Feds Governor Meyer hopes for a "soft landing"

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FMeyer: Fed can't manage stock market A soft landing will also take care of sector imbalances

By Rex Nutting, CBS MarketWatch Last Update: 12:47 PM ET Jan 20, 2000 Bond Report Economic Preview

WASHINGTON (CBS.MW) -- The Federal Reserve shouldn't worry too much about the possibility of the stock market bubble exploding and hurting the economy, a top Fed policy maker said Thursday.

Instead, Fed Gov. Laurence Meyer said, the Fed should set its sights on achieving maximum sustainable economic growth with stable inflation and let other potential problems work themselves out. Read his speech.

Today on CBS MarketWatch Market likes tech results Web's most popular become more so GM tops targets General Electric profit climbs Improved margins boost Sears More top stories... CBS MarketWatch Columns Updated: 01/20/2000 12:35:30 PM ET To do that, the Fed ought to engineer a soft landing for the economy, Meyer said in a speech to the National Economics Club. A soft landing occurs when the economy eases into a pace that's sustainable. The alternative is raging inflation or recession.

"The most important of the perceived imbalances [in the economy] is, in my view, the possibility of an overheated economy," Meyer said. "If we avoid the boom-bust scenario, we shall have avoided the most serious of the other imbalances."

"By some estimates, the output gap is the widest since the early 1970s," he said.

"At some point in any expansion, therefore, a soft landing is the preferred path to preserve a healthy expansion," Meyer said.

Beyond his general conclusion that the economy is likely running at an unsustainably fast pace, Meyer gave few hints about the course of near-term monetary policy.

Most observers expect the Federal Open Market Committee to raise the Federal funds rate by a quarter percentage point on Feb. 2 in a bid to pre-empt inflationary pressures by slowing the economy to a level closer to its long-term potential.. See Fed policy forecast.

Meyer argued that the biggest risk to the continued health of the economy is an imbalance between supply and demand that could lead to inflation or recession and not with "worrisome" imbalances in equity markets, the current account, personal savings or debt service.

Meyer said it is theoretically possible that market or sector imbalances could disrupt an otherwise healthy economy. He noted that stock market values, the current account deficit and the personal savings rates are all at record levels. Debt service is high but not at an all-time peak, he said.

"Policy makers will, I expect, be reluctant to undermine macroeconomic performance in the short-run in an attempt to unwind a perceived market/ sector imbalance that might not be serious or might unwind in a gradual and nondisruptive fashion on its own," Meyer said.

"Furthermore, it is not obvious how to unwind an excessive debt burden, to raise the personal savings rate or to narrow the current account deficit in a sustainable way through monetary policy," he said.

"As a result, monetary policy, in my view, needs to focus on achieving balance between aggregate supply and aggregate demand," Meyer said.

Meyer said a stock market bubble could be connected to a wider imbalance in aggregate supply and demand in two ways. First, "if investors misread these developments as sustainable," that might encourage households and businesses to take on more debt and save less. Or, Meyer said, higher stock prices could lead directly to increased demand, pushing the economy past its sustainable level. Both mechanisms could be at work, he said.

Meyer has a reputation as something of an inflation hawk on the FOMC. He has been skeptical of theories that suggest that the current U.S. economy is somehow fundamentally different and that old economic truths no longer hold. He did say in his speech that the non- inflation-accelerating rate of unemployment (NAIRU) "has declined since the early 1990s" and that "the rate of growth of potential output is higher today than in the 1970s and 1980s."

But the extent to which the key forces have shifted "is not a settled issue," he said.

-- Susie (Susie0884@aol.com), January 20, 2000.