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On the Record From 2000: Fed Got the Signals Wrong

By Steven Pearlstein
Wednesday, April 5, 2006

You know you've been in Washington too long when you actually enjoy reading five-year-old transcripts of the Federal Reserve's rate-setting meetings.

I just spent most of the day happily wallowing in the 814 pages released yesterday from the meetings in 2000.

What makes it so much fun is that, with the benefit of knowing how things turned out, you can identify who got it right and who got it wrong, who had the courage of his convictions and who bent to the pressure to go along with the consensus. That was particularly true of the meetings in 2000 -- a year in which the stock market bubble burst and the economy slipped into recession while the Fed was still worrying about inflation.

Then-chairman Alan Greenspan would no doubt love to take back the comment he made at the Dec. 19 meeting somewhat pooh-poohing the impact of the tech meltdown.

"I have gotten calls from a number of senior high-tech executives who are telling me that the market is dissolving rapidly before their eyes. But I suspect that a not inconceivable possibility is that what is dissolving in front of their eyes is their own personal net worth!" Greenspan told his amused colleagues (the transcript indicated laughter.) "So, we have to be a little careful about being seduced by those types of evaluations."

Earlier in the meeting, Fed economist David Stockton assured the policymakers that, to the degree there had been over-investment and overcapacity in the tech sector, "the situation should prove relatively short-lived." Let's hope Dave wasn't buying Cisco stock.

And with consumer confidence tanking, companies warning about disappointing earnings and capital expenditures disappearing, Cathy Minehan, president of the Boston Fed, was adamant that the Fed hold pat. "The biggest risk, I think, is overreacting," she said.

By contrast, Fed Governor Edward Gramlich and regional presidents Thomas Hoenig of Kansas City, Robert McTeer of Dallas and William Poole of St. Louis argued, in vain, that the economy was weakening and the Fed needed to take its foot off the monetary brake.

What comes though in a year's worth of transcripts is how much the Fed, in an effort to become more "transparent" by issuing explanatory statements with its decision, has become something of a prisoner of its previous statements.

At the Dec. 19 meeting, for example, several members of the policy committee said it would be awkward for the Fed to lower rates because it had not laid the foundation for such a move at its November meeting, when its statement said the real risk to the economy was inflation, not recession.

In fact, the transcript reveals that the Fed policymakers in November were at least as worried about recession as inflation. But they shied away from telling the public about their concern out of fear that merely speaking about the "downside risks" would spook consumers and investors and trigger the recession they hoped to avoid.

"If we really think that the risks are balanced, we should say the risks are balanced," said the Fed's Mr. Transparency, Vice Chairman Roger Ferguson. "On the other hand, I . . . am also sympathetic to the notion that we don't want the markets to build in more of an expectation of a near-term easing than they currently have."

In other words, leveling with the public is a good idea -- except when it means telling people something they don't want to hear.

We also learned yesterday that "transparency" doesn't mean telling the truth about what members of its policy committee actually think. Although the transcripts of several meetings reveal pretty sharp differences of opinions about what to do next, the members maintained the quaint tradition of recording all votes as unanimous.

Reading through the other transcripts, several other conclusions spring to mind.

One is that, despite all the new-economy talk, the Fed continues to put too much emphasis on old-economy variables like inventories and industrial capacity, and not anywhere near enough on the impact of financial flows and asset prices on the behavior of businesses and consumers.

The transcripts also reveal the Fed to be totally cowed by Wall Street, reluctant to get ahead of the market and too reliant on corporate profit forecasts of equity analysts who, we know now, were nothing more than marketing agents for underwriters and investment bankers.

There's also way too much attention paid to labor market conditions, which are about as lagging as lagging indicators get. There ought to be plaque on the wall of the Fed's meeting room that says: "If you're waiting for the unemployment rate to tell you what to do, it's already too late."

Steven Pearlstein will host a Web discussion today at 11 a.m. at washingtonpost.com. He can be reached atpearlsteins@washpost.com.

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