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The attached document represents the most complete and accurate version available
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Federal Reserve System.
Please note that some material may have been redacted from this document if that
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Content last modified 05/27/2010.

Confidential (FR) Class III FOMC

Part 2

June 23, 2004

CURRENT ECONOMIC
AND FINANCIAL CONDITIONS
Recent Developments

Prepared for the Federal Open Market Committee
by the staff of the Board of Governors of the Federal Reserve System

Confidential (FR) Class III FOMC

June 23, 2004

Recent Developments

Prepared for the Federal Open Market Committee
by the staff of the Board of Governors of the Federal Reserve System

Domestic Nonfinancial
Developments

Domestic Nonfinancial Developments
Overview
Economic activity likely registered another solid increase this quarter. Although
consumer spending looks to have slowed a bit in recent months, higher levels of
housing starts and home sales indicate a substantial step-up in residential
construction expenditures. Bolstered by strong fundamentals, equipment and
software spending began the quarter on an upward trajectory. Meanwhile, the
labor market has continued to bounce back, and factory output has accelerated
in the current quarter. Driven in part by large increases in energy prices, topline consumer price inflation has increased in recent months. Core price
inflation has risen as well since the turn of the year, though the twelve-month
change in core CPI prices is only a touch higher than over the comparable yearearlier period.
Labor Market Developments
The labor market is rebounding strongly. Private nonfarm payrolls rose
275,000 in May, after an increase of 325,000 in April. Employment gains have
been widespread; in May the six-month diffusion index of employment changes
moved up to 70.7, its highest level since April 2000.1 Notably, after three and
one-half years of decline, manufacturers have added jobs in each of the past four
months. Aggregate hours of production or nonsupervisory workers rose
0.3 percent in May and now stands 2.0 percent above its trough of last summer.
In the last Greenbook, we noted that the improvement in the labor market to that
point was mainly due to a reduction in layoffs. The more recent improvement,
however, also reflects an expansion in hiring. The hiring rate from the Job
Openings and Labor Turnover Survey (JOLTS) shot up to 3.5 percent in March,
and, despite reversing some of that rise in April, the hiring rate stands well
above the lows of last year. Similarly, the decline in the exhaustion rate for
unemployment insurance since the turn of the year is consistent with stronger
hiring pulling individuals back into jobs before their benefits run out. The
JOLTS job openings rate has also edged up since the end of last year.
Despite the large increases in employment over the past several months,
significant slack appears to remain in the labor market. In the household survey,
the unemployment rate, at 5.6 percent in May, and the labor force participation
rate, at 65.9 percent in May, have exhibited little movement since the start of the
year. Indeed, the employment-to-population ratio, the movement of which
reflects changes in both the unemployment rate and the labor force participation
rate, is still close to the low it reached last year. Moreover, the proportion of
individuals working part-time for economic reasons has been roughly flat at a
1. The diffusion index equals the percent of industries in which employment rose over the
six months ending last month plus one-half of the percent of industries with unchanged
employment.

II-2
Changes in Employment
(Thousands of employees; seasonally adjusted)
2003
Measure and sector

2004
Q4

Mar.

Average monthly change
Nonfarm payroll employment
(establishment survey)
Private
Previous
Manufacturing
Construction
Wholesale trade
Retail trade
Transportation and utilities
Information
Financial activities
Professional and business services
Temporary help services
Nonbusiness services1
Total government
Total employment (household survey)
Memo:
Aggregate hours of private production
workers (percent change)2
Average workweek (hours)3
Manufacturing (hours)

Apr.

May

Monthly change

-40
-35
-35
-64
4
-4
-4
-8
-16
14
14
10
31
-5
202

60
58
58
-17
7
4
-17
-1
0
-8
36
23
53
2
278

198
195
186
7
26
8
46
14
-2
7
26
8
59
3
-60

353
339
310
23
62
11
50
22
0
14
41
10
106
14
-3

346
325
280
29
19
10
28
0
4
13
130
47
88
21
278

248
275
...
32
37
3
19
16
3
15
64
31
83
-27
196

-1.9
33.7
40.3

1.9
33.7
40.6

2.3
33.8
41.0

0.3
33.8
40.9

0.4
33.8
40.7

0.3
33.8
41.1

1. Nonbusiness services comprises education and health, leisure and hospitality, and "other."
2. Establishment survey. Semiannual data are percent changes from Q4 to Q2. Quarterly data are percent changes from preceding
quarter at an annual rate. Monthly data are percent changes from preceding month.
3. Establishment survey.
... Not applicable.

Changes in Private
Payroll Employment

Thousands
500

500

Aggregate Hours of Production or
Nonsupervisory Workers
106

2002 = 100
106

104

102

3-month moving average
400

400
May

300

200

100

May
100

100

-100

-200

-300

-400

1997

1998

1999

2000

2001

2002

2003

2004

-400

1997

1998

1999

2000

2001

2002

2003

2004

II-3
Selected Unemployment and Labor Force Participation Rates
(Percent; seasonally adjusted)
2003
Rate and group

2002

2003

2004
Q1

Mar.

Apr.

May

Civilian unemployment rate
16 years and older
Teenagers
20-24 years old
Men, 25 years and older
Women, 25 years and older

5.8
16.5
9.7
4.7
4.6

6.0
17.4
10.0
5.1
4.6

5.9
16.3
10.0
4.9
4.6

5.6
16.6
9.6
4.5
4.5

5.7
16.5
9.6
4.6
4.6

5.6
16.9
9.2
4.4
4.6

5.6
17.2
9.7
4.6
4.2

Labor force participation rate
Total
Teenagers
20-24 years old
Men, 25 years and older
Women, 25 years and older

66.6
47.4
76.4
75.9
59.4

66.2
44.5
75.4
75.5
59.6

66.1
43.6
74.9
75.6
59.4

66.0
43.6
74.7
75.4
59.2

65.9
42.9
74.6
75.3
59.2

65.9
43.7
75.1
75.0
59.3

65.9
43.9
75.0
75.2
59.2

Labor Force Participation Rate
and Unemployment Rate

Percent
67.4

Percent
7.0

67.2

6.5

67.0

6.0
Participation rate (left scale)

66.8

5.5
66.6

May

5.0

66.4
4.5

66.2

65.8

4.0

Unemployment rate (right scale)

66.0
1994

1995

1996

1997

1998

1999

2000

65.0
64.5

64.0

63.5

63.0

62.5

3.5

2004

63.5

63.0

2003

64.5

64.0

2002

Persons Working Part-Time
for Economic Reasons

Employment-Population Ratio
Percent
65.0

2001

62.5

62.0

(Percent of household employment)

4.0

Percent
4.0

May

3.5

3.0

2.5

May
61.5
61.0

61.5
1994

1996

1998

2000

2002

2004

61.0

2.0

1994

1996

1998

2000

2002

2004

2.0

II-4
high level since the start of the year. The share of small firms reporting to the
National Federation of Independent Businesses that they have a hard-to-fill
position open is currently only at the upper end of the low range it has occupied
since late 2001, a reading that suggests that workers are not appreciably hard to
find. Household perceptions of the labor market, as reported in the Conference
Board survey, also support the view that the labor market has ample room for
expansion. Survey respondents’ assessments of current labor market conditions
were about unchanged in May and remain below the level at the trough of the
recent recession.
Looking ahead, the level of initial claims through the middle of June continues
to point to a strong gain in employment; the four-week moving average for the
week ending June 12 was 343,000. The hiring plans of small businesses, as
reported by the National Federation of Independent Businesses survey, have
been unchanged, on net, over the past several months, albeit at a level well
above their trough. Similarly, Manpower Inc.’s index of firms’ hiring plans for
the third quarter was unchanged at its highest level in three years.2
We now estimate that productivity in the nonfarm business sector increased at
an annual rate of 3.7 percent in 2004:Q1, after a rise of 2.5 percent in the fourth
Labor Output per Hour
(Percent change from preceding period, compound annual rate;
seasonally adjusted)
Sector

2002

2003

Nonfarm businesses
All persons
All employees2

4.3
4.5

Nonfinancial corporations3

5.1

2003

2004

Q11

5.4
5.8

9.5
10.8

2.5
2.8

3.7
2.7

6.5

9.5

4.3

2.2

Note. Annual changes are from fourth quarter of preceding year to fourth
quarter of year shown.
1. Staff estimate.
2. Assumes that the growth rate of hours of all persons equals the growth
rate of hours of all employees.
3. All corporations doing business in the United States except banks, stock
and commodity brokers, and finance and insurance companies. The sector
accounts for about two-thirds of business employment.

2. Though the Manpower survey asks respondents about their hiring plans for the next
quarter, we have found the series to be most strongly correlated with employment gains in the
last month of the current quarter and the first month of the next quarter.

II-5
Labor Market Indicators

Job Openings and Hires

Exhaustion Rate
Percent of employment
4.2

Percent of employment
3.4
3.2

4.0
Openings
(left scale)

3.0

Percent
50

3.8

2.8

3.6

2.6

Hires
(right scale)

2.4

3.4
Apr.

3.2

2.2

2.8

3.0

2.0

May

1.8

2001

2002

2003

2004

2.6

1990

1992

1994

1996

1998

2000

2002

2004

Note. Seasonally adjusted by FRB staff. Exhaustion
rate is number of individuals who exhausted benefits
without finding a job, expressed as a share of
individuals who began receiving benefits six months earlier.

Source. Job Openings and Labor Turnover Survey.

Positions Hard to Fill

Current Labor Market Conditions

Percent
40

30
May

130

110

110
May

Index
150

130

150

1990

1992

1994

1996

1998

2000

2002

2004

Note. Percent of firms surveyed with at least one
"hard to fill" job opening.
Source. National Federation of Independent Businesses.

1990

1992

1994

1996

1998

2000

2002

Percent
30

30
Manpower, Inc.

450

25
Q3

20
3.0
Insured unemployment
(left scale)

June 5
Initial claims
(right scale)

15
May

350

2.0

10
300

1997 1998 1999 2000 2001 2002 2003 2004 2005

400

June 12

1.5

Net Hiring Strength
Thousands
500

3.5

2.5

2004

Note. The proportion of households believing jobs
are plentiful, minus the proportion believing jobs are
hard to get, plus 100.
Source. Conference Board.

Unemployment Insurance
Millions
4.0
4-week moving average

250

National Federation of
Independent Businesses

5
0

1990

1992

1994

1996

1998

2000

2002

2004

Note. Percent planning an increase in employment
minus percent planning a reduction.

II-6
quarter. However, this apparent acceleration reflects, in part, a large decline last
quarter in non-employee hours, which are volatile. An alternative productivity
measure, using the rate of increase in hours of all employees, rose at an annual
rate of 2.7 percent in the first quarter, about the same rate as in 2003:Q4.
Industrial Production
Total industrial production rose about 1 percent in both April and May, a
noticeable step-up from the average monthly pace of 1/2 percent recorded
during the first quarter. IP in the second quarter is on track to post a fourth
consecutive quarter of accelerating production. In the past two months, output
at utilities surged, reflecting a turn in the weather from unusually mild in March
to unseasonably warm in May, and manufacturing production excluding motor
vehicles expanded sharply. Motor vehicle assemblies were little changed in
April; in May they fell 450,000 units and subtracted 0.2 percentage point from
the change in manufacturing output.
Production in high-tech manufacturing industries rose smartly in May. The
output of semiconductors and computers continued to post solid gains, and the
production of communications equipment rose nearly 3-1/2 percent, more than
erasing the declines of the preceding three months.
Production gains elsewhere have been broad-based. The pace of output of
consumer nondurables and business supplies, which had generally lagged
production increases in other market groups, picked up in recent months, and the
production of business equipment, which rose nearly 12 percent (annual rate) in
the first quarter, climbed again in April and May.3 Materials output continued
the expansion that started in the second half of last year.
For June, the limited available weekly data on physical output are down a bit on
net. Although the production of iron, steel products, and coal has risen in the
first half of this month, electricity generation has reversed some of the rise in
May. More importantly, motor vehicle assemblies appear to have eased back in
June to 11-3/4 million units (annual rate), putting the average rate for the second
quarter at 12.0 million units. Preliminary third-quarter schedules call for a
12.1 million unit rate. Despite robust sales in May, inventories of light trucks
remain uncomfortably high, and as a result some automakers have extended
summer downtime at a few plants by one week.

