Newspaper article The Christian Science Monitor

Fed Has Overdone It, Some Economists Say

Newspaper article The Christian Science Monitor

Fed Has Overdone It, Some Economists Say

Article excerpt

BANK economist Lacy Hunt calls the Federal Reserve's move Tuesday to boost interest rates by the largest amount since 1981 "a gamble."

H. Erich Heinemann, a brokerage house economist, holds that the Fed has shifted into "overkill territory."

The chief economist for the National Association of Manufacturers, Gordon Richards, says the action was "not necessary."

And, Wall Street economist Robert H. Parks foresees - as soon as early 1995 - either a recession or a "growth recession," that is, only a modest increase in real output.

Of course, one could pick another four economists who might laud the Fed's hike of 0.75 percent in short-term rates as a wise measure necessary to prevent economic overheating and accelerating inflation. However, most economists would probably agree that the Fed's move was bold and risky. Here's why:

* Monetary policy changes affect business activity with a lag.

Mr. Hunt, chief economist of HSBC Securities Inc., figures that after the Fed has tightened monetary policy about half of its total slowing impact on the economy occurs in the first six to nine months, the remainder in succeeding months. So the restraint of the Fed's five previous interest rate hikes since February has yet to be fully felt.

After subtracting inflation, the current real interest rate of about 5.3 percent is two percentage points above the average real rate since 1953. That high a level, notes Hunt, has been "historically associated with a recession."

By the calculation of Mr. Heinemann, chief economist with Ladenburg, Thalmann & Co., the Fed's current tough policy will produce a recession in 1996. But that view of such a long lag between monetary policy change and its effect on the economy is unusual among economists.

* Growth in commercial bank reserves and the nation's money supply has been stagnant for some 10 months. Velocity (how fast money turns over) has increased sufficiently to permit solid growth in sales so far. But Mr. Parks, a Pace University professor who also advises some 40 major financial institutions, expects that velocity pattern to reverse, slowing down the economy.

"The Fed has repeatedly and chronically over-constricted to produce recession in the name of combatting inflation," he says. …

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