WASHINGTON -- "The Fed laid an egg yesterday," a corporate
economist commented last Wednesday after the Federal Reserve's decision to
leave interest rates unchanged. "The Fed blew it," a former governor of the
central bank told me the next day. Behind their criticism are signs that
Chairman Alan Greenspan was unable to exert his usual domination in an
economic climate of unreality, denial and apprehension.
Federal Reserve Chairman Alan Greenspan is such an icon that his
decisions now have become politically inviolate. Critics plead anonymity
rather than openly declare that the emperor wears no clothes. Last week's
performance by the Fed was followed by a momentary plunge in stock prices
but more significantly heightened the credit crunch. The spread between the
cost of money for start-up companies and high-grade corporations rose
ominously to 4.7 percent.
Most ominous are indications that Greenspan lost control of the
Fed last week. The wheels had been greased for a 25-basis point interest
rate reduction, to invigorate investors and lenders. Nobody is sure what
happened behind closed doors, but circumstantial evidence points to a
serious setback for the chairman.
The Fed's performance coincided with the Bush administration's
effort to promote economic optimism at its two and one-half hour economic
forum in Texas. Not a word was uttered there about interest rate spreads,
deflation or crunched credit. Nor did anybody acknowledge that the necessity
to reform corporate accounting may bring on excessive regulation adding to
the economic malaise.
While President Bush's invited forum participants at Baylor
University were echoing his sunny appraisal on C-SPAN's coverage, the Fed's
Open Market Committee (FOMC) was meeting in customary secrecy in Washington.
Prior authoritative word had been that Greenspan would probably cut rates
but, if not, decisively say reductions are not needed -- making sure he did
not fall between those stools.
This position was shared by New York Federal Reserve Bank
President William McDonough and Fed Vice Chairman Roger Ferguson. With that
threesome in agreement, the central bank's course seemed assured. Yet,
Greenspan seemed unable to exert his will.
Never in my nearly half a century of Fed-watching dating back to
William McChesney Martin has the central bank been so dominated by its
chairman. Bush has virtually ceded the power of filling vacancies to
Greenspan (who tapped a career Fed employee to fill a recent opening). With
that background, last week's outcome was a shocker.
The Fed indeed fell between those two stools: deciding not to
cut rates but announcing a new bias toward rate cuts in the future. The
FOMC's carefully balanced language hardly generated confidence. While
contending that its present posture "should be sufficient to foster an
improving business climate over time," the central bank concluded that "the
risks are weighted mainly toward conditions that may generate economic
weakness" based on "information currently available."
The Fed is one of the nation's least transparent governmental
institutions, but the unanimous vote for a compromise suggested to
Fed-watchers that Greenspan had his hands full with new Fed governors whose
views remain a mystery. The robust long-bond rally that followed this
equivocation signaled that Wall Street downgraded the central bank's
effectiveness, at least for now.
Apart from cross-currents inside the central bank, the Fed still
seems oblivious to problems of deflation and credit unavailability that are
compressing the real economy. The Fed's Board of Governors, traditionally
the home of bankers, is now dominated by professional economists (five of
seven governors) hand-picked by professional economist Greenspan. Had Bush
last year named country banker Terry Jorde of Cando, N.D., to the Fed as the
president's advisers wanted, at last one governor would understand real-life
business pressures. Jorde, however, was blocked by Greenspan.
Those pressures were not discussed at Waco and not reflected in
the FOMC. While Democrats assailed the feel-good summit, the Fed's flabby
performance generated no public criticism at all. No member of Congress was
recorded as commenting.
Federal Reserve inviolability has reached a new level amid deep concern
about the economy. Not only are the FOMC's deliberations so secret that not
even verbatim minutes are kept, its conclusions now are free from criticism
just when Alan Greenspan's mastery becomes questionable.