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U.S.: Greenspan Says Deflation Possible But Not Likely

Washington, 22 May 2003 (RFE/RL) -- The head of America's central bank says debilitating deflation is possible over the next several months, but he says fiscal policymakers have the tools to ensure that the possibility is remote.

Alan Greenspan -- chairman of the Federal Reserve Board, commonly known as the Fed -- told Congress yesterday that there are hopeful signs of growth in the U.S. economy, but he said it is still struggling against what he called "strong cross-currents."

Greenspan testified before the Joint Economic Committee of the Senate and the House of Representatives that deflation is more likely than a recurrence of inflation over the coming months. "The probability of an unwelcome, substantial fall in inflation over the next few quarters, though minor, exceeds that of a pickup in inflation," he said.

But Greenspan stressed that the Federal Reserve Board can help stimulate consumer spending, investment in the stock market and spending on business expansion by cutting interest rates even further.

Beyond that, he said, the Fed can even buy bonds and other securities issued by the Treasury to drive rates even lower in an effort to stimulate a persistently sluggish economy.

"We at the Federal Reserve recognize that deflation is a possibility. Indeed, we now have been putting very significant resources into trying to understand, without actually seeing it happen, what this phenomenon is all about," Greenspan said.

Deflation is a persistent and eventually debilitating drop in consumer prices. It was a factor in the worldwide economic depression of the 1930s.

The U.S. economy enjoyed a record nine years of uninterrupted growth that ended with the collapse in the value of stocks in the technology industry in 2000. Throughout much of that period, the Fed, under Greenspan's leadership, raised key interest rates in a successful effort to keep inflation in check.

By the end of 2000, these rates had reached 6.5 percent. In January 2001, the Fed began lowering them. The Federal Open Market Committee, (FOMC), the U.S. central bank panel that decides on interest rates, most recently reduced rates on 6 November. They are now at a 41-year low of 1.25 percent.

Such low interest rates make borrowing far less expensive and therefore more attractive for consumers and businesses alike to borrow money for buying goods and services and to expand offices and factories.

The FOMC is scheduled to meet on 24-25 June, when it will consider whether to cut rates further or to leave them as they are. Most observers of the U.S. economy say they expect the committee to debate not whether to reduce interest rates even further, but by how much.

The committee usually cuts rates by a quarter-point, which would bring key rates down to 1 percent. But many economists who follow the FOMC say they believe its members are concerned enough about the state of the U.S. economy that they will press for a cut of a half-point. That would bring key rates down to .75 percent.

Greenspan said it has recently been difficult to assess the direction of the U.S. and world economies since the end of hostilities in Iraq, particularly in terms of the cost of energy. For example, he said, the price of oil dropped significantly once the major fighting stopped about five weeks ago. But the Fed chairman noted that the price of oil began to rise again, in part because of delays in restoring production of Iraqi crude oil.