3. To meet demand, John Deere, a maker of farm and construction machinery, is reportedly
planning to forgo its usual summer shutdown period, and, similarly, Caterpillar is not planning to
temporarily idle any of its plants this summer.

II-7
Selected Components of Industrial Production
(Percent change from preceding comparable period)
Proportion
2003

Component

(percent)

2003

2004

20031

2004

Mar.

Annual rate
Total
Previous

Apr.

May

Monthly rate

100.0
100.0

1.5
1.5

5.6
5.6

6.7
6.3

.0
-.1

.8
.8

1.1
...

Manufacturing
Ex. motor veh. and parts
Ex. high-tech industries

82.3
75.6
70.7

1.9
1.7
.3

6.1
5.9
4.6

6.2
5.9
4.5

.3
.5
.5

.7
.8
.7

.9
1.2
1.1

Mining
Utilities

7.6
10.1

.4
-.6

1.1
5.0

-1.5
17.6

-.2
-2.5

.9
1.5

-.4
3.3

Selected industries
High technology
Computers
Communications equipment
Semiconductors2

4.9
1.2
1.3
2.4

21.3
14.1
5.8
34.3

24.8
27.2
2.5
36.4

27.3
27.9
1.2
41.4

1.3
2.2
-1.5
2.1

2.1
2.3
-1.2
3.4

3.5
2.5
3.4
4.0

Motor vehicles and parts

6.7

3.8

8.8

9.9

-1.8

-.3

-2.3

Market groups excluding
energy and selected industries
Consumer goods
Durables
Nondurables

22.6
4.3
18.3

.2
1.1
.0

3.6
7.6
2.6

3.6
6.9
2.8

.6
-.1
.8

.5
.6
.5

1.0
.8
1.1

Business equipment
Defense and space equipment

7.3
1.9

1.0
4.8

5.6
.4

11.8
-.7

.0
1.1

1.1
.1

1.5
.5

Construction supplies
Business supplies

4.2
8.5

1.1
.2

7.9
1.9

2.0
5.3

.7
.5

1.0
.9

1.4
1.3

24.8
13.6
11.2

-.3
-.1
-.5

6.3
8.2
4.0

3.9
5.2
2.3

.4
.5
.2

.6
.6
.7

.9
.9
.8

Materials
Durables
Nondurables

1. From fourth quarter of preceding year to fourth quarter of year shown.
2. Includes related electronic components.
... Not applicable.

Capacity Utilization
(Percent of capacity)
19722003
average

1982
low

199091
low

Apr.

May

Total industry

81.1

70.9

78.6

74.6

75.5

76.5

77.1

77.8

Manufacturing
High-tech industries
Excluding high-tech industries

80.0
78.8
80.1

68.7
75.4
68.2

77.2
74.5
77.3

73.2
65.0
74.3

74.1
67.0
75.2

75.1
69.1
76.1

75.9
69.8
77.0

76.4
71.0
77.5

Mining
Utilities

86.9
86.9

78.6
77.6

83.4
84.1

85.0
82.9

85.3
83.1

85.0
85.8

85.5
85.3

85.1
88.0

Sector

2003

2004

II-8
Production of Domestic Autos and Trucks
(Millions of units at an annual rate except as noted; FRB seasonals)
Item
U.S. production
Autos
Trucks
Days’ supply1
Inventories2

2003
12.1
4.5
7.6
70
3.04

2003

2004

Mar.

Apr.

May

12.3
4.6
7.7
63
2.88

12.2
4.4
7.8
68
3.04

12.4
4.4
8.0
74
3.16

12.2
4.4
7.9
73
3.16

12.3
4.5
7.8
76
3.23

11.9
4.1
7.7
68
3.12

Note. Components may not sum to totals because of rounding.
1. Quarterly and annual values are calculated with end-of-period stocks
and average reported sales; excludes medium and heavy trucks.
2. End-of-period stocks; excludes medium and heavy trucks.

Indicators of production in high-tech industries remain positive. Intel’s upward
revision to its second-quarter revenue guidance suggests solid near-term
increases in semiconductor output, and, according to Gartner, a consulting and
research firm, semiconductor vendors are reporting strong orders. Utilization
rates among semiconductor producers remain above 90 percent; despite a
doubling of bookings for semiconductor manufacturing equipment relative to a
year ago, industry contacts are concerned about looming capacity constraints.
Indeed, the latest Institute for Supply Management (ISM) manufacturing survey
listed several types of semiconductors as up in price, and semiconductors were
noted as being in short supply. CIO Magazine’s diffusion indexes for future
spending on computer hardware and on networking equipment have continued
to rise, and orders as reported in the M3 for nondefense communications
equipment surged in April.
Other forward-looking indicators for near-term manufacturing activity are
consistent with continued production increases. The ISM new orders diffusion
index remained relatively high in May, and available regional indexes in June
point to further solid gains. Smoothing through the substantial volatility in the
staff’s series on real adjusted durable goods orders, the three-month moving
average increased a solid 1.3 percent in April.
The recent sharp turnaround in manufacturing production has boosted the
factory operating rate to 76.4 percent in May. Although the utilization rate has
risen rapidly in the past six months, it remains 3-1/2 percentage points below its
1977-2003 average. The slack suggested by this measure stands in contrast to
the impression given by the ISM’s index of supplier delivery performance,
which indicates widespread increases in lead times. A similar gap between the
two series opened up in the 1982-84 period, when the supplier deliveries index
shot up before the factory operating rate turned up. In both cases, the gap

II-9
Indicators of High-Tech Manufacturing Activity

Contribution to the Rate of Change in
Semiconductor Industrial Production

Industrial Production in the High-Tech Sector
1997 = 100, ratio scale

Percentage points
1200
1000

800

Semiconductors

8
3-month moving average
6

600

MPUs

400

May

Computers

2
May

0
200

0
Non-MPU chips

-2

Communications equipment
1999

2000

2001

2002

2003

100

2004

-4

Microprocessor Unit (MPU) Shipments
and Intel Revenue

1998

1999

2000

2001

2002

2003

2004

-4

Semiconductor Manufacturing
Equipment Orders and Shipments

Billions of dollars, ratio scale

Billions of dollars, ratio scale
9.0

Intel revenue

3.5
3.0

8.5

2.5

Orders

8.0

2.0

7.5
May
7.0

1.5

6.5

Shipments

1.0

6.0
5.5

Worldwide MPU shipments
1999
2000
2001
2002
2003
2004
Note. Q2 is the range of Intel’s guidance as of June 3, 2004.
FRB seasonals.
Source. Intel and Semiconductor Industry Association.

5.0

1999
2000
2001
2002
2003
Source. Semiconductor Equipment and Materials
International.

CIO Magazine Future Spending
Diffusion Index

2004

U.S. Personal Computer and Server Sales
Index

0.72

Millions of units, ratio scale

Data networking equipment

May

0.60
PCs (right scale)

17
16

0.66
70

0.5

0.54

14
13

0.48

12
0.42
11
0.36

Servers (left scale)

Computer hardware
45

45
2001
2002
2003
2004
Note. The diffusion index equals the percentage of respondents planning to increase future spending plus one-half the
percentage of respondents planning to leave future spending
unchanged.
Source. CIO Magazine.

0.30

1999
2000
2001
Note. FRB seasonals.
Source. Gartner.

2002

2003

II-10
emerged when manufacturing began to rebound from a protracted and
substantial downturn and likely reflects short-run constraints of labor and
materials on hand due to the cumulative declines in manufacturing employment
and inventories.4 Indeed, similar cyclical considerations are likely behind the
significantly higher utilization rates found in the ISM’s recent Semiannual
Economic Forecast; consistent with our interpretation, manufacturers reported
that they planned to relieve these pressures by working existing personnel
longer hours and hiring more workers.
Another factor contributing to lengthening supplier delivery lead times may be
tight capacity in the trucking industry. Industry contacts and reports in the
Beige Book indicate widespread driver shortages and a relatively low stock of
medium and heavy trucks. The Bureau of Transportation’s transportation index
for freight volume has risen at an annual rate of 12 percent in the six months
ending in March (latest observation available).
New Orders for Durable Goods
(Percent change from preceding period except as noted; seasonally adjusted)

Component
Total orders

2003 2004
Proportion,
2003: H2 Q4
Q1
(percent)
Annual rate
100.0

18.4

2004
Feb.

Mar.

Apr.

Monthly rate

8.8

3.9

5.9

-3.2

Adjusted orders1
Computers
Communication equipment
Other capital goods
Other2

75.0 19.1 13.4
5.0
4.7 -14.8
4.0 -56.0 48.3
23.0 27.7 18.5
43.0 26.0 11.7

2.8
2.2
6.4
1.8
3.1

6.8
-1.1
-7.1
9.5
7.2

-3.8
4.5
18.1
-7.9
-3.8

Memo:
Real adjusted orders
Excluding high tech

...
...

2.5
2.2

6.3
7.8

-4.4
-6.0

18.0
22.9

10.7
10.1

1. Orders excluding defense capital goods, nondefense aircraft, and motor vehicle parts.
2. Primary metals; most fabricated metals; most stone, clay, and glass products;
household appliances; scientific instruments; and miscellaneous durable goods.
. . . Not applicable.

4. The Federal Reserve’s capacity measure abstracts from these short-run constraints by
asking respondents to the Survey of Plant Capacity to assume that the requisite labor and
materials are available.

II-11
Indicators of Manufacturing Activity

Weekly Production Index excluding Motor
Vehicles

Motor Vehicle Assemblies
Index
18.0
17.8
17.6
17.4
17.2
17.0
16.8
16.6
16.4
16.2
16.0
15.8

15.6

Monthly aggregate of weekly index
Weekly index

July
Oct. Jan. Apr. July
Oct. Jan. Apr. July
2002
2003
Note. One index point equals 1 percent of 1997 total industrial
output.

Annual rate

Millions of units
14

12
+June

1999
2000
2001
2002
2003
Note. June value is based on weekly data.

2004

New Orders: ISM and
FRB Philadelphia Surveys

Inventories of Light Vehicles
Millions of units, monthly total
3.4

Diffusion index
3.4

80
75

3.2

3.2
70

May
3.0

3.0

2.8

2.6

FRB Philadelphia survey

2.6

May
June

65
60
55
50

ISM
2.4
2.2

2.2

2.4
40
1998 1999 2000
Note. FRB seasonals.

2001

2002

2003

2004

1999
2000
2001
2002
2003
2004
Note. The diffusion index equals the percentage of
respondents reporting greater levels of new orders, plus
one-half the percentage of respondents reporting that
new orders were unchanged.

ISM Supplier Deliveries Index and
Manufacturing Capacity Utilization
80
75
70
65
60
55
50
45
40
35
30
25
20

Percentage

Diffusion Index

May

ISM supplier deliveries index (left scale)

90
85
80
75
Manufacturing capacity utilization (right scale)
70

1978
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
Note. The diffusion index equals the percentage of respondents reporting slower supplier deliveries, plus one-half the percentage
of respondents reporting that supplier deliveries were unchanged.

