The U.S. economy’s strength has prompted speculation that it is a “new economy,” in which information technology boosts productivity and cuts margins, allowing high growth, low unemployment and almost no inflation. Academics are arguing over the validity of the theory, but among its adherents is Mr. Alan Greenspan, the chairman of the U.S. Federal Reserve Board. Markets read his acceptance of the theory as an indication that the Fed is less concerned with inflation — its traditional bete noire — and have roared ahead accordingly, since inflation fears trigger interest-rate hikes, which in turn put the brakes on business expansion.
The bulls received a bit of shock, then, this week when the Federal Open Market Committee announced that it was shifting its “policy bias” toward inflation. The significance of the move is uncertain. On three previous occasions, the FMOC has made a similar announcement and only once were interest rates raised — a full year later. Normally, however, the “bias” decision is announced six weeks after it is made; this time it was released immediately. That implies, at least, that the Fed is signaling markets that the inflation bugaboo is not dead. Talk about the “new economy” only goes so far.
The Fed’s concern was prompted by inflation figures released last week that showed consumer prices increasing 0.7 percent in April, the largest climb in seven years. The key factor was an increase in gasoline and tobacco prices. Economists are not sure whether it is a one-time climb or the long-awaited eruption of prices bottled up throughout the eight-year boom.
The announced shift in the bias has put markets on notice. It is time to take a little froth off the stock-market bubble. If it slows investors down, the shift alone will have served as a de facto rise in interest rates. But the Fed’s willingness to slow the U.S. economy into a “soft landing” is also a wakeup call to other governments: The U.S. boom will not continue forever. When it ends, other sources of demand must be found. “New economy” or old, someone else will have to take up the slack.
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