Federal Reserve Chairman Alan Greenspan on Tuesday expressed "guarded optimism" that the country can avoid a recession this year, but his warnings on the dangers of accelerating inflation helped send financial markets into a tailspin. Setting up a potential clash with the Bush administration, Greenspan said the central bank is looking for the economy to grow at a rate far below the one on which the administration based its 1991 budget.
Wall Street, which has been battered this year by rising foreign interest rates, took Greenspan's inflation warnings and growth forecast as further evidence that the central bank is intent on pursuing a tight money policy to battle inflation and thus will not move anytime soon to lower interest rates.
At mid-afternoon, interest rates on long-term government bonds had jumped sharply while the prices, which move in the opposite direction, fell as much as $18 per $1,000 in face value. The Dow Jones industrial average of 30 stocks closed down 38.74 points to 2,596.85. Declining issues outnumbered gainers by about 4-to-1 in nationwide trading of stocks listed on the New York Stock Exchange.
"We're in an area where (inflation) is in danger of accelerating," Greenspan said in his appearance before a House Banking subcommittee.
In the new Fed economic forecast, the central bank projected that the economy, as measured by the gross national product, will grow at an anemic rate of between 1.75 percent and 2 percent this year, the slowest growth rate since the 1981-82 recession.
The Bush administration, in a forecast released last month with its 1991 budget request, forecast growth almost a full percentage point higher at 2.6 percent, when measured from the fourth quarter of 1989.
The administration also predicted that interest rates would drop sharply from their current levels, a decline that would lower the government's borrowing costs on the $2.9-trillion national debt.
With the Fed expected to keep interest rates high to restrain inflationary pressures, economists said both the administration's growth and interest rate assumptions would prove to be too optimistic, thus ballooning the federal budget deficit by billions of dollars.
"The Greenspan testimony is a clear indication of a toughened central bank stance against inflation," said Alan Sinai, chief economist of the Boston Co. "The message is that interest rates will stay high and perhaps go higher as the central bank keeps the economy throttled back to bring down inflation."
In his testimony, Greenspan cited a variety of January statistics _ from rising auto sales to a surge in new house construction _ to bolster his belief that a modest rebound is occurring and that the "weakest point may have passed."
"While we cannot be certain that we are as yet out of the recessionary woods, such evidence warrants at least guarded optimism," he said.