REUTERS:
THE U.S. economy is growing at a "reasonably good pace," Federal Reserve Chairman Alan Greenspan said yesterday, but he warned dangerous budget deficits must be fixed, preferably through spending cuts.
"When you begin to do the arithmetic of what the rising debt level implied by the deficits tells you, and add interest costs to that ever-rising debt at ever-higher interest rates, the system becomes fiscally destabilising," Greenspan told the House of Representatives Budget Committee.
"Addressing the government's own imbalances will require scrutiny of both spending and taxes. However, tax increases of sufficient dimension to deal with our looming fiscal problems arguably pose significant risks to economic growth and the revenue base," he said.
STRAINING THE ECONOMY
While higher taxes boost
government revenues, they also deplete consumer coffers, dampening economic growth and spending strains the economy can ill afford as the baby boom generation retires and the proportion of workers shrinks, he said.
Greenspan has long favoured spending cuts over tax hikes.
In his testimony, the influential Fed chief said the combination of America's ageing population and soaring health care costs poses the biggest budget risk.
"So long as health care costs continue to grow faster than the economy as a whole, the additional resources needed for such programmes will exert pressure on the federal budget that seems increasingly likely to make current fiscal policy unsustainable," Greenspan said.
PRIVATE INVESTMENTS
He again threw his weight behind the notion of restructuring the social security retirement system to include private investment accounts an idea President Bush is pushing in speeches around the country.
Still, Greenspan said, the fact that such a plan could lead to government involvement in financial markets gave him "certain pause."
According to Bush's fiscal 2006 budget proposal, the deficit would swell to a record US$427 billion but shrink steadily over the next five years to US$207 billion in 2010.
But the plan excludes funding for Iraq and Afghanistan, the cost of making Bush's tax cuts permanent and trillions of dollars in borrowing that would be needed to fund a transition to private social security accounts.
Critics are also sceptical the president can significantly trim the budget, pointing out that Bush's republican party controls Congress, and he has never vetoed a spending bill.
While Greenspan's admonition about the deficit was not new, analysts said his decision to focus almost exclusively on the budget problems rather than the relatively healthy economy suggested he was tired of repeating the same warnings.
The dollar lost ground against the euro on his words, trading at $1.3125 from about $1.3100 shortly before.
"They were expecting Greenspan to be hawkish on the economy," said Jeremy Friesen, senior currency strategist at RBC Capital Markets in Toronto. "But he is using this time to drive home the message that fiscal discipline is needed ... and to convince policy-makers to make hard choices."
Greenspan urged Congress to reinstate lapsed rules requiring tax cuts and spending to be offset elsewhere in the budget, and warned that unless the nation sees unprecedented increases in productivity "significant" changes would be needed in retirement and health programs.
"I fear that we may have already committed more physical resources to the baby-boom generation in its retirement years than our economy has the capacity to deliver. If existing promises need to be changed, those changes should be made sooner rather than later," he said.
PRODUCTIVITY GROWTH NO MAGIC BULLET
Greenspan did offer some short-term positives for the budget, saying the deficit should narrow as growth builds and incomes rise. He also noted the ramp-up in defence and homeland security spending is not expected to continue indefinitely.
"But, as the latest projections from the administration and the Congressional Budget Office suggest, our budget position is unlikely to improve substantially in the coming years unless major deficit-reducing actions are taken," Greenspan said.
The Fed chief also said solid growth in productivity -- or worker output of goods and services per hour -- would help ease budget strains.
"But unless productivity growth far outstrips that embodied in current budget forecasts, it is unlikely to represent more than part of the answer," Greenspan said, adding he could not rule out the possibility that productivity growth will fall short of projections.
