By Shihoko Goto, BridgeNews
Washington--Jan. 24--Federal Reserve Chairman Alan Greenspan may change his tune slightly on budget policy before the Senate Budget Committee Thursday by indicating greater receptivity to tax cuts to aid the U.S. economy, analysts said. In his testimony, Greenspan should continue to call for debt reduction as the government's priority, but he will not dismiss the idea of tax cuts to spur lagging growth over the longer term, they said.
* * * When he testifies, the Fed chairman is also expected to reiterate the Fed Board's view that slow growth is a greater threat than inflation to the continuing economic expansion--and that the central bank will be prepared to adjust monetary policy as necessary to keep growth from stalling.
Greenspan's first public engagement since the Fed's surprise rate cuts on Jan. 3 also will be the chairman's first speech under the new Bush administration. He is therefore likely to be particularly wary not to give the impression that the independent Fed is heeding the directives of the new president.
The Fed chairman is all the more likely to stress weakening economic growth--and not the new Republican administration--as justification for shifting stance slightly on debt reduction and taxes, analysts said.
Tax cuts are "not necessarily a bad idea," given the rapid decline in economic growth, said Moody's senior economist John Lonski. In recent years, the Fed chief repeatedly called for debt reduction to be the top budget objective, a view that was in line with Clinton administration priorities. But Greenspan also would state that he preferred tax reduction to increased government expenditure.
The subsequent weakening in the U.S. economy after its long stretch of buoyant growth could encourage Greenspan to be more open to tax cuts, said former Federal Reserve governor Lyle Gramley.
"I don't think he's going to be adamantly against tax cuts," Gramley said.
With the economy softening considerably, "some help in generating a stronger recovery is not unwanted," Gramley said.
Former President Bill Clinton projected last month that the fiscal 2001 budget surplus will hit an unprecedented $256 billion, and at the current rate of repayment, he anticipated elimination of the public debt by 2010.
But given the weakness in the U.S. economy, getting the debt down to zero is not necessarily the highest priority, according to Lehman Brothers economist Ethan Harris.
Banc of America's Peter Kretzmer agreed.
"Debt reduction is a good thing. But given the political and economic changes brought to us at this point, tax reduction and reform to encourage longer-term growth is a good idea," Kretzmer said. "We can wait to pay down the debt."
Former Fed governor Gramley pointed out that it would be difficult to argue that there is no room for a tax cut, given the magnitude of the long-term projected budget surplus.
Still, most analysts do not expect the Fed chairman to support wholeheartedly Bush's massive $1.6 trillion, 10-year, across-the-board tax cut.
"Tax cuts are going to occur, but the question is the dimension of the cuts," said Dana Johnson, head of market analysis at Bank One Capital Markets.
Given the number of months it takes for tax cuts to be legislated, if at all, tax cuts will not be viewed as a means to prop up the economy in the shorter term.
Gramley said that the Fed chairman would want to keep tax cuts moderate in size so the federal debt reduction could proceed.
But others, including Lehman's Harris, point out that tax cuts now would be too late, given that it would be summer at the earliest before any policy could become law, and by which time the economy could emerge from its doldrums.
"Greenspan will stress that the Fed's appropriate response to economic conditions in a timely manner (monetary policy) is the most effective way to keep the economy going--and not tax cuts," Johnson said.
Given that he will be addressing the budget committee, Greenspan's prepared testimony may not have an extensive focus on the near-term economic outlook.
But he probably will elaborate his views in response to questions from senators who may be interested in his thoughts ahead of the next Federal Open Market Committee meeting on Jan. 30-31.
On the overall economy, analysts expect the Fed chairman to state that the economy has weakened considerably over the past few months, particularly given the weak data released since the rate cut at the beginning of this month.
"He will want to convey a sense of concern about the economy, but also give a sense that the Fed will react as need be," said Lehman's Harris. "He won't want to talk about doom and gloom without talking about what policy responses the Fed could take."
The Thursday testimony is slated to begin at 1000 ET. End
(Edward Kean in Washington contributed to this story.) Copyright 2001 Bridge Information Systems Inc. All rights reserved.