Fed on the Spot as Political Pressure Builds for a Rate Cut

WASHINGTON - Calls for lower interest rates by President Bush and members of his administration have put the Federal Reserve Board in an awkward position, according to a former central bank official and other analysts.

While administration officials are pushing banks and the Fed to lower interest rates to boost economic growth, the financial markets, sensitive to inflation, would be shaken if the Fed seemed to be bowing to political demands.

Analysts said President Bush's call for lower rates is understandable because traditional antidotes to recession - higher government spending and lower taxes - have been put on hold for fear they would add to the budget deficit that ballooned during the 1980s.

Walking a Tightrope

At the same time, Fed policymakers want to avoid a double-dip recession and are keenly aware that if they stray too far from the political fold, Congress could easily take away the Fed's jealously guarded independence.

"The Fed is a political organization. It is part of the government," said a former central bank official who spoke on the condition he not be identified.

"The Fed knows that if it steps too far from the wishes of either Congress or the administration, it is [politically] vulnerable," the former official said. "It has to bend a bit, but it can't follow completely."

The White House Connection

"The Fed is independent within the government, but not [independent] of the government," said H. Erich Heinemann, an economist with Ladenburg Thalmann & Co. in New York. "The Fed never acts independent of the administration in a total sense."

Still, one has to go as far back as the Nixon administration, when Arthur Burns was Fed chairman, to find a blatant example of the Fed's priming the pump to help a President seeking reelection, Mr. Heinemann said.

Two weeks after Richard Nixon administered the oath of office to Mr. Burns, the Fed voted for an easier credit policy.

Although Burns argued at the time that the weak economy needed a boost, critics accused him of bowing to the President's wishes.

Mr. Nixon was reelected in 1972, but by the time Mr. Burns left the Fed in January 1978, the inflation rate had nearly doubled, to 9% from 5%.

Avoiding Unseemly Behavior

More recent history suggests that the Fed is less willing to yield to the political desires of the White House, at least openly.

The central bank tightened credit before the presidential elections in 1984 and 1988.

In 1980, the year Jimmy Carter lost the presidency to Ronald Reagan, the central bank lowered interest rates in June and July, but then began raising them again in September, boosting the discount rate to 11%.

By the end of 1981, the country was mired in its deepest recession since the Great Depression of the 1930s.

Although the Fed has been under extraordinary pressure to lower rates since the latest recession began in July 1990, few economists believe its recent interest rate changes were politically motivated.

Indeed, many criticize Fed Chairman Alan Greenspan, a Republican, for moving too slowly in bringing the economy around.

Fed Funds Rate Brought Down

Since late 1990, with the administration cheering it on, the Fed has been gradually lowering interest rates, cutting the key federal funds rate by 3.5 percentage points to its current 4.75%.

The funds rate is the interest banks charge each other and is influenced by the Fed.

Over the same period, the central bank lowered the more symbolic discount rate by 2.5 percentage points to 4.5%.

Even though many economists believe the recession technically ended in May, the economy remains sluggish and a number of analysts expect the Fed to cut the discount and fed funds rates at least once more.

Many have said they want the Fed to act not just to give the sagging economy a boost but to prevent Congress from enacting what they view as damaging tax cuts or spending programs.

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