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Fed's Big Move to Boost Economy Risks More Inflation

THE Federal Reserve, along with the rest of the Beltway Gang, has panicked. By cutting the discount rate by a full point to 3.5 percent Dec. 20, central bank officials gave a powerful signal that they are planning aggressive action to boost the economy in time for the election next year.The Fed did the same thing 20 years ago when Richard Nixon was running for his second term. Fed chairman Alan Greenspan was a key adviser to Mr. Nixon and later served as chairman of President Ford's Council of Economic Advisers. To push short-term market rates below 4 percent, the Fed will have to pump high-powered money into the banks at an inflationary rate. Bank reserves grew at a 22.3 percent annual rate in November and around a 27 percent rate in December. These moves will show up in higher consumer prices by late 1992 or early 1993. By contrast, the German Bundesbank raised rates to counter an "intolerable" rate of inflation. Over the past year, consumer prices rose 2.9 percent in the United States and 3.5 percent in Germa ny. The Fed's action triggered explosive rallies in stocks and bonds, but a collapse in the dollar. However, the surge could be temporary. The current disarray in Washington is fraught with long-term danger. In effect, Mr. Greenspan gave in to overpowering political force. Months of misleading media exaggeration about economic weakness have so poisoned the policy process that he had no alternative. The Fed has only itself to blame for losing control of monetary policy. By following an aggressive go-stop-go monetary policy, the Fed inevitably set off shock waves in the economy it is now trying to control. Greenspan spent his first term in office slowing the economy. He will have to spend much of his second term restarting it. Investors should do several things to benefit from the Fed' action: First, shorten the maturity of investments in US dollar bonds. Second, borrow dollars and buy German government bonds. This will generate increased yields and an opportunity for capital gains as German bond prices go up and the dollar goes down. Third, buy depressed shares of US capital goods producers. The latest government survey shows that US firms plan to boost outlays for plant and equipment at a 19 percent rate during the first half of 1992. Four, buy gold and/or shares of gold mining companies. Ironically, the Fed announced its move at precisely the same time the Commerce Department disclosed a modest but solid gain of $22 billion in gross domestic product in the third quarter. The change in GDP in the final three months of the year will be smaller than last summer's. Even so, a good gain in consumer spending last month made plain that it will be up. One favorable sign for 1992 is the fact that corporate profits and profitability are on the mend. Higher profits and cash flow will power a boom in US capital spending. Even the beleaguered automobile industry is planning a hefty jump in spending. While reporters churned out reams of copy about the cutbacks at General Motors, they never mentioned that these moves were primarily a response to domestic competition. Sales of new motor vehicles dropped 10 percent to 12.8 million units during the 1991 US model year. Meanwhile, sales by US transplants rose 10.5 percent to 1.1 million units. These Japanese-owned factories are new, efficient, and partially nonunion. They are just as much part of the US economy as GM. The loss of 74,000 jobs at GM (if it occurs) is nothing to cheer about, but it should be largely offset by increased hiring at other, more profitable automakers in the US Politicians delight in mourning the demise of US manufacturing. Such claims are (a) not true, and (b) mischievous because they appear to support claims for protectionism. US Sen. Donald Riegle Jr. (D) of Michigan says that Japanese participation in the US auto market is "an economic Pearl Harbor." Senator Riegle's real aim is to subsidize the wages of unionized auto workers (who already earn far more than the national average) by imposing a tax on lower income consumers in the form of higher auto prices.

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