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Greenspan hints at US rates rise

THE US Federal Reserve is shifting towards the view that interest rates may need to be raised, the Fed chairman said yesterday.

Alan Greenspan told the Senate that the balance of risks in the economy had increased. "After eight years of economic expansion, the economy appears stretched in a number of dimensions, implying considerable upside and downside risks to the economic outlook," he said. "In light of all these risks, monetary policy must be ready to move in either direction." The stock market was briefly surprised by his comments, and dipped by nearly 80 points. But it recovered quickly, and rose above its starting levels.

Hinting that a rise in rates was more likely than a cut, he referred to the three interest rate cuts at the end of last year after the collapses in Asia, Russia and Brazil. "The Federal Reserve must continue to evaluate ... whether the full extent of the policy easings undertaken last Fall to address the seizing-up of financial markets remains appropriate as those disturbances abate," he said.

The Fed's governors expect growth in 1999 of 2.5 to 3 per cent, with consumer inflation rising slightly to 2 - 2.5 per cent. The economy in general still looks relatively robust, Mr Greenspan said. But he argued that there were four emerging risks: the tightening of the labour market, high equity prices, rising debt and the international economy. Though there was no indication that inflation was rising rapidly, the Fed chairman said that labour markets were very tight, but in the Fed's report it says that low capacity utilisation in the manufacturing sector has helped to counterbalance this. And employers have been loath to give high wage increases because price competition is still very stiff for many products.

The rise in the stock market also caused him concern. "Equity prices are high enough to raise questions about whether shares are overvalued," he said, adding that "profit forecasts could be pared back, which together with a greater sense of vulnerability in business prospects could damp appetites for equities". In the report accompanying the testimony, the Fed comments: "Investors may be anticipating rapid long-term earnings growth ... and they may still be satisfied with a lower risk premium for holding stocks than they have demanded historically."

The risk that foreign investors would move out of US markets was also rising, Mr Greenspan said, in reference to the very high trade deficit. "Foreigners will presumably not want to raise indefinitely the share of their portfolios in claims on the United States. Should the sustainability of the buildup of our foreign indebtedness come into question, the exchange value of the dollar may well decline, imparting pressures on prices in the United States." Outlook, page 19