Greenspan gives no hint of early rate rise

The American economy is still enjoying a remarkable period of strong growth and low inflation, Alan Greenspan said yesterday. His testimony seemed to point to no early increase in US interest rates.

But the Chairman of the Federal Reserve warned that stock prices and market interest rates were getting out of line with reality, and hinted that the Fed had moved closer to tightening monetary policy. Wall Street dipped initially on his words, then recovered but fell sharply during the afternoon. The Dow Jones ended 78.22 points down at 8971.70.

In a generally favourable overview of the US economy before Congress, the world's most powerful central banker expressed his amazement that the economy was performing so well. "The current economic performance, with its combination of strong growth and low inflation, is as impressive as any I have witnessed in my near half-century of daily observation of the American economy," he said. "A major technological transformation of the economy" was under way," he said.

"Our economy is still enjoying a virtuous circle," he said. Rising productivity combined with moderate wage increases meant that declining unemployment posed little inflationary threat; improving output, low interest rates and inflation generated an optimistic corporate output and increases in stock prices; and these in turn fed back into higher asset prices and increasing domestic demand.

"The inflation rate moved down further in the first quarter, even as the economy strengthened," he noted. The economic crisis in Asia had affected the economy in the first quarter, with exports declining. But domestic expansion continued to be strong.

However, Mr Greenspan also warned that the Fed would tighten monetary policy in the future if it saw any signs that inflationary pressures were picking up. "Monetary policy might need to tighten if demand were to continue to exhibit few signs of abating noticeably, thereby threatening to place still further strains on our labour market," he said. And he also pinpointed the stock market and lending as key targets. Expectations, he said, had "driven stock prices sharply higher and credit spreads lower, perhaps to levels that will be difficult to sustain unless economic conditions remain exceptionally

favourable - more so than might be anticipated from historical relationships."

It is traditionally the Fed's job to take the punch bowl away just as the party starts. But he gave no reason to think this point was imminent. "We at the Federal Reserve, recognising the powerful forces of productivity growth and global restraint on inflation, have not perceived to date the need to tighten policy, beyond what has occurred through inflation's upward pressure on the real federal funds rate and the modest increase in the nominal rate that was initiated in March of 1997."

Foreign investment in the US fell last year for the first time in five years. The world spent $70.3 billion to buy US companies or establish new companies, down from nearly $80 billion in 1996. The reason was mainly the economic weakness of Japan, though the strength of the dollar contributed, the Commerce Department said.