Prices slipped yesterday after Federal Reserve Chairman Alan Greenspan said inflation continues to be a problem for the economy and a concern for the Fed.

The long bond, which was down as much as 1/2 point on Greenspan's remarks, finished the New York session off 5/32 point, to yield 6.55%.

In his semiannual Humphrey-Hawkins testimony before Congress, Greenspan said the Fed has revised upward its inflation forecasts, and now expects the consumer price index to rise between 3% and 3.25% this year, up from the Fed's earlier estimate of 2.5% to 2.75%.

"The news on inflation this year must be characterized as disappointing," Greenspan said.

Joseph Liro, chief economist at S.G. Warburg, said the testimony is a clear indication that short-term interest rates are likely to rise.

"The Fed is building the case in the financial markets and on Capitol Hill for a possible tightening of policy somewhere before the end of the year," Liro said.

He added that the Fed's earlier focus on monetary aggregates as a key economic indicator "is now dead," replaced by the "new king:" real interest rates, which equal the federal funds rate minus inflation.

Real interest rates are hovering around 0%. Liro said, so if inflation rises at the 3.25% rate Greenspan now expects, that would imply a decline in real interest rates if no action is taken to raise the Fed funds rate commensurately.

In addition to his comments on inflation, Greenspan also warned lawmakers that the bond markets have rallied in recent weeks on expectations that a deficit reduction package will win congressional approval. He predicted interest rates would rise if the final budget package retreats from the $500 million deficit-reduction goal President Clinton has proposed.

Despite concern about inflation prompted by Greenspan's testimony, yesterday's trading got a boost from some positive news on the price front. Commodity prices edged lower after a big gain on Monday, with the Commodity Research Bureau's index falling 0.68 point to close at 217.33. Oil prices, which rose on Monday, were off as well. The September contract for West Texas Intermediate crude dropped 41 cents, to $17.84.

The September bond futures contract closed off 5/32 to 115.26.

In the cash market, the 7 1/8% 30-year bond closed down 5/32, to yield 6.55%.

The 6 1/4% 10-year note was down to yield 5.73%.

The 4 1/4% three-year note was 1/4 point lower, to yield 4.35%.

Rates at the short end were higher, with the three-month bill up two basis points at 3.07%, the six-month bill five basis points higher at 3.20%, and the year bill up six basis points at 3.34%.

In other news yesterday, the Commerce Department reported that housing starts in June were unchanged from the previous month at a seasonally adjusted annual rate of 1.25 million units.

The figure followed a revised 4% gain in May, previously reported as a 2.4% increase.Treasury Market Yields Prev. Prev. Tuesday Week Month3-Month Bill 3.11 3.08 3.146-Month Bill 3.27 3.22 3.261-Year Bill 3.44 3.40 3.472-Year Note 4.07 4.00 4.103-Year Note 4.35 4.30 4.445-Year Note 5.06 5.00 5.177-Year Note 5.38 5.37 5.5310-Year Note 5.73 5.73 5.8830-Year Bond 6.55 6.61 6.77Source: Cantor, Fitzgerald/Telerate

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