Three key indicators may determine Fed rate hike

WASHINGTON -- Mark your calendar. The week of July 29 will determine the fate of the U.S. economy for months to come. Alan Greenspan told us so.

Three key economic indicators -- the employment cost index, the National Association of Purchasing Management report on manufacturing trends, and the July jobs report -- will be released that week.

If they pop up as "red flags" warning of an overheating economy, Greenspan suggested in his congressional testimony Thursday, the Fed will have no choice but to raise interest rates to keep inflation in check.

"He clearly is waiting for those numbers to tell him what to do," said Fed-watcher David Jones, an economist at Aubrey G.Lanston & Co. in New York. If the red flags do fly, the likelihood of a rate increase at the Fed's next meeting on Aug. 20 "goes up sharply," he said.

Greenspan's philosophy is to be "pre-emptive," to move against inflation before it becomes embedded in the economy.

Though inflation remains benign despite the economy's robust health, the Fed chairman said there's no reason to believe it's conquered.

"The relatively good inflation performance of the past few years, as best we can judge, owes in part to transitional forces that are only temporarily damping the wage-price inflation process," he said.

One of those temporary forces, he said, has been the economic insecurity of workers that's inhibited them from demanding large raises. That, along with a decline in the cost of paying fringe benefits, has helped to hold down labor costs for U.S. businesses.

That inhibition may be fading, however. During the first three months of the year, the wage component of the employment cost index jumped one percent, its largest quarterly increase since 1991.

The index for the April-June quarter will be released July 30. If the wage component is up by a like amount, "that would be very bad news" to the Fed, said Sung Won Sohn, chief economist for Norwest Bank in Minneapolis. That would point to rising prices ahead as companies try to maintain profit margins.

Another red flag for Greenspan would be a continued rise in the National Association of Purchasing Management survey of manufacturing activity. The NAPM index shot up five points to 54.3 in June; a reading of 50 or more signals expanding business.

"If there is any single number that starts the process of growing pressure on labor and facilities it typically is that," said Jones. "If you go up to 55 in that number for the month of July, that would be a second red flag."

A third flag could come on Friday, Aug. 2, when the July labor market report is released. "The key thing (Greenspan) is looking at... is wages," said Rich Yamarone, chief economist at Market Data Corp. in Rye Brook, N.Y.

Hourly wages scored their biggest monthly gain ever in June, nine cents an hour.

If the trend continues, that becomes another reason in Green- span's mind to raise the key interest rate the Fed controls, the overnight bank lending rate.

Though the next Fed policy meeting falls between the Republican and Democratic conventions, Greenspan let everyone know in his Congressional testimony that politics won't keep the central bank from doing what needs to be done.

"I am confident that the Federal Open Market Committee would move to tighten," Greenspan said, "should the weight of incoming evidence persuasively suggest an oncoming intensification of inflation pressures."

Which means be alert during that last week of July for a preview of the discussion at the Fed's Aug. 20 policy meeting. "If (Greenspan) does raise interest rates," said Sohn, "we should not be surprised at all. He gave us plenty of warnings."

By contrast the coming week will be a quiet one on the indicator front.

The Federal Reserve will release its monthly report on the federal budget deficit Monday. On Thursday, the Commerce Department reports on durable goods orders and existing home sales, and the Labor Department reports on weekly initial jobless claims.

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