As examples, note that in last week's archive installment we read that Greenspan testified in July 1990 that he thought the chances of the US economy having a recession that year were low (though the US economy was actually sliding into recession that very month); or note that in December 2000, the average forecast for economic growth in the year 2000 was 5.1% and for 2001 was 3.1%, whereas in reality it was just over 2% in 2000 and the economy spent most of 2001 in recession.
So let's take a look at what a contemporaneous reading on the health of the economy looked like as the US economy was just about to move into recession in mid-1990 (the official NBER start data of that recession was July 1990). From US News & World Report, May 14, 1990:
Inflation, jobs and interest rates: Dangerous territoryThere are some similarities between the state of the US economy today and the economy in May 1990, but also some important differences. If you think that the similarities outweigh the differences, then you might be in the camp that argues that the US is on the brink of recession. Myself, I think that the signs of weakness in the US economy were more obvious in May 1990 than they are today, which suggests to me that we are more than just a month or two away from entering recession.
The job of Federal Reserve chairman is often called the second most powerful in America, but there are times when it hardly seems worth the aggravation. This must be one of those times for Alan Greenspan. Inflationary pressure appears to be building just as the economic expansion, now nearly 8 years old, seems to be reinventing itself once again -- and the Fed is getting unsolicited advice from some quarters to cool things down by raising interest rates. But when the Fed's principal policy group meets next week, the outcome will almost surely be a decision to keep rates more or less at current levels.
Several factors are influencing the nation's money managers. Even though some indicators suggest a sudden new spurt in the expansion, by other measures the rate of economic growth is slowing down. Raising rates now would only increase the risk of recession and add to a federal deficit that already is widening because of a decline in revenues.
Perhaps more important, the financial markets are tightening credit without any help from the Fed. When interest rates rise abroad, as they have lately, rates must rise in U.S. financial markets as well if inflow of foreign capital -- crucial to the financing of the federal deficit -- is to be maintained; in effect, America has lost a fair measure of control over long-term interest rates, which have increased by more than a point from their December trough. The yield on the bellwether 30-year Treasury bond is up to around 9 percent from 7.9 percent. Before squeezing credit even more, the central bank wants time to assess the impact of the rate run-up. As Lyle Gramley, a former Reserve Board member who is now chief economist for the Mortgage Bankers Association of America, puts it, "Why should the Fed risk tightening when the market has already tightened?"
The Fed managers also do not believe that the inflation figures are quite as ominous as they seem. The consumer price index soared at an 8.5 percent annual rate in the first quarter, the swiftest quarterly rise in eight years and nearly double 1989's 4.8 percent rate. But central-bank experts blame much of the price surge on quirky weather patterns and other special factors. December's cold snap destroyed crops and depleted energy supplies, pushing up retail prices for food and fuel in January. The food-price spiral continued into February and March. The early introduction of spring fashions also fanned inflation with expensive price tags, which should be discounted in time. As these transitory factors fade away -- energy prices have dropped already -- inflation should cool to within the Fed's forecast for the year, 4 percent to 4.5 percent.
Since the Fed's anti-inflation strategy is long-term, the central bank does not feel the need to respond to quarterly fluctuations. Rather, the goal is to whittle down inflation to around 2 percent by the mid-1990s. The Fed's preferred weapon involves slowly restricting growth in the checking and savings money supply, or M2, to the midpoint of its target range, 3 percent to 7 percent. After expanding by around 7 percent in the last half of 1989, M2 is growing by about 6 percent this year.
Economic growth, meanwhile, is anything but robust. That suits Greenspan: As he told the House Banking Committee recently, plans to bring inflation down will require a period of holding economic activity "at a rate below (the economy's) potential." Accordingly, the gross national product grew at an annual rate of 2.1 percent during the first three months of the year, below its capacity, and even that was misleading. Just as the weather (much colder than normal) negatively affected the fourth quarter of 1989, so did the weather (much warmer than normal) positively affect the first quarter of 1990.
In fact, underlying conditions indicate considerable weakness in the economy. The nation's overall unemployment rate, 5.4 percent in April, masks an economy that is creating fewer and fewer new jobs -- only 64,000 last month.
Other soft spots
There are other worries as well. January's heat wave sparked a surge in building that analysts say will subtract from this spring's activity. Much of a spurt in orders for manufactured goods this March stems from several big-ticket purchases, notably aircraft. Auto sales remain weak; dealers sold 9 percent fewer cars in April than they did a year earlier. And retail sales are flagging, with net declines for two successive months. In its most recent economic review, the Fed concludes that "activity continues to expand slowly."
Given that assessment, most Open Market Committee members believe that aggressively reining in the money supply would prove more trouble than tonic at the present time. The economy is showing too many fissures that could crack wide open in a downturn.
The real-estate and financial sectors are the most vulnerable. Commercial construction has turned down, and a recent report by the Federal Deposit Insurance Corporation shows that the slide in real-estate values, hitherto concentrated in the Southwest and Northeast, is spreading to other areas of the country. Higher interest rates and a sinking economy would only add to the serious problems that banks, savings and loans, developers and other investors already have in balancing their books.
Commercial banks stand to take the heaviest hit. Profits are taking a shellacking; they plunged by 87.5 percent in the third quarter of 1989 from their level a year earlier and by 59.1 percent in the last quarter, in large part because of soured real-estate loans. After suffering a $ 205 million loss in net income last year, Citicorp, the big New York City money-center bank, reported a stomach-churning 56 percent drop in first-quarter earnings. That prompted Standard & Poor's to mark down the company's credit rating on its senior debt. Tighter money also would make mopping up the S&L mess an even more expensive proposition than the $ 350 billion to $ 500 billion the General Accounting Office now estimates the taxpayers will spend.
A prolonged credit crunch could force many highly leveraged companies into bankruptcy. Interest payments claimed a record 29.8 percent of corporate cash flow last year, and profits, after falling by 10.8 percent in the final quarter of 1989, dropped by another 6 percent from January through March. Consumers, too, are showing the strain of carrying large IOU's: Delinquencies on mortgages spurted by a half point to 5 percent in the last half of 1989 and remain high. Late payments on installment debts also are up. With so many "fragilities in the system," says John LaWare, a Fed governor, "a recession could be more troublesome" now than in the past.
However... it might be worth checking back in six months to see if this story is starting to sound more familiar...