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Thursday, November 03, 2005

Greenspan's Testimony before Congress on the Economic Outlook

Alan Greenspan testifies before congress on the state of the economy. He expresses confidence about economic growth, but is concerned over inflationary pressures in the long-run due to several factors including higher energy prices and increases in labor costs as the growth in the supply of labor abates worldwide. Also, the comments at the end on the budget deficit are notable:

Testimony of Chairman Alan Greenspan Economic outlook Before the Joint Economic Committee, U.S. Congress November 3, 2005: Mr. Chairman, when I last appeared before the Joint Economic Committee in early June, economic activity appeared to be reaccelerating after a slowdown in the spring. The economy had weathered a further run-up in energy prices over the winter, and aggregate demand was again strengthening. ... By early August, the economy appeared to have considerable momentum, despite a further ratcheting up of crude oil prices; pressures on inflation remained elevated. As you know, the economy suffered significant shocks in late summer and early autumn. Crude oil prices moved sharply higher in August, bid up by growth in world demand that continued to outpace the growth of supply. Then Hurricane Katrina hit ... causing widespread disruptions to oil and natural gas production... Because of a lack of ready access to foreign supplies, natural gas prices rose even more sharply. At the end of September, with the recovery from the first storm barely under way, Hurricane Rita hit, ... These events are likely to exert a drag on employment and production in the near term and to add to the upward pressures on the general price level. But the economic fundamentals remain firm, and the U.S. economy appears to retain important forward momentum. ... Except for the hurricane effects, readings on the economy indicate a continued solid expansion of aggregate demand and production. ... The longer-term prospects for the U.S. economy remain favorable. Structural productivity continues to grow at a firm pace, and rebuilding activity following the hurricanes should boost real GDP growth for a while. More uncertainty, however, surrounds the outlook for inflation.

The past decade of low inflation and solid economic growth in the United States ... is attributable to the remarkable confluence of innovations that spawned new computer, telecommunication, and networking technologies, which ... have elevated the growth of productivity, suppressed unit labor costs, and helped to contain inflationary pressures. .... Contributing to the disinflationary pressures ... over the past decade or more has been the integration of in excess of 100 million educated workers from the former Soviet bloc into the world's open trading system. ..., and of even greater significance, ... the freeing from central planning of large segments of China's 750 million workforce. The gradual addition of these workers plus workers from India ... would approximately double the overall supply of labor once all these workers become fully engaged in competitive world markets. ... Over the past decade or more, the gradual assimilation of these new entrants into the world's free-market trading system has restrained the rise of unit labor costs in much of the world and hence has helped to contain inflation. ... The effective augmentation of world supply and the accompanying disinflationary pressures have made it easier for the Federal Reserve and other central banks to achieve price stability in an environment of generally solid economic growth.

But this seminal shift in the world's workforce is producing, in effect, a level adjustment in unit labor costs... the suppression of cost growth and world inflation, at some point, will begin to abate and, with the completion of this level adjustment, gradually end. These global forces pressing inflation and interest rates lower may well persist for some time. Nonetheless, it is the rate at which countries are integrated into the global economic system, not the extent of their integration, that governs the degree to which the rise in world unit labor costs will continue to be subdued. Where the global economy is currently in this dynamic process remains open to question. But going forward, these trends will need to be monitored carefully by the world's central banks.

I want to conclude with a few remarks about the federal budget situation ... even apart from the hurricanes, our budget position is unlikely to improve substantially further until we restore constraints similar to the Budget Enforcement Act of 1990, which were allowed to lapse in 2002. Even so, the restoration of paygo and discretionary caps will not address the far more difficult choices that confront the Congress as the baby-boom generation edges toward retirement. As I have testified on numerous occasions, ... So long as health-care costs continue to grow faster than the economy as a whole, as seems likely, federal spending on health and retirement programs would rise at a rate that risks placing the budget on an unsustainable trajectory. Specifically, large deficits will result in rising interest rates and an ever-growing ratio of debt service to GDP. Unless the situation is reversed, at some point these budget trends will cause serious economic disruptions. We owe it to those who will retire over the next couple of decades to promise only what the government can deliver. ... Crafting a budget strategy that meets the nation's longer-run needs will become ever more difficult and costly the more we delay. The one certainty is that the resolution of the nation's demographic challenge will require hard choices and that the future performance of the economy will depend on those choices. .... The Congress must determine how best to address the competing claims on our limited resources. In doing so, you will need to consider not only the distributional effects of policy changes but also the broader economic effects on labor supply, retirement behavior, and private saving. The benefits of taking sound, timely action could extend many decades into the future.

I threw this together rather quickly - I will try to say more about this later. In other news, U.S. productivity was higher than expected in the third quarter at 4.1%, but unit labor costs, i.e. labor compensation, is dragging. That's good news for inflation fighting, but bad news if it's your take home pay. The remarks above on globalization offer one reason for lagging wages.

[Update:  See Angry Bear and William Polley for more on productivity and labor compensation.]

[Update: Brad DeLong has more on Greenspan's statements on entitlement spending, The Big Picture has more on Greenspan's statement that the yield curve is no longer useful, and a comment from Calmo wonders how "Dr Estrella feels about that remark:  inverted yield curves are obsolete" given this from the NY Fed.]

I intended to say more, but the links above cover the issues fairly well. Unless I think of something different to add, I think I will leave it at that.

    Posted by on Thursday, November 3, 2005 at 09:58 AM in Budget Deficit, Economics, Fed Speeches, Monetary Policy | Permalink  TrackBack (1)  Comments (14)

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    » Good Productivity News... from Brad DeLong's Website

    Somehow I missed this this morning. Mark Thoma catches it: Economist's View: U.S. productivity was higher than expected in the third quarter at 4.1%...... [Read More]

    Tracked on Wednesday, November 09, 2005 at 02:32 PM


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