II-12
Motor Vehicles
Sales of light vehicles climbed 1.4 million units in May to an annual rate of
17.8 million units, a blip-up that follows a sales pace of less than 16-1/2 million
units in the first four months of the year. More aggressive marketing tactics can
account for only a small portion of the jump in sales in May. Incentives on light
vehicles did move up after having been flat for several months, but the dollar
value of the increase was modest. In addition, fleet sales explain only
130,000 units of the rise in sales. This month, incentives have edged down, and
automakers expect light vehicle sales to drop back, with projections ranging
from 16.0 to 16.4 million units.
Our industry contacts have told us that high gasoline prices do not appear to
have significantly affected consumer behavior to date. Despite their lower fuel
efficiency, light trucks have increased their share of light vehicle sales, on net,
in the past two months. Although the market share of the sports utility segment
has slipped this year, the decline follows a rapid increase in 2003, and the recent
pullback is not out of line with historical variation in shares. In the past three
months, the number of respondents to the Michigan Survey of Consumer
Sentiment who cited rising gasoline prices as a reason that motor vehicle buying
conditions are poor has risen from a negligible fraction to 8 percent.
Nonetheless, personal finances and general economic conditions, rather than
concerns about rising fuel costs, continue to be the dominant reported factors
affecting consumers’ views of buying conditions.
Consumer Spending
Real personal consumption expenditures appear to have slowed a bit in the
current quarter. In particular, purchases of goods excluding cars and trucks
declined 0.3 percent in April. Despite a large nominal increase in this category
in May, we estimate that real spending was flat, as gasoline and food prices
increased sharply.
Real outlays on services moved up in April, the most recent month for which
data are available. Spending on energy services increased in April with a return
to more normal temperatures from an unseasonably mild March; atypically
warm weather in May likely pushed up spending further in this category.
Expenditures on non-energy services, which rose briskly again in April, were
boosted largely by outlays for medical and brokerage services.
The economic fundamentals underlying consumption still look strong. Gains in
equity values and house prices over the past year have boosted the net worth of
households. Moreover, despite higher energy prices, real disposable personal
income has been rising rapidly so far this year, benefiting from an improved
labor market and last year's tax cut. With disposable income advancing faster

II-13
Sales of Light Vehicles
(Millions of units at an annual rate, FRB seasonals)
2003
Category

2003

Total

2004
Q4

2004

Mar.

Apr.

May

16.6

17.4

16.8

16.3

16.6

16.4

17.8

7.6
9.0

7.7
9.7

7.5
9.3

7.4
8.9

7.7
8.9

7.4
9.0

8.0
9.8

North American1
Autos
Light trucks

13.3
5.5
7.8

14.1
5.7
8.4

13.6
5.5
8.2

13.1
5.4
7.7

13.2
5.6
7.6

13.0
5.2
7.8

14.2
5.7
8.5

Foreign-produced
Autos
Light trucks

3.3
2.1
1.2

3.4
2.1
1.3

3.2
2.0
1.2

3.4
2.1
1.3

3.3
2.2
1.2

3.6
2.3
1.3

.33

.34

.37

.40

.41

.40

.39

Autos
Light trucks

Memo:
Medium and heavy trucks

Note. Components may not sum to totals because of rounding. Data on sales of trucks and imported autos for the most
recent month are preliminary and subject to revision.
1. Excludes some vehicles produced in Canada that are classified as imports by the industry.

Sales of Light Vehicles

Average Value of Incentives on Light Vehicles
Ratio scale, current dollars per vehicle

Millions of units, annual rate
19.0

Range of
June
forecasts

2800
2300

June

18.5

1800

18.0

1300

17.5
17.0

800

16.5
16.0
15.5
2002

2003

2004

15.0

2000

2001

2002

2003

300

2004

Note. FRB seasonals. Adjusted for shifts in reporting
periods.

Note. Weighted average of customer cash rebate and
interest rate reduction. Data are seasonally adjusted.
Source. J.D. Power and Associates.

Market Share of Light Vehicles by Segment

Michigan Survey Index of Car-Buying Attitudes
Index

Percent

165

0.30
Pickup/Van

160
0.25

155

SUV
Mid-sized
Small

0.15

Large/Luxury

150

0.20

0.10

June

145
140
135
130

2002

2003

2004

Note. Data through May. FRB seasonals.

0.05

1998

1999

2000

2001

2002

2003

2004

125

II-14
Retail and Food Services Sales
(Percent change from preceding period; seasonally adjusted current dollars)
H1

Total sales
Previous estimate
Retail control1
Previous estimate
GAF2
Gasoline stations
Food services
Other retailers3

3.0
3.0
2.1
2.1
1.4
.9
4.8
2.1

Category

2003
Q3
2.6
2.6
2.4
2.4
2.7
3.4
2.2
2.0

1.1
1.1
1.5
1.5
1.2
1.6
2.9
1.2

Mar.

2.3
2.3
2.7
2.6
2.7
6.5
3.0
1.6

2004
Apr.

May

2.1
2.0
1.0
.7
.6
3.7
.2
.8

-.6
-.5
-.1
.0
-.7
.3
-.2
.5

1.2
...
1.0
...
.8
4.0
-.3
.7

1. Total retail trade and food services less sales at building material and supply stores and automobile
and other motor vehicle dealers.
2. Furniture and home furnishing stores; electronics and home appliance stores; clothing and
accessories stores; sporting goods, hobby, book, and music stores; and general merchandise stores.
3. Health and personal care stores, food and beverage stores, electronic shopping and mail order
houses, and miscellaneous other retailers.
... Not applicable.

Real PCE

Real PCE Goods

Billions of chained (2000) dollars
7780

2960

7650

2900

7520

2840

7390

2780

7260

2720

7130

2660

7000

2600

7780

Quarterly average

7650

Apr.

7000

2003

2004

Billions of chained (2000) dollars
2960
Quarterly average
May

2900

2720
Excluding autos and trucks
2660

2003

2004

2600

Note. Data for May is a staff estimate.

Change in Real Personal Income and Real DPI
Percent, annual rate
12

12
10

Real personal income
Real DPI

-2

-2
H1

H2
2002

H2
2003

Apr.
2004

II-15
than personal outlays since the end of last year, the saving rate has moved up
this year, reaching 2.4 percent in April.5
Consumer confidence also remains at favorable levels. The Michigan Survey
Research Center's index of consumer sentiment jumped in early June, more than
reversing its decline in the previous month, and the Conference Board index of
consumer confidence held steady in May (the most recent reading). The levels
of both indexes are well above their lows of early 2003.
Housing Markets
The pace of new homebuilding remained elevated in April and May. New
single-family homes were started at annual rates of 1.62 million units in April
and 1.64 million units in May, near the high end of the very strong recent range
of activity. Issuance of new permits to build single-family homes (adjusted for
activity in areas where permits are not required) was roughly in line with starts
last month, suggesting that starts remained elevated in June.
In the more-volatile multifamily sector, starts fell about 10 percent in May to an
annual rate of 327,000 units, but the pace of new permit issuance points to a
rebound in starts this month. Indeed, construction activity in this sector has
been surprisingly resilient in the past several months despite a vacancy rate for
multifamily units that reached a record high of 11.4 percent in the first quarter.
Low interest rates may have helped maintain the profitability of apartment
buildings despite the higher vacancy rates.
Home sales remained strong in April, and prices continued to rise at a rapid rate.
Sales of existing homes increased to an annual rate of 6.64 million units in
April, only a bit below the record pace set last September. The average price of
an existing home sold in April was 9.8 percent higher than a year before, and the
repeat-sales price index (which is less affected by the composition of homes
sold) was up 7.7 percent during the year ending last quarter. In the much
smaller market for new homes, sales dropped back in April from March’s record
level but remained elevated. The average price of a new home sold in April was
14 percent higher than a year before, and the quality-adjusted price index for
new homes (which controls for changes in some of the characteristics of homes
sold) was up 5.8 percent during the year ending in the first quarter.
The recent run-up in mortgage rates has yet to have a noticeable effect on
housing activity. The average rate for thirty-year fixed-rate mortgages in the
first half of June was almost 85 basis points above the near-record low seen in

5. In its preliminary report on first-quarter GDP, the BEA revised up its estimate of the
saving rate 0.2 percentage point in 2003:Q4 and 0.3 percentage point in 2004:Q1 because of
upward revisions to wages and salaries.

II-16
Household Indicators

Household Net Worth and Wilshire 5000
Index
15000

Ratio
7.0

13000

6.5
May

11000
9000

5.5

Ratio of household net worth to DPI
(right scale)

7000

3000

5.0

Wilshire 5000
(left scale)

5000

1994

1995

1996

6.0

4.5

1997

1998

1999

2000

2001

2002

2003

2004

4.0

Personal Saving Rate
7

Percent
7

Apr.

2
1

-1

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

Consumer Confidence
1985 = 100
160

1966 = 100
120

140

110

120

100

Michigan SRC
(right scale)

June(p)

100

90
May

80
Conference Board
(left scale)

60
40

1990

1991

p Preliminary.

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

II-17
Private Housing Activity
(Millions of units; seasonally adjusted annual rate)
2003
Sector

2004

2003

Mar.

Apr.

May

1.85
1.86

1.88
1.93

2.04
1.97

1.94
1.93

2.00
1.98

1.98
2.01

1.97
2.08

1.50
1.44
1.50
1.09
6.10

1.52
1.51
1.55
1.16
6.42

1.66
1.54
1.60
1.12
6.30

1.57
1.52
1.55
1.17
6.20

1.62
1.55
1.59
1.24
6.48

1.62
1.54
1.57
1.09
6.64

1.64
1.59
1.62
n.a.
n.a.

0.35
0.42

0.36
0.42

0.38
0.44

0.37
0.42

0.38
0.42

0.36
0.46

0.33
0.49

0.13

All units
Starts
Permits
Single-family units
Starts
Permits
Adjusted permits1
New home sales
Existing home sales
Multifamily units
Starts
Permits
Mobile homes
Shipments

0.13

n.a.

1. Adjusted permits equal permit issuance plus total starts outside of permit-issuing areas.
n.a. Not available.

Private Housing Starts
(Seasonally adjusted annual rate)
Millions of units
2.5

2.5

2.0

May

2.0

Total
May
1.5

1.5

Single-family

1.0

Multifamily

0.5

0.5
May

0.0

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

0.0

II-18
Indicators of Single-Family Housing

Prices of Existing Homes

Existing Home Sales
7000

Thousands of units
7000
Apr.

6500

6000

5500

5000

4500

4000

1998

1999

2000

2001

2002

2003

2004

4000

20
18
16
14
12
10
8
6
4
2
0
-2
-4

New Home Sales
1300
1200

1200

1100

1100
Apr.

1000

900

800

1999

2000

2001

2002

2003

2004

700

20
18
16
14
12
10
8
6
4
2
0
-2
-4

1998

1999

2000

2001

2002

2003

Change from year earlier

Average

Constant
quality

1998

1999

2000

2001

2002

2003

Percent
20
18
16
Apr.
14
12
10
8
Q1
6
4
2
0
-2
-4
2004

Source. Census Bureau.

Mortgage Rates
9

Average

Prices of New Homes
Thousands of units
1300

1998

Repeat transactions

Source. National Association of Realtors and OFHEO.

Source. National Association of Realtors.

700

Percent
20
18
16
14
12
Apr.
10
8
Q1
6
4
2
0
-2
-4
2004

Change from year earlier

Homebuying Indicators
Percent
9

Fixed rate

Diffusion index
220

8
7

180

MBA purchase index
(right scale)

200

Index
500
June 18
450

160

350
300
June (p)

Adjustable rate

400

140

120

100

June

1998

1999

2000

2001

2002

2003

Note. The June reading is based on data through
June 18.
Source. Freddie Mac.

