(January 17) – “In Britain they raised interest rates on Thursday because house prices are going up so fast. In Frankfurt, home of the European Central Bank, they worry about the jolt that a rise in oil prices, courtesy of the OPEC oil cartel, has given to French inflation and the push by Germany’s most powerful union, IG Metall, to get itself a 5.5-per-cent pay rise. Oh, yes, and in the United States and Canada, central bankers are less sure that advances in technology can keep the North American economy booming without end, writes Peter Cook in today’s Globe and Mail.
“In a thoughtful speech he made last week, U.S. Federal Reserve Board chairman Alan Greenspan talked not of limitless growth, but of the limits to growth. For the U.S. economy, the chief constraint is that financial asset prices are going through the roof even as consumers spend wildly. To many Americans, the purchase of a hot stock carries no risk. Rather, it qualifies as their highest, surest and only form of personal saving.
“So let us see, what do we have here? Rising home prices in Britain; oil and wage-push inflation in France and Germany; a classic demand-led boom, combined with a financial bubble, in the United States. Well, welcome to the 1970s? No, sorry, to the year 2000.
“In the great rhetorical war that is now going on about central bank policy, it looks as though the New Economy is in for a bashing.
“One of the better definitions of what the New Economy should portend came from U.S. Treasury Secretary Larry Summers when he talked last summer of the 1970s being put into reverse.
“Then, a rise in oil prices by OPEC hit productivity and gave us stagflation, a condition in which growth in the major economies came to a halt even as nominal wages and retail prices rose. The New Economy has allegedly dealt us a different hand. Rapid advances in information technology are adding to the potential growth rates of the U.S. economy even as wages and prices remain remarkably well behaved.
“Which is fine in theory and, as Mr. Greenspan enunciated the other day, true to some extent. But at the same time it does not appear to be a creed that central bankers, a cautious bunch, have accepted. They appear to be 1970s people, not prophets of a new age.
“Where Britain led, raising its bank rate last week, the Fed will almost certainly follow when its open-market committee meets in early February. And, shortly thereafter, expect the European Central Bank to lift rates across the 11-nation euro zone too. Moreover, that will be merely a first strike. Other rate rises will follow in the balance of the year.
So do we have a New Economy or don’t we?
“The question is easily put, but not easily answered. With Mr. Summers and many private-sector economists saying that we do, it is inevitable that the Fed will be told, before each of its meetings, that no central banker can know what the potential of the economy is any more and that to use old policy weapons risks upsetting the stock market and the economy for no reason. Inflation is not a problem and is unlikely to become one. Rather, the problem is a knee-jerk approach to monetary policy and to making pre-emptive strikes against the mere threat of inflation.
“Europe has less of an economic boom than the United States and is on less sure ground when it comes to making this argument. However, last week, many economists in London were saying that the British economy was enough like the U.S. economy, in terms of achieving full employment with still-modest inflation, that the Bank of England’s monetary policy committee should cease and desist from raising rates.