Federal Reserve Board Chairman Alan Greenspan yesterday downplayed fears of a major rekindling of inflation and said the U.S. economy is doing better than many forecasters had expected.

Greenspan, speaking to the Northeast-Midwest congressional leadership council, also said that the massive U.S. trade deficit appears to be "bottoming out" under the pressure of a long-declining U.S. dollar.

His remarks came on the eve of the release of government statistics on merchandise trade for August.

In July, the most recent month for which the government has figures, the trade deficit reached a record $16.5 billion.

Greenspan, noting that the trade figures mask recent improvements in the volume of U.S. exports, said: "We're beginning now to see people shifting their buying patterns from foreign sourcing to domestic sourcing."

The dollar has declined more than 40 percent against the Japanese yen, the West German mark and other key currencies since mid-1985. A weaker dollar makes imported goods more expensive at home and U.S. products cheaper abroad.

Greenspan said recent increases in overall domestic capital investment appear to be a "fairly significant and sustainable trend."

On inflation, Greenspan said that fears in financial markets that inflation may return to the high levels of the late 1970s and early 1980s are "lacking in specific underlying statistical support."

He suggested that recent increases in long-term interest rates overstate the nation's underlying rate of inflation. Financial markets are anticipating a degree of inflation that is "probably in the lower probabilities of the outcome," Greenspan said.

Greenspan praised recent increases in U.S. manufacturing productivity, calling it "a sort of silent revolution which has major implications."

And he cited recent sharp price increases in steel scrap prices as a sign not of renewed inflation but of increased competitiveness of heavy U.S. industry. "We don't yet see any semblances of raw shortages or tightness in markets ... We are not yet approaching full capacity of the system," he said.

Overall, Greenspan said that the nation's general business outlook is good