Greenspan takes charge
THE new Federal Reserve Board - that is, the Fed now headed up by chairman Alan Greenspan instead of Paul Volcker - is proving that it too can take decisive action when it must. In raising the key discount rate from 5.5 percent to 6 percent, the Fed sent a welcome signal to Wall Street that it will take whatever steps are necessary to prevent a resurgence of inflation. The immediate impact of the Fed's decision, as expected, is to put upward pressure on interest rates. Commercial banks quickly moved to raise their prime rate - the rate charged their best customers - to 8.75 percent, from 8.25 percent. This might not be the final step by the Fed this year. The board could be forced to make additional increases in the discount rate - the fee the Fed charges banks - and perhaps sooner rather than later.Skip to next paragraph
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Inflation concerns, in part stemming from continued weakness in the dollar, have been sweeping the financial community. A weak dollar also works against overseas investments in United States securities markets. Yet, overseas funds have become a major source of financing for the US budget deficit.
The Fed must walk a particularly delicate line. It must prevent a renewal of inflation. It must keep interest rates high enough to ensure a steady flow of overseas investments. But it must not overreact - make credit so expensive that the current expansion, the longest in modern peacetime conditions as of next month, comes to a halt.
Still, given the many pluses in the economy - unemployment holding steady in the 6 percent range and the economy growing - the Fed correctly concluded that it had enough latitude for now to tighten credit. The move comes before release of new trade figures Friday, which could show little improvement on the US export front. It also comes just before Mr. Greenspan leaves for a meeting with central bankers in Europe, thus bolstering his bargaining position there. The Fed action makes sense at this time.