2004

250
200

Michigan homebuying
attitudes (left scale)
1998

1999

2000

2001

150
2002

2003

2004

100

Note. MBA index is a 4-week moving average. Michigan
Survey data are not seasonally adjusted.
Source. Mortgage Bankers Association and Michigan Survey.

II-19
March; over the same period, the average rate for one-year adjustable-rate
mortgages rose about 65 basis points. Housing activity normally lags changes
in mortgage rates by one to two months. Moreover, the recent jump in rates
may be prompting some shoppers to bring forward their purchases to avoid
potentially higher rates later on.6 Nonetheless, the most recent data from the
Mortgage Bankers Association—our most timely indicator of housing demand
—show that purchase applications moved down a bit in the first half of June,
which suggests that home-buying activity may ease this summer.
Equipment and Software
Real outlays for equipment and software rose at an annual rate of 10 percent in
the first quarter and seem poised for a more rapid gain in the current quarter.
Spending on transportation equipment, which dropped last quarter, appears
likely to make a strong showing, and business expenditures on other equipment
look to be advancing at the same brisk pace as observed over the past year.
More generally, the current business environment is favorable for capital
investment: Business output is rising, corporate coffers are flush with liquid
assets, financing costs are low, and the looming expiration of the partial
expensing tax provision gives firms an additional incentive to invest before the
end of the year. Surveys of business leaders and anecdotes from our industry
contacts also point to continued vigorous demand.
The recent orders and shipments data indicate that firms are investing in hightech equipment at a rapid clip. In April, nominal shipments of computers and
communications equipment jumped, and orders in both categories registered
substantial increases. Favorable revenue guidance from major software vendors
is also consistent with buoyant activity in the high-tech sector.
Business spending on motor vehicles and aircraft seems likely to rebound in the
current quarter after dropping sharply in the first quarter. Sales of light vehicles
to businesses appear to have moved up in the second quarter; this should offset a
dip in sales of medium and heavy trucks in April and May that is itself likely to
be temporary. Tight capacity in the transportation industry and accelerated
depreciation schedules have stimulated a rise in orders for medium and heavy
trucks to near record levels in April and May. Real outlays on aircraft slumped
in the first quarter as airlines purchased fewer planes from foreign
manufacturers, but April trade data point to a bounceback in imports for the
current quarter. The increase in imports will likely more than offset a decline in
domestic shipments.

6. Many real estate practitioners think that an increase in mortgage rates that follows a long
decline in rates spurs many “fence sitters” to jump into the market. While there is some
evidence for a short-lived effect on the sale of existing homes, we cannot find a fence-sitter
effect for the construction or sale of new homes.

II-20
Equipment and Software Investment Fundamentals

Real Business Output
Percent change, annual rate
12

-3

-6

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

-6

Real Corporate Cash Flow
Percent change, annual rate
72

18
Q1

0
-18
-36

0
-18

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

-36

User Cost of Capital
(Excludes the effects of the partial expensing tax incentive)
240

High-Tech

2000 = 100, ratio scale

240

196

162

2000 = 100, ratio scale

104

128

Non-High-Tech

162

128

104

100

92
Q1

Q1
60

1990

1992

1994

1996

1998

2000

2002

2004

1990

1992

1994

1996

1998

2000

2002

2004

II-21
Orders and Shipments of Nondefense Capital Goods
(Percent change; seasonally adjusted current dollars)
2003
Indicators

2004

Feb.

Annual rate

Mar.

Apr.

Monthly rate

Shipments
Excluding aircraft
Computers and peripherals
Communications equipment
All other categories

11.2
12.2
7.8
11.3
13.3

10.5
12.1
-4.3
2.6
17.1

-.3
-1.7
-2.7
-4.6
-1.0

3.4
3.6
1.2
.7
4.5

-.1
.5
6.0
4.5
-1.0

Orders
Excluding aircraft
Computers and peripherals
Communications equipment
All other categories

9.7
10.2
4.7
-56.0
27.7

10.4
15.8
-14.8
48.3
18.5

4.1
2.3
2.2
6.4
1.8

6.2
6.2
-1.1
-7.1
9.5

-3.0
-3.8
4.5
18.1
-7.9

Memo:
Shipments of complete aircraft1

29.0

29.2

31.4

31.2

24.3

1. From Census Bureau, Current Industrial Reports; billions of dollars, annual rate.

Computers and Peripherals

Communications Equipment

Billions of dollars, ratio scale

13
Shipments
Orders

13
12

Apr.

Billions of dollars, ratio scale

21
18

Shipments
Orders

21
18
15

9
Apr.

1999

2000

2001

2002

2003

2004

1999

Medium and Heavy Trucks
700
590

2000

2001

2002

2003

2004

Other Equipment

Thousands of units, ratio scale
700
May
590

Billions of dollars, ratio scale

Sales of class 4-8 trucks
Net new orders of class 5-8 trucks

525

460

Shipments
Orders
48

460
45

395

May

Apr.

395

330

265

200

1999
2000
2001
2002
2003
2004
Note. Annual rate, FRB seasonals.
Source. Ward’s Communications and ACT Research Co.

1999

2000

2001

2002

2003

2004

II-22
Business outlays on equipment excluding high-tech and transportation
equipment appear strong. Although nominal shipments in this category slipped
1 percent in April, they posted a substantial 4-1/2 percent increase the previous
month, and the April level stood well above the first-quarter average. Orders
have been robust, and the backlog of unfilled orders has moved up.
Nonresidential Construction
Nominal business spending on nonresidential structures posted its third
consecutive monthly increase in April but has yet to break out of the fairly
narrow range it has occupied for about a year and a half. The recent
performance of the major types of construction has been mixed. Nominal
spending on office buildings and manufacturing structures fell in April, while
outlays for commercial buildings—which include wholesale and retail
establishments—communications structures, and various other types of
buildings moved up.7
Other indicators of nonresidential construction also vary across sectors.
Conditions in the office sector remain soft but show some signs of stabilizing.
The office vacancy rate flattened out at a high level in the first quarter; rents
continued to fall, albeit at a slower rate; and property values eked out modest
increases. In the retail sector, low vacancy rates accompanied gains in rents and
property values in the first quarter, but the rate of increase for property values
moved off the lofty levels seen late last year. An increase in the number of
natural gas drilling rigs in operation through early June suggests that spending
on drilling and mining structures has likely risen in the past few months. In
contrast, the vacancy rate for industrial space edged up further in the first
quarter.
Business Inventories
The pace of inventory accumulation has remained modest. Although the book
value of manufacturing and trade inventories rose at an annual rate of
$82 billion in the first quarter, more than half of that increase reflected rising
inventory valuations. A large gap between book-value and real measures of
inventory investment occurs when the prices of crude and manufactured goods
swing rapidly; in this case, a jump in the price of oil and a run-up in the prices
of intermediate materials explain the relatively large adjustment to the bookvalue data last quarter. In April, the book value of stocks of manufacturing and
trade businesses rose at about the first-quarter pace, but we believe that most of
this increase was also price related.

7. The “other” category includes buildings used for a variety of purposes such as religious,
educational, lodging, amusement, recreation, transportation, and health care.

II-23
Nonresidential Construction

Total Structures

Office
Billions of dollars, ratio scale

290

Billions of dollars, ratio scale

251

234

268

251

268

234

41
Apr.
217

200

41
Apr.

217

1997

1998

1999

2000

2001

2002

2003

2004

200

Manufacturing

1997

1998

1999

2000

2001

2002

2003

2004

Commercial
Billions of dollars, ratio scale

Billions of dollars, ratio scale

62
Apr.

58
17

Apr.

1997

1998

1999

2000

2001

2002

2003

2004

Communication

1997

1998

1999

2000

2001

2002

2003

2004

Other
Billions of dollars, ratio scale

Apr.

Billions of dollars, ratio scale

55
51

Apr.

1997

1998

1999

2000

2001

2002

2003

2004

1997

1998

1999

2000

2001

2002

2003

2004

II-24
Indicators of Nonresidential Construction
Office Buildings
Rent and Property Values
10

Vacancy Rate
Percent
10

Percent change from previous period

Percent
20

-2

0
-2

Property values

-4

Rent

-6

-8
-10

Q1
15

-8
1992

1994

1996

1998

2000

2002

2004

-10

1992

Source. National Real Estate Index.

1994

1996

1998

2000

2002

2004

Source. Torto Wheaton Research.

Retail Buildings
Retail Rent and Property Values

Vacancy Rate
Percent
5

Percent
11

Percent change from previous period

11
10

4
3

Property values

-2
1994

1996

1998

2000

2002

-3

-1

Rent

1992

-2

-1

-3

7
Q1

2004

Source. National Real Estate Index.

1992

Number
1250

1100

800

650

500

June

200

200
1996

2004

1998

2000

Percent
12

2002

Note. June values are averages through June 18.
Source. DOE/Baker Hughes.

350

Petroleum rigs

1994

2002

950

Natural gas rigs

1992

2000

Vacancy Rate

1250

1998

Industrial Buildings

Rigs in Operation

350

1996

Source. National Council of Real Estate Investment
Fiduciaries.

Drilling Activity

950

1994

2004

1992

1994

1996

1998

2000

Source. Torto Wheaton Research.

2002

2004

II-25
Non-auto inventory-sales ratios appear to be below their trend levels. In
addition, the staff’s flow-of-goods system, which measures inventories of
various products wherever held, indicates that days’ supply of all but a handful
of goods are below trend. The ISM diffusion index of customers’ inventories
slipped further in May to its lowest level since the inception of the index in
mid-1995; almost one-third of respondents to the survey indicated that they felt
that their customers’ stocks were too low, while only a handful felt that they
were too high.
Federal Government
The budget outlook is a bit less gloomy than it was earlier this year because
receipts appear to have firmed somewhat in recent months. The Congressional
Budget Office stated that fiscal 2004 receipts may be $30 billion to $40 billion
higher than it anticipated in March, while incoming data on outlays remain
consistent with the earlier forecast.
Receipts in April and May were little changed from a year earlier. The revenue
effects of last year’s tax-cut legislation seem to have been offset by higher
taxable incomes and an upside surprise in the average effective tax rate applied
to those incomes.8 Corporate income tax receipts have been brisk so far this
year, and daily data for June indicate another double-digit increase in payments
this month.
Outlays, adjusted for payment timing shifts, rose 5-1/2 percent in April and May
relative to a year earlier. Medicaid continued to post large year-over-year
increases that reflect the temporary step-up in the federal matching rate enacted
last year to funnel more money to the states. Payments should fall back in the
third quarter when the increase in the matching rate expires. In contrast, yearover-year increases in defense spending slowed markedly.
The House passed the conference agreement of the Congressional Budget
Resolution, but Senate action on this year’s resolution appears unlikely.
Appropriations committees in both houses are working with the conference
agreement’s fiscal 2005 discretionary cap of $821 billion, which excludes any
supplemental funding for Iraq and is consistent with the President’s February
budget proposal. In late May, the Administration requested $25 billion in new
budget authority for Iraq and stated that additional funds will be requested at a
later date.

8. Specifically, we estimate that the effective tax rate, on a liability basis, fell from
10.7 percent in 2002 to 9.7 percent in 2003, less than the 1.3 percentage-point drop that would
have been the result of the 2003 tax cut, all else being equal.

II-26
Changes in Manufacturing and Trade Inventories
(Billions of dollars; seasonally adjusted book value; annual rate)
2003
Sector

2004

Feb.

Mar.

Apr.

