direct political threat.
But as President Bush embarked on his second term last week, it was hard to escape the sense that his longtime honeymoon with the Federal Reserve may be ending.
The Fed and its chairman, Alan Greenspan, have arguably been Mr. Bush's most important economic supporters. Mr. Greenspan gave his blessing to the Bush tax cuts of 2001 and, less enthusiastically, to those of 2003.
Despite Mr. Greenspan's reputation as a staunch opponent of fiscal deficits, he tiptoed around criticism of the soaring federal debt that Mr. Bush ran up in his first term and will almost certainly continue to run up in his second.
Perhaps most important, the Greenspan Fed cut interest rates and showered the nation with cheap money to soften the recession of 2001 and to keep consumers spending through nearly three years of rising unemployment.
But something new is afoot, and it is not just that the Fed is raising rates back to more normal levels. So far, a measured pace of rate increases has merely reflected the Fed's increased confidence that economic growth is on a steady course.
The new element is a rising concern at the Fed about the nation's imbalances: the federal deficit, which hit $413 billion in 2004; a low and declining national savings rate; evidence of speculative behavior among investors and consumers; and the country's enormous trade and financial deficit with the rest of the world.
In November, Mr. Greenspan noted that foreign claims on United States assets - essentially the nation's net indebtedness to the rest of the world - were now equal to one-quarter of the nation's gross domestic product. The trade deficit this year is almost certain to exceed $600 billion - nearly 6 percent of the nation's economy, and still climbing.
"This situation suggests that international investors will eventually adjust their accumulation of dollar assets or, alternatively, seek higher dollar returns to offset concentration risk," Mr. Greenspan said. That, he continued, would make the cost of foreign debt "increasingly less tenable."
To most economists, such comments are simply a statement of time-honored truth: a borrower who runs up huge debts will become a bigger risk to lenders and gradually have to pay higher rates. But Mr. Greenspan's comments also carried a warning: rising budget and trade deficits come at the price of higher interest rates.
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