WASHINGTON - Despite some tough talk out of the Federal Reserve about containing inflation, the Clinton administration is insisting that the issue is a nonstarter and there is no need for the Fed to raise short-term interest rates.
In fact, Treasury Department officials believe the government reports earlier this year of rising inflation were technically flawed because of seasonal adjustment problems. They say the numbers will be much tamer as the rest of the year unfolds, erasing any case for Fed
One argument making the rounds at the Fed is that a "pre-emptive" increase in the federal funds rate to 3 1/4% from 3% might actually help bring down long-term interest rates, which are driven by bond market expectations of inflation but are not controlled by Chairman Alan Greenspan and his colleagues.
The intent is to impress the bond market with the Fed's resolve now, and to subdue inflation fears before they get worse.
That argument does not wash with the administration. "Our response is, there's no need to do that," says Alicia Munnell, assistant secretary of economic policy at the Treasury Department. "The key point is, I don't see inflationary expectations, therefore it's unnecessary."
In fact, administration officials are getting ready to scale back their forecast for economic growth this year to about 2 1/2% from the 3% issued at the start of the year when President Clinton unveiled his budget. White House officials admit that defense cutbacks and other long-term structural problems such as a spotty real estate market continue to hold back the recovery.
"There's still tons of slack in the economy and in the labor market, " says Munnell. Indeed, some analysts are already forecasting that the next unemployment report for June will show that the jobless rate edged back up to 7% from 6.9%.
Clinton and his top economic advisers, Treasury Secretary Lloyd Bentsen and Robert Rubin, head of the National Economic Council, understand that the Fed controls only short-term rates. But they worry that the economy could choke on a combination of gradually rising rates and the drag from the deficit reduction package.
"I think if you look at the Fed as an institution, it's not something that turns on a dime, it shifts like a huge ocean liner." Munnell says. The danger, she explains, "is that you swing this huge institution from being accommodating to tightening, and that definitely isn't warranted."
Munnell believes there is a flaw in the methodology the Bureau of Labor Statistics uses to take into account the seasonal price changes that do not reflect underlying inflation fundamentals.
"There is something wrong with the price numbers," says the former director of economic research at the Federal Reserve Bank of Boston. "There has just been this systematic pattern in the first four months of the year where you get higher prices than you do during the last eight months."
Kenneth Dalton, an associate commissioner at the Bureau of Labor Statistics in charge of the consumer price division, says the agency is working on its seasonal adjustment formulas and will announce any changes beginning with next January's statistics.
Dalton concedes that there could be problems with the way seasonal adjustments are made for changes in prices of clothing, which are typically marked up by retailers in late spring and early summer. The agency is also looking at the way it handles early-year price changes caused by federal excise taxes, state sales taxes, and hospital charges.
Adjusting for cold weather that temporarily boosts winter prices of food and fuels is also an issue.
Some analysts agree with administration officials that the inflation numbers for the next several months, if not the rest of the year, will be reassuring to the bond market. Brian Jones, an economist with Salomon Brothers, says he believes the next reports from Labor will be "super." He forecasts that the producer price index will drop 0.5% in June and that the consumer price index will be up only 0.1%.
Good inflation numbers over the summer would bolster the administration's case that the early-year statistics are misleading and that the Fed's impulse to raise rates is premature.