-4.4

48.1

82.0

116.7

106.2

77.1

4.5

25.1

55.6

86.2

62.4

41.5

-17.5
-14.8

1.2
4.3

24.0
24.0

33.2
32.7

21.4
23.3

19.7
18.2

Wholesale trade
Motor vehicles and parts
Ex. motor vehicles and parts

6.1
-4.2
10.3

16.7
6.2
10.5

23.5
3.2
20.3

44.4
5.1
39.2

19.2
3.5
15.7

-1.9
-3.1
1.3

Retail trade
Motor vehicles and parts
Ex. motor vehicles and parts

7.0
-4.7
11.8

30.2
16.9
13.4

34.5
23.1
11.4

39.1
25.3
13.8

65.7
40.4
25.3

59.3
38.8
20.5

Manufacturing and trade
Ex. wholesale and retail
motor vehicles and parts
Manufacturing
Ex. aircraft

Book-Value Inventories Relative to Shipments and Sales
Ratio
1.700

1.700

Retail trade ex. motor vehicles and parts
1.525

1.525
Manufacturing

1.350

1.175

1.000

1.350

Apr.

Wholesale trade ex. motor vehicles and parts

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

1.175

1.000

Inventory-Consumption Ratios, Flow-of-Goods System
Days’ supply
64

62
Total

Total ex. motor vehicles and parts

Apr.

48
46

50
48

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

II-27

II-28
Federal Government Outlays and Receipts
(Unified basis; billions of dollars except as noted)
April-May

12 months ending in May

Function or source

2003

2004

Percent
change

2003

2004

Percent
change

Outlays
Financial transactions1
Payment timing2
Adjusted outlays

372.4
-.6
12.1
360.9

380.4
-.7
.0
381.1

2.2
...
...
5.6

2097.3
-1.9
.6
2098.6

2236.0
-2.2
-12.4
2250.6

6.6
...
...
7.2

Receipts
Payment timing
Adjusted receipts

334.6
.0
334.6

335.5
.0
335.5

.3
...
.3

1794.0
.0
1794.0

1808.4
.0
1808.4

.8
...
.8

Surplus or deficit (-)

-37.8

-44.8

...

-303.3

-427.6

...

Selected components
of adjusted outlays
and receipts
Adjusted outlays
Net interest
Non-interest
National defense
Social security
Medicare
Medicaid
Income security
Agriculture
Other

360.9
29.9
331.0
70.8
79.0
42.6
26.9
56.6
1.7
53.4

381.1
31.4
349.7
75.1
83.9
44.5
29.6
54.4
-1.4
63.7

5.6
5.0
5.6
6.1
6.1
4.5
9.9
-4.0
-183.6
19.4

2098.6
163.8
1934.8
381.2
468.7
243.4
154.1
331.0
22.8
333.6

2250.6
153.2
2097.3
441.2
489.3
259.4
172.9
339.0
18.5
377.0

7.2
-6.4
8.4
15.7
4.4
6.6
12.2
2.4
-18.8
13.0

Adjusted receipts
Individual income and
payroll taxes
Withheld + FICA
Nonwithheld + SECA
Less: Refunds
Corporate
Gross
Less: Refunds
Other

334.6

335.5

1794.0

1808.4

271.1
222.5
123.9
75.3
20.9
31.5
10.5
42.5

262.7
220.6
119.4
77.3
28.7
35.4
6.7
44.1

-3.1
-.9
-3.6
2.7
37.2
12.5
-36.4
3.8

1484.2
1368.3
296.2
180.2
124.1
189.7
65.6
185.7

1455.8
1373.8
284.0
202.1
162.3
208.0
45.7
190.3

-1.9
.4
-4.1
12.1
30.8
9.6
-30.4
2.5

Adjusted surplus or deficit (-)

-26.3

-45.6

...

-304.6

-442.2

...

Note. Components may not sum to totals because of rounding.
1. Financial transactions consist of deposit insurance, spectrum auction and sales of major assets.
2. A shift in payment timing occurs when the first of the month falls on a weekend or holiday, or
when the first three days of a month are nonworking days. Outlays for defense, social security,
Medicare, income security, and "other" have been adjusted to account for these shifts.
... Not applicable.

II-29
The Senate passed a corporate tax bill that, among its 273 provisions, repeals the
exclusion for extraterritorial income that was declared in violation of World
Trade Organization rules. It also temporarily lowers the taxes paid on
repatriated earnings and reduces the top effective tax rate to 32 percent on
income derived from domestic production activities. It is roughly budget
neutral. A similar bill passed by the House is not budget neutral, in large part
because it also lowers corporate income taxes for nondomestic production
activities (but not the top rate) and provides $10 billion to tobacco growers. The
Senate leadership hopes to have a conference agreement before the August
recess, but the significant differences between the two bills may not be worked
out by then.
State and Local Governments
Most information received from state and local governments in recent weeks
continues to point to strengthening in the sector after three years of malaise.
Employment rose, on average, during April and May, although the increase was
below the gains recorded in the previous two quarters. Construction advanced
strongly in March and April; outlays for highways, streets, and bridges were
especially large.
With the fiscal year ending on June 30 in all but four states, most states have
passed fiscal 2005 budgets. The number of states that have had to deal with
budget shortfalls this year is smaller than in recent years, as are the projected
gaps. Much of the good fiscal news reflects stronger revenue collections than
originally forecast. Enacted and proposed strategies to patch prospective
shortfalls are similar to those of recent years and include spending cuts
(Michigan), tax hikes (Virginia, Alabama), and borrowing from reserve funds
(Iowa) and from the market (New York).
Prices and Labor Costs
Overall consumer price inflation has picked up this year, driven by a surge in
energy prices and a rebound from unusually small increases in prices elsewhere.
In May, energy prices registered another large increase, but core price inflation
moderated. The twelve-month change in the consumer price index was
3.1 percent in May, 1 percentage point above the rate posted for the preceding
twelve-month period.
After a pause in April, the CPI for energy rose 4.6 percent in May. As has been
the case since the turn of the year, most of the surge in energy prices was driven
by a rise in crude oil costs. But the markup of retail prices over crude costs also
increased because of strong demand that has kept inventories relatively low and
because of the costs of adjusting to some states’ new requirements on
reformulated gasoline. More recently, the available survey data for June show
declines in retail gasoline prices that are roughly in line with the recent drop-off
in crude oil prices.

II-30
State and Local Employment and Construction
Employment
Thousands
75

75
Quarterly average of monthly changes

-15

2000

2001

2002

2003

2004

-15

Note. 2004Q2 is the average of April and May.

Construction Put in Place
Billions of dollars
230

230
Apr.

210

190

170

150

130

110

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

II-31
Consumer food prices jumped 0.9 percent in May, after having risen only
0.1 percent per month, on average, in the preceding four months. Increases
were widespread but were particularly marked for dairy products and meats.
Over the twelve months ending in May, the CPI for food rose 4.1 percent, the
largest such increase since December 1996 and up considerably from the
1.7 percent rise posted in the previous twelve-month period. Aside from dairy
products, where output has been constrained by herd reductions over the past
few years, there have been no major disruptions in farm supplies. Because
exports of livestock and poultry have been held back by health concerns, this
price surge likely reflects strong domestic consumer demand.
Excluding food and energy, consumer prices increased 0.2 percentage point in
May, a smaller increase than in the preceding two months. In particular, the rate
of inflation for a wide range of services slowed last month. So far this year, the
pace of core inflation has outstripped the rate in the second half of last year. In
part, this acceleration is due to the pass-through of higher energy and import
costs into core consumer prices, but it also likely reflects payback for unusually
modest increases or outright price declines in several categories. The twelvemonth change in the core CPI was 1.7 percent, 0.1 percentage point above the
year-earlier increase.
The CPI data suggest that core PCE prices increased about 0.1 percent in May,
bringing the twelve-month inflation rate by that measure to 1.4 percent, also just
0.1 percentage point above the rate observed a year earlier.9 Excluding the
categories in which prices are not based on market transactions does not change
the picture: Market-based core PCE inflation has risen roughly in line with the
increase in both core CPI and core PCE inflation over the past year.
Despite a slight decline in commodity prices in the past several weeks, led by
considerable drops in prices for steel scrap and plywood, most of the sharp runup in commodities prices since 2002 remains in place. Since the end of April,
the Journal of Commerce industrial commodities price index, which includes
energy commodities, has fallen 5.3 percent, while the Commodities Research
Bureau index of spot industrial prices, which excludes energy prices, is down
4.3 percent. Nonetheless, these indexes are up 25.5 percent and 17.4 percent,
respectively, over the past year.
Core intermediate materials prices in the producer price index accelerated
substantially in 2002 and 2003 and have continued to ascend in recent months.

9. The final report on first-quarter GDP—to be issued after Greenbook publication—will
contain revisions to PCE prices. A potentially important source of revision will be the BEA’s
incorporation of the source data for imputed banking services, a volatile component of
nonmarket PCE prices that can cause significant swings in core PCE prices.

II-32
Measures of Inflation
(Percent)
12-month change

3-month change

1-month change

Annual rate

Monthly rate

May
2003

May
2004

Feb.
2004

May
2004

CPI
Total
Food
Energy
Ex. food and energy
Ex. tobacco
Core commodities
Core services
Chained CPI (n.s.a.) 1
Ex. food and energy 1

2.1
1.7
9.0
1.6
1.6
-1.9
3.0
1.8
1.3

3.1
4.1
15.0
1.7
1.8
-1.1
2.9
2.4
1.2

3.7
2.7
30.1
1.7
1.6
.3
2.1
...
...

PCE Prices 2
Total
Food
Energy
Ex. food and energy
Ex. tobacco
Core commodities
Core services
Core market-based
Core non-market-based

1.7
1.7
9.2
1.3
1.3
-2.5
2.9
1.3
1.4

2.4
3.7
15.9
1.4
1.4
-.5
2.1
n.a.
n.a.

PPI
Total finished goods
Food
Energy
Ex. food and energy
Ex. tobacco
Core consumer goods
Capital equipment
Intermediate materials
Ex. food and energy
Crude materials
Ex. food and energy

2.5
3.7
11.9
-.1
.3
-.2
-.1
4.2
2.3
19.1
8.6

5.0
7.4
15.0
1.7
1.7
1.7
1.5
7.1
5.1
21.9
21.7

Measures

Apr.
2004

May
2004

5.5
5.1
29.7
3.3
3.4
.9
4.3
...
...

.2
.2
.1
.3
.3
.0
.4
...
...

.6
.9
4.6
.2
.2
.1
.2
...
...

3.2
2.6
31.9
1.8
1.7
.3
2.4
1.6
2.4

3.6
5.6
32.6
1.6
1.6
1.0
1.9
n.a.
n.a.

.1
.2
.1
.1
.1
.0
.2
.2
-.1

.5
.9
4.9
.1
.1
.0
.2
n.a.
n.a.

3.6
-3.9
28.1
.8
.8
.3
1.1
8.6
7.1
35.9
55.1

8.5
19.0
16.0
2.9
3.2
3.8
2.3
13.8
11.2
29.0
-18.9

.7
1.4
1.6
.2
.2
.3
.0
1.4
1.1
3.0
-3.9

.8
1.5
1.6
.3
.4
.4
.3
1.1
.9
2.8
-3.8

1. Higher-frequency figures are not applicable for data that are not seasonally adjusted.
2. PCE prices in May are staff estimates.
... Not applicable.
n.a. Not available.

II-33
Core Consumer Price Inflation
(12-month change except where noted)

CPI and PCE excluding Food and Energy

PCE excluding Food and Energy

Percent
3

Current methods
CPI
Core PCE
2

Apr.
May*

May*
PCE
1

CPI
chained

1
Market-based components

1998

1999

2000

2001

2002

2003

2004

1998

1999

2000

2001

2002

2003

* PCE for May is a staff estimate.

* Staff estimate.

CPI excluding Food and Energy
(Current Methods)

2004

CPI Services and Commodities
Percent

Percent
4

Services ex. energy

May
3

May

2
Commodities ex. food and energy

May

1
3-month change, annual rate

1998

1999

2000

2001

May

-1

-2

2002

2003

2004

-3

-1

-2

1998

1999

2000

2001

2002

2003

2004

-3

II-34
Spot Prices of Selected Commodities
(Percent change except as noted)

Commodity

Current
price
(dollars)

2002 1

2003 1

12/30/03
to
4/27/04 2

4/27/04 2
to
6/22/04

Memo:
52-week
change to
6/22/04

Metals
Copper (lb.)
Steel scrap (ton)
Aluminum, London (lb.)

1.293
165.000
.768

5.6
49.2
2.8

47.9
66.8
16.7

21.3
27.3
8.9

-1.3
-19.9
-.9

61.6
55.7
21.8

Precious metals
Gold (oz.)
Silver (oz.)

395.750
5.880

24.3
3.8

20.7
24.6

-4.8
4.9

-.1
-6.1

13.6
29.9

Forest products 3
Lumber (m. bdft.)
Plywood (m. sqft.)

418.000
415.000

-8.9
.7

44.5
36.7

47.1
48.1

-1.6
-29.1

57.1
24.6

Petroleum
Crude oil (barrel)
Gasoline (gal.)
Fuel oil (gal.)

34.620
1.135
1.005

66.9
69.2
63.8

-7.4
12.5
6.3

15.9
22.5
1.7

.8
-2.7
7.5

29.5
49.0
35.0

Livestock
Steers (cwt.)
Hogs (cwt.)
Broilers (lb.)

86.320
60.250
.860

16.5
-13.2
6.5

4.1
18.3
10.9

11.9
40.1
20.8

2.9
21.1
7.3

17.3
39.3
37.6

Farm crops
Corn (bu.)
Wheat (bu.)
Soybeans (bu.)
Cotton (lb.)

2.575
3.958
8.995
.484

18.1
37.7
32.2
52.1

1.7
-2.1
37.1
42.5

25.9
2.1
27.9
-13.1

-12.4
-4.6
-8.5
-18.2

8.2
21.8
42.7
-6.0

Other foodstuffs
Coffee (lb.)

.640

1.1

23.1

14.1

2.4

40.7

108.700
115.400
267.600
303.480

16.8
9.7
24.4
13.7

22.3
38.1
9.1
24.0

11.9
10.1
7.2
2.9

-5.3
.1
-2.4
-4.3

25.5
44.4
14.9
17.4

Memo:
JOC Industrials
JOC Metals
CRB Futures
CRB Spot Industrials

1. Changes are from the last week of the preceding year to the last week of the year indicated.
2. April 27, 2004, is the Tuesday preceding publication of the April Greenbook.
3. Prices shown apply to the Friday before the date indicated.

II-35

Commodity Price Measures
Total

Journal of Commerce Index
Ratio scale, 1996=100

116

130
112
120

Metals
June

110

Apr

May
Jun
2004

108

100
Metals
90

116

Total
80

112

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

Apr

May
Jun
2004

108

CRB Spot Industrials
Ratio scale, 1967=100

360

CRB Industrials
320

320

June
310
280
Apr

May
Jun
2004

300

240

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

200

CRB Futures
Ratio scale, 1967=100

June

290
270

CRB Futures

250

280
270

230
210

290

Apr

May
Jun
2004

260

190

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

170

Note. Larger panels show monthly average of weekly data through last available week. Smaller panels show weekly data, Tuesdays. Vertical
lines on small panels indicate week of last Greenbook. The Journal of Commerce index is based almost entirely on industrial commodities, with
a small weight given to energy commodities, and the Commodity Research Board (CRB) spot price index consists entirely of industrial commodities,
excluding energy. The CRB futures index gives about a 60 percent weight to food commodities and splits the remaining weight roughly equally
among energy commodities, industrial commodities, and precious metals. Copyright for Journal of Commerce data is held by CIBCR, 1994.

II-36
In May, core intermediate materials prices climbed 0.9 percent, marking the
fifth consecutive month of outsized increases.
Short-run inflation expectations have edged higher in the past few months,
perhaps because of the pickup in actual inflation. The median of year-ahead
inflation expectations from the Michigan survey was 3.4 percent in the
preliminary June release, up slightly from the figures reported in April and May
and noticeably above the first-quarter average of 2.7 percent. Median long-run
inflation expectations moved up in the first half of June to 3.0 percent, but,
assuming this increase is sustained for the full month of June, the secondquarter average would still remain within the range observed over the past few
years.
Compensation per hour in the nonfarm business sector is estimated to have
increased at an annual rate of 4.6 percent last quarter, the same pace as in 2003.
However, with moderate productivity increases in the past two quarters, unit
labor costs have turned up. Although these data are fairly volatile and prone to
large revisions, current data suggest that nonfarm business unit labor costs rose
at an annual rate of 0.9 percent in the first quarter after having fallen 0.9 percent
over the four quarters of 2003. In April and May, increases in average hourly
earnings for production or nonsupervisory workers were a bit above the monthly
gains posted in the first quarter and were well above the increase in the last
quarter of 2003.

II-37
Broad Measures of Inflation
(Percent change, Q1 to Q1)
Measure

2001

2002

2003

2004

Product prices
GDP chain price index
Less food and energy

2.2
1.8

1.9
2.1

1.7
1.6

1.7
1.4

Nonfarm business chain price index

1.8

1.0

1.5

1.1

Expenditure prices
Gross domestic purchases chain price index
Less food and energy

2.1
1.7

1.2
1.8

2.3
1.6

1.7
1.5

PCE chain price index
Less food and energy

2.2
1.6

1.0
1.7

2.4
1.6

1.6
1.2

PCE chain price index, market-based components
Less food and energy

2.2
1.5

.7
1.5

2.4
1.4

1.7
1.3

CPI
Less food and energy

3.4
2.7

1.2
2.5

2.9
1.8

1.8
1.3

Chained CPI
Less food and energy

2.7
2.0

.9
2.0

2.5
1.4

1.5
.9

Median CPI
Trimmed mean CPI

3.3
2.8

3.8
2.3

2.7
2.1

1.9
1.7

Surveys of Inflation Expectations
(Percent)
University of Michigan
1 year 2

5 to 10 years 3

Actual
CPI
inflation 1

Mean

Median

Mean

Median

Professional
forecasters
(10-year) 4

2002:Q3
Q4

1.6
2.2

2.8
2.7

2.6
2.5

3.2
3.3

2.7
2.8

2.5
2.5

2003:Q1
Q2
Q3
Q4

2.9
2.1
2.2
1.9

3.2
2.6
2.8
3.0

2.8
2.2
2.3
2.6

3.0
3.1
3.1
3.1

2.7
2.7
2.7
2.8

2.5
2.5
2.5
2.5

2004:Q1
Q2

1.8
n.a.

3.1
4.0

2.7
3.3

3.4
3.3

2.9
2.8

2.5
2.5

2004:Jan.
Feb.
Mar.
Apr.
May
June

1.9
1.7
1.7
2.3
3.1
n.a.

2.9
2.9
3.4
4.0
3.9
4.2

2.7
2.6
2.9
3.2
3.3
3.4

3.4
3.3
3.4
3.2
3.3
3.4

2.8
2.9
2.9
2.7
2.8
3.0

...
...
2.5
...
...
2.5

Period

1. CPI; percent change from the same period in the preceding year.
2. Responses to the question: By about what percent do you expect prices to go up, on
average, during the next twelve months?
3. Responses to the question: By about what percent per year do you expect prices to go up,
on average, during the next five to ten years?
4. Quarterly CPI projections compiled by the Federal Reserve Bank of Philadelphia.
n.a. Not available.
... Not applicable.

II-38
Hourly Compensation and Unit Labor Costs
(Percent change, annual rate; based on seasonally adjusted data)
2003
2002 1

Category
Compensation per hour
Nonfarm business
Nonfinancial
corporations 3
Unit labor costs
Nonfarm business
Nonfinancial
corporations 3

2003 1

2004

2003:Q1
to
2004:Q1 2

Q1 2

1.8

4.5

4.9

4.7

4.2

4.6

2.2

4.6

5.7

4.9

3.9

5.1

4.9

-2.4

-.9

-1.3

-4.3

1.7

-.8

-2.8

-1.8

-3.7

-4.2

-.4

2.6

-1.4

1. Changes are from fourth quarter of preceding year to fourth quarter of year shown.
2. Staff estimate
3. The nonfinancial corporate sector includes all corporations doing business in the United States
with the exception of banks, stock and commodity brokers, finance and insurance companies; the
sector accounts for about two-thirds of business employment.

Compensation and Unit Labor Costs
(4-quarter change)
Percent
10

10
8

NFB compensation per hour

2004:Q1

NFB unit labor costs

-2
-4

-2
1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

-4

Average Hourly Earnings of
Production or Nonsupervisory Workers
(Percent change; seasonally adjusted data)
12-month change

3-month change
Annual rate

Industry
Total private nonfarm
Manufacturing
Construction
Trade, transportation and
utilities
Financial activities
Professional and
business services
Education and
health services
Leisure and hospitality

1-month change
Monthly rate

May
2002

May
2003

May
2004

Feb.
2004

May
2004

Apr.
2004

May
2004

2.6
3.7
2.7

3.0
3.0
2.9

2.2
2.5
1.4

1.6
2.5
2.5

3.1
2.0
.6

.3
.4
.2

.3
-.1
.0

2.1
3.0

2.4
6.4

2.1
2.9

1.4
.5

3.1
4.7

.5
.2

.2
.5

2.4

3.4

-.9

2.8

3.8
2.5

2.8
2.3

3.3
1.5

3.3
1.8

4.3
.9

.3
-.1

.4
.2

Domestic Financial
Developments

III-T-1

Selected Financial Market Quotations
(One-day quotes in percent except as noted)
2003

Change to June 22 from
selected dates (percentage points)

2004

Instrument
June 24

Dec. 31

May 3

June 22

2003
June 24

2003
Dec. 31

2004
May 3

Short-term
FOMC intended federal funds rate

1.25

1.00

-.25

.00

Treasury bills 1
3-month
6-month

0.81
0.82

0.93
1.00

0.99
1.19

1.30
1.66

.49
.84

.37
.66

.31
.47

Commercial paper (A1/P1 rates)2
1-month
3-month

0.95
0.91

1.00
1.05

1.02
1.08

1.18
1.44

.23
.53

.18
.39

.16
.36

Large negotiable CDs 1
1-month
3-month
6-month

0.96
0.93
0.92

1.06
1.09
1.16

1.04
1.11
1.31

1.25
1.50
1.80

.29
.57
.88

.19
.41
.64

.21
.39
.49

Eurodollar deposits 3
1-month
3-month

0.94
0.91

1.04
1.07

1.03
1.10

1.24
1.48

.30
.57

.20
.41

.21
.38

Bank prime rate

4.25

4.00

-.25

.00

Intermediate- and long-term
U.S. Treasury4
2-year
10-year
30-year

1.14
3.46
4.53

1.83
4.40
5.22

2.35
4.68
5.42

2.81
4.87
5.53

1.67
1.41
1.00

.98
.47
.31

.46
.19
.11

U.S. Treasury 10-year indexed note

1.70

2.00

2.09

2.15

.45

.15

.06

Municipal revenue (Bond Buyer) 5

4.89

5.04

5.28

5.40

.51

.36

.12

Private instruments
10-year swap
10-year FNMA6
10-year AA 7
10-year BBB 7
5-year high yield 7

3.67
3.84
4.13
5.16
8.95

4.66
4.72
5.05
5.74
7.94

4.97
5.00
5.33
5.91
8.04

5.20
5.25
5.56
6.16
8.34

1.53
1.41
1.43
1.00
-.61

.54
.53
.51
.42
.40

.23
.25
.23
.25
.30

Home mortgages (FHLMC survey rate) 8
30-year fixed
1-year adjustable

5.21
3.51

5.81
3.73

6.01
3.75

6.32
4.13

1.11
.62

.51
.40

.31
.38

Record high

2003

Change to June 22
from selected dates (percent)

2004

Stock exchange index
Level
Dow-Jones Industrial
S&P 500 Composite
Nasdaq
Russell 2000
Wilshire 5000

Date

Dec. 31

May 3

June 22

Record
high

2003
Dec. 31

2004
May 3

11,723
1,527
5,049
606
14,752

1-14-00
3-24-00
3-10-00
4-5-04
3-24-00

10,454
1,112
2,003
557
10,800

10,314
1,117
1,939
565
10,890

10,395
1,134
1,994
572
11,032

-11.33
-25.73
-60.50
-5.69
-25.21

-.56
2.02
-.46
2.69
2.15

.79
1.51
2.86
1.13
1.30

1. Secondary market.
2. Financial commercial paper.
3. Bid rates for eurodollar deposits collected around 9:30 a.m. Eastern time.
4. Derived from a smoothed Treasury yield curve estimated using off-the-run securities.
5. Most recent Thursday quote.
6. Constant maturity yields estimated from Fannie Mae domestic noncallable coupon securities.
7. Derived from smoothed corporate yield curves estimated using Merrill Lynch bond data.
8. For week ending Friday previous to date shown.
_______________________________________________________________________
NOTES:
June 24, 2003, is the last day before the most recent policy easing.
May 3, 2004, is the day before the most recent FOMC meeting.
_______________________________________________________________________

III-C-1

Policy Expectations and Treasury Yields
Futures Contract Rates
Percent
1.6

Percent
April nonfarm
payrolls

May nonfarm
payrolls

1.5

4.0

May CPI

3.8

June 2005 Eurodollar (right scale)
3.6

1.4
3.4
1.3

3.2

1.2

3.0
July 2004 federal funds (left scale)

2.8

1.1

2.6
May 3

May 6

May 11

May 14

May 19

May 24

May 27

June 2

June 7

June 14

June 18

Note. 5-minute intervals.

Expected Federal Funds Rate

Percent
4.5
4.0

June 22, 2004

Implied Distribution of Federal Funds Rate
about 6 Months Ahead
Percent
25

June 22, 2004 (bars)
May 3, 2004 (dotted line)

3.5
3.0

2.5
May 3, 2004
(day before FOMC meeting)

2.0
1.5

1.0
0.5
June

Oct.
2004

Feb.

June Oct.
2005

Feb. June
2006

0
0.75

1.25

1.75

2.25

2.75

3.25

3.75

Note. Estimates from federal funds and Eurodollar futures,
with an allowance for term premia and other adjustments.

Note. Based on the distribution of the 3-month Eurodollar
rate 5 months ahead (adjusted for a risk premium), as implied
by options on Eurodollar futures contracts.

Treasury Yields

Inflation Compensation

Percent
8

Daily

7
10 year

Percent
3.8

Daily
March FOMC

3.6

May FOMC

3.4

3.2

5
June
22

2 year

June
22

5 to 10 years
ahead

2.4
2.2

5 year

2.0

1
2001

Note. Off-the-run issues.

2002

2003

2004

2.8
2.6

3
2

2000

3.0

1.8
Mar.

Apr.
2004

May

June

Note. Estimates based on smoothed nominal and inflationindexed Treasury yield curves.

Domestic Financial Developments
Overview
Further signs of strengthening in economic activity, along with indications of a
pickup in inflation pressures, prompted a significant upward revision in
investors’ expectations about the path of the federal funds rate. Market
participants appear virtually certain of a quarter-point tightening at the
upcoming meeting and anticipate roughly 200 basis points of cumulative policy
firming over the next year. The upward revision to the anticipated path of
policy drove up the two-year Treasury yield about 1/2 percentage point and the
ten-year yield 20 basis points, producing a considerable flattening in the term
structure. Readings based on nominal and inflation-indexed Treasury securities
suggest that inflation compensation over the next five years moved up
moderately but remained relatively well anchored over intervals beyond that
horizon. Broad stock prices edged higher as an improved earnings outlook
apparently offset the effects of the rise in longer-term yields.
Reflecting slowing mortgage refinancings, household debt growth appears to
have moderated somewhat from the rapid first-quarter pace. Borrowing by
nonfinancial corporations has remained light as firms have continued to fund
spending with strong profits and sizable holdings of cash.
Policy Expectations and Treasury Yields
The unexpectedly strong gains in nonfarm payrolls in April, reported a few days
after the May FOMC meeting, caused investors to move forward the expected
date of the onset of policy tightening to the June meeting, a view that was
cemented by the subsequent employment release. Investors also seemed
especially attuned to inflation data and to statements by Federal Reserve
policymakers for information on the pace and ultimate extent of tightening. On
balance, federal funds and Eurodollar futures rates moved up 25 to 45 basis
points over the intermeeting period. Judging from options prices, investors see a
25 basis point policy tightening as almost certain at the upcoming meeting. In
recent surveys, the preponderance of respondents anticipate that the FOMC will
view risks to the outlook for both economic growth and inflation as balanced
and that the FOMC will retain the “measured pace” language—or some variant
thereof—in the announcement following the June meeting. Futures quotes
further out moved higher and suggest that market participants expect a series of
tightenings that would put the federal funds rate at about 3 percent by the middle
of next year, although the distribution of likely outcomes is fairly wide.
Upward revisions to the expected policy path showed through to Treasury
yields. On balance, yields on two- and ten-year nominal Treasury securities
increased about 45 and 20 basis points, respectively, over the intermeeting
period. Inflation compensation, as measured by the difference between nominal
Treasury yields and their inflation-indexed counterparts, drifted higher in the

III-2

III-3
first half of the intermeeting period, partly in response to stronger-than-expected
incoming data and to record highs in oil prices. Some of this rise was reversed
with the May CPI release and comments by FOMC members suggesting that the
Committee would tighten policy as required to contain inflation pressures. On
net, inflation compensation over the next five years rose about 15 basis points
but ticked up only a bit over the following five-year period.
Stock Prices and Corporate Interest Rates
Broad stock price indexes edged up, on net, over the intermeeting period, as
generally favorable news about the economy was largely offset by the influence
of higher interest rates. Stock prices dipped in early May in response to the
jump in interest rates and to heightened inflation fears triggered by the April
labor market report and rising oil prices. Later in the period, stock prices
reversed their earlier losses as oil prices receded and inflation fears eased
somewhat.
The spread of the forward earnings-price ratio for the S&P 500 over a long-term
real Treasury yield—a rough measure of the equity premium—was essentially
unchanged over the intermeeting period. Implied volatilities of the
S&P 500 and Nasdaq 100 remained quite low.
Yields of investment- and speculative-grade bonds rose about 25 to 30 basis
points over the period and largely tracked the movements of comparablematurity Treasuries. On net, risk spreads on corporate bonds edged up just a
few basis points.
Corporate Earnings and Credit Quality
Analysts’ earnings forecasts have been marked up on the heels of exceptionally
strong first-quarter earnings reports. The revisions index for current and
year-ahead earnings for the month ending in mid-May, most of which occurred
before the May FOMC meeting, jumped to its highest level in more than two
decades. Revisions were also positive through mid-June, although they were
mostly concentrated among petroleum firms. Despite the positive revisions,
analysts’ forecasts of second-quarter earnings for S&P 500 firms appear
conservative and suggest that another spell of upward revisions is in the offing.
Corporate credit quality remains solid. Nonfinancial corporations’ short-term
debt ratios remained low, and the ratio of interest-expense to cash flow dropped
further in the first quarter. Bond upgrades in the current quarter, measured as
the share of the par value of outstanding bonds, are on pace to exceed bond
downgrades for the first time since 1998. C&I delinquency rates fell in the first
quarter, and the bond default rate remained near zero in April and May.

III-4

III-5

III-6

III-7
KMV’s expected year-ahead default rate has hovered at about its four-year low
in recent months, indicating that market-based measures of risk do not portend a
decline in credit quality from the anticipated tightening of monetary policy.
This outlook is consistent with the experience in the 1994 tightening episode,
when the combination of higher interest rates and robust earnings had little net
effect on credit performance. Indeed, bond rating changes and interest coverage
ratios continued to improve following the rise in rates in 1994. More recently,
firms that rely on floating rate debt, and thus are more vulnerable to rising rates,
have tended to use derivatives to hedge their interest rate exposure.
Business Finance
Investment- and speculative-grade bond issuance was sluggish in May and has
remained so in June, as higher interest rates have choked off the already
dwindling flow of opportunistic issuance. With proceeds still being used to
repay higher-rate debt, net bond issuance was negative in May and June.
Short-term credit has continued the slow turnaround that began in the first
quarter, with outstanding commercial paper and C&I loans combined increasing
in May. Overall, nonfinancial corporate debt appears to have grown at a very
subdued pace in recent weeks, as earnings have continued to outpace spending,
and many firms remain flush with cash.
Gross equity issuance by nonfinancial firms remained muted in May and June.
IPOs have continued to trickle out, but many have been priced under the initial
filing range, reflecting weak demand. At the same time, share repurchases were
likely bolstered again by strong profits, and announcements of leveraged
buyouts and other cash-financed M&A deals have picked up. As a result, net
equity issuance will likely remain substantially negative in the second quarter.
Commercial Real Estate
Commercial mortgage debt continued to expand at a rapid clip in the first
quarter, and debt growth is estimated to have remained brisk in the current
quarter. Delinquency rates on commercial mortgages held by banks and
insurance companies are low and have been declining of late; CMBS
delinquency rates through May have also edged down. CMBS spreads remain
low. REIT equity prices moved up over the intermeeting period, reversing
about half of the sharp decline registered in the previous intermeeting period.
The ratio of net operating income to price—often called the "cap rate”—on
commercial properties declined further in the first quarter to stand at a level last
seen in the early 1990s. The spread of this ratio to the real perpetuity Treasury
yield—an indicator of the risk premium on commercial real estate assets—has
narrowed considerably recently but remains well above that seen in the late
1980s.

III-8

III-9
Household Finance
Interest rates on thirty-year fixed-rate mortgages have risen about 85 basis
points from the lows reached in the first quarter and have dampened refinancing
activity. The further drop in refinancing applications this month indicates that
refinancings will continue to moderate. At the same time, purchase originations
have only edged off, suggesting that mortgage debt growth in the second quarter
will not be far below the rapid 12-1/2 percent pace in the first quarter.
Consumer credit expanded at a 6 percent rate in the first quarter and is expected
to remain fairly brisk.
On balance, recent indicators suggest some improvement in household credit
quality. Delinquency rates on consumer loans at commercial banks declined in
the first quarter and those on securitized credit card pools fell again in April.
Delinquencies on auto loans at captive finance companies ticked up in April but
remain low by historical standards. In addition, estimated bankruptcy filings
were lower in the second quarter from the same period last year.
The combination of flat stock prices and strong income growth in the current
quarter suggests a slight decline in the ratio of net household worth to
disposable income. Bond mutual funds registered outflows in May, and flows
into equity mutual funds were slightly negative as well, as households
apparently shifted funds into other savings instruments such as money market
mutual funds. Data for the first half of June indicate that households moved out
of money market mutual funds as inflows to equity funds were renewed and
outflows from bond funds moderated.
State and Local Government Finance
Gross municipal bond issuance remained rapid in May and in June to date, as
states and municipalities continued to raise substantial amounts of funds for new
capital projects. Although advance refundings were fairly strong in April and
May, they remained well below the level in March, when interest rates were
lower. Short-term issuance in recent months has been very light, consistent with
reports of improved fiscal positions of states and municipalities.
Yield ratios on longer-term general obligations were unchanged over the
intermeeting period and remain somewhat elevated. Revenue bond spreads
ticked down, and municipal bond upgrades have continued to outpace
downgrades since early February.
Treasury and Agency Finance
The Treasury borrowed less in the first quarter than it had projected earlier, and
it revised down its estimated borrowing needs for the second quarter in response
to higher-than-expected tax receipts. Treasury auctions over the intermeeting

III-10

III-11

III-12

III-13
period were generally well received. Strong indirect bidding suggests that
foreign official institutions continued to purchase large amounts of the issues,
even though reported intervention in the foreign exchange market has ground to
a halt.
In its May quarterly refunding statement, the Treasury announced that it would
issue TIPS at two new maturity points—five and twenty years. These securities
will be auctioned semiannually, with the first auction of the twenty-year security
scheduled for July and that of the five-year security for October. The Treasury
also noted that it is considering eliminating the reopenings of the nominal tenyear note in light of the new TIPS issuance and smaller-than-anticipated
borrowing needs.
Net borrowing by the housing GSEs continued to be quite light. Agency
spreads widened early in the intermeeting period, concurrent with a widening of
swap spreads; nonetheless, these spreads remained well within their historical
range. In regulatory developments, Fannie Mae reached an agreement with the
SEC regarding its accounting for manufactured housing loans and aircraft leases
that allowed the company to avoid any restatement of past earnings as
demanded by OFHEO. Fannie agreed to adopt stricter accounting rules for
future statements. To account for losses associated with this change, Fannie
Mae will take a charge of up to $260 million in the second quarter.
Money and Bank Credit
The growth of M2 stepped up to an annual rate of 13 percent in May following
strong gains in March and April. Last month’s acceleration was driven largely
by a surge in retail money market funds, which rose at a 12-1/2 percent rate after
a year and a half of consecutive declines. The rise likely reflects a combination
of large deposits of income tax refunds and a reallocation of funds away from
the equity market. Currency growth picked up to a 5-1/2 percent rate, well
above the pace earlier in the year and apparently supported by increased
domestic demand. Preliminary data for the first half of June show a sharp
slowing in M2 growth to around an estimated 3 percent annual rate.
The growth of bank credit fell in May to an annual rate of 4 percent as bank’s
holdings of securities contracted and loan growth slowed. The deceleration in
loans was concentrated mainly in real estate credits and partly reflected heavy
securitizations. Consumer loans on banks’ books expanded at just under a
4 percent pace, but originations fell for the second consecutive month, reflecting
weakness in credit card lending. C&I loans fell again in May, albeit at a slower
pace than earlier in the year.

III-14

III-15
Asset quality at domestic commercial banks improved in the first quarter of
2004 as delinquency rates continued to trend lower across all major loan
categories. Data from the Federal Reserve’s May Survey of Terms of Business
Lending indicate that the spread over estimated funding costs for all C&I loans
ticked down in the second quarter. Adjusted for the effects of changes in loan
composition, this spread was about unchanged at a fairly low level.

III-16

International Developments

International Developments
U.S. International Transactions
Trade in Goods and Services
The U.S. international trade deficit in April jumped to $48.3 billion, a new
record high.

The value of exported goods and services decreased 1.5 percent in April,
reflecting a 2.2 percent drop in the exports of goods. The fall in exported goods
was widespread, with notable decreases in capital goods (particularly aircraft),
industrial supplies, and agricultural products. Exports of consumer goods and
automotive products also edged down. Exports of services, in contrast,
increased in April.
The value of imported goods and services ticked up 0.2 percent in April from
March’s strong level, as a large decline in the value of imported petroleum was
offset by a rise in imports of non-oil goods. The fall in the value of imported
petroleum resulted from a decline in volume. Within imports of non-oil goods,
notable increases were registered in capital goods, consumer goods, and
industrial supplies. Imports of services edged up in April.
The April trade release also included revisions to historical data back to 1992.
The trade deficit in goods and services in 2004:Q1 is now $548 billion at an
annual rate, $22 billion larger than published previously. The larger deficit in
the first quarter reflects upward revisions to imports caused by a different
treatment of insurance services and a new seasonal adjustment procedure for
petroleum. For 2003, the trade deficit now stands at $497 billion, about $6
billion larger than previously published.

IV-2

IV-3

IV-4

IV-5

Prices of Internationally Traded Goods
Non-oil imports. In May, the prices of U.S. imports of non-oil goods and of
core goods rose 0.4 percent. As in previous months, the price increases were
concentrated in the commodity-intensive categories, particularly non-oil
industrial supplies. The price index for industrial supplies rose 2.1 percent in
both April and May, largely reflecting higher prices for imported unfinished
metals. Prices for foods, feeds and beverages edged down 0.3 percent in May,
the first decrease in eight months. Prices of capital goods (excluding computers
and semiconductors) edged up 0.1 percent. In contrast, prices for automotive
products were unchanged, and prices of consumer goods fell 0.1 percent.
Whereas import prices for computers ticked down 0.1 percent, import prices for
semiconductors rose 0.8 percent.
The average level of imported core goods prices in April and May was
4.3 percent at an annual rate above the first-quarter level. The rise was
concentrated in non-oil industrial supplies and, to a lesser extent, foods, feeds
and beverages.
Oil. The BLS price of imported oil rose 10.3 percent in May, and the spot price
of West Texas Intermediate (WTI) crude oil also rose about 10 percent,
averaging $40.29 per barrel. The spot price has edged down in June in response
to rising oil inventories and reports of increased production from OPEC,
particularly from Saudi Arabia. However, strong world oil demand driven by
increased economic activity, geopolitical events in the Middle East, and
concerns about the reliability of oil supplies from Venezuela and Nigeria
continue to keep upward pressure on oil prices.
Exports. In May, the prices of U.S. exports of total goods and of core goods
increased 0.3 percent. Rising 0.9 percent in May, prices for nonagricultural
industrial supplies (particularly petroleum products, but also iron and chemicals)
contributed most of the increase. After increasing 2.7 percent in April, the price
index for agricultural products rose only 0.5 percent in May, reflecting more
moderate increases in prices for soybeans and corn. Prices for all other major
categories of exports were unchanged.
The average level of exported core goods prices in April and May was
6.9 percent at an annual rate above the first-quarter level. Agricultural products
and industrial supplies were the main contributors to this quarterly increase.
Current Account
The U.S. current account deficit was $580 billion (s.a.a.r.) in the first quarter of
2004, up from $508 billion in the fourth quarter of 2003 (revised). Much of the
change was driven by a widening of the trade deficit on goods and services.

IV-6

Changes in both net investment income and net outflows of unilateral transfers
also contributed to the widening of the deficit.
The deficit on goods and services widened $46 billion in the first quarter as a
$74 billion increase in imported goods was only partially offset by a $28 billion
increase in exported goods. The increase in the value of imported goods largely
reflected strong increases in petroleum, industrial supplies, capital goods, and
consumer goods. The increase in the value of exported goods was concentrated
in industrial supplies and capital goods. Growth in imports and exports of
services offset each other, with each increasing about $6 billion.
The surplus on net investment income fell $14 billion in the first quarter, as a $2
billion rise in receipts was swamped by a $16 billion rise in payments. The
sizable increase in payments was driven by an $11 billion increase in direct
investment payments. The modest rise in receipts was a result of a $6 billion
increase in portfolio income, which was partially offset by declines in
government and direct investment receipts.
Net unilateral transfers to foreigners rose $12.1 billion, as a result of an increase
in U.S. government grants.
U.S. Current Account
(Billions of dollars, seasonally adjusted annual rate)
Goods and Investment
Current
Other
Period
services,
income,
account
income and
net
net
transfers, net balance
Annual
2002
-418.0
1.3
-64.1
-480.9
2003
-490.2
21.9
-73.6
-541.8
Quarterly
2003:Q2
Q3
Q4
2004:Q1
Change
Q2-Q1
Q3-Q2
Q4-Q3
Q1-Q4

-493.5
-489.0
-502.0
-547.7

29.1
34.5
70.1
56.3

-71.0
-72.0
-76.0
-88.1

-535.5
-526.5
-507.8
-579.5

8.0
4.5
-13.0
-45.7

7.5
5.4
35.6
-13.8

1.8
-0.9
-4.0
-12.1

17.3
9.0
18.7
-71.7

Source: U.S. Department of Commerce, Bureau of Economic Analysis.

U.S. International Financial Transactions
Private foreign purchases of U.S. securities (line 4 of the Summary of U.S.
International Transactions table) remained very strong in April at $43 billion,
led by unusually high net purchases of agency securities (line 4b). Demand for
Treasuries (line 4a) and corporate debt securities (line 4c) were below their

IV-7

recent elevated norms, while acquisitions of equities (line 4d), which included a
merger-related stock swap, rebounded from net sales in March. For the first
four months of the year, private foreign acquisitions of U.S. securities are on a
pace well above that of the previous two years.
Net foreign official inflows (line 1) were extremely large in the first quarter,
primarily because of Japanese intervention activity. These inflows abated
significantly in April as Japanese intervention activity apparently ended. Partial
data from the Federal Reserve Bank of New York (FRBNY) show additional
inflows of $25 billion in May and a further $2 billion inflow through June 22.
.
The data presented above were affected by revisions included in BEA's June 18
balance of payments release. These revisions had the effect of decreasing
recorded net private inflows into U.S. debt securities while increasing recorded
official inflows. For the first four months of the year, private inflows were
reduced by $36 billion (agencies by $21 billion), while official inflows were
increased by $8 billion. These changes were made based on portfolio survey
results and to account for official flows that are mistakenly recorded as private
flows.
At $17 billion, U.S. investors acquired foreign securities (line 5) at an unusually
brisk pace in April, led by net purchases of foreign equities (line 5b) and
merger-related stock swap activity (line 5c). April also saw U.S. investors
continue their well-established trend of modest net sales of foreign debt
securities (line 5a). Activity during the first quarter was similar to that seen in
April but at a more subdued pace, with net acquisitions of foreign equities
exceeding net sales of foreign debt securities. Although U.S. investors have
been consistently reducing their holdings of foreign debt securities, through the
first four months of the year U.S. investors have been net purchasers of
European debt securities ($12 billion) while selling primarily Asian debt
securities ($15 billion).
The banking sector (line 3) recorded essentially offsetting flows in April
following moderate net outflows in the first quarter.
The recently released balance of payments data for the first quarter show that
U.S. direct investment abroad (line 6) remained relatively steady at $57 billion
while foreign direct investment in the United States (line 7) increased modestly
to $18 billion. The direct investment data have been revised such that for 2003
estimated U.S. direct investment abroad was increased by almost $20 billion
while estimated foreign direct investment in the United Stated was reduced by

IV-8

over $40 billion. The disparity between these direct investment flows is mainly
attributable to differing levels of reinvested earnings in the U.S. and abroad
rather than to differences in new cross-border acquisitions.
The statistical discrepancy was negative for the second consecutive quarter,
indicating some combination of underreporting of the current account deficit or
overreporting of net capital inflows.

IV-9

IV-10

Foreign Exchange Markets
The exchange value of the dollar, as measured by the major currencies index,
declined 1½ percent, on balance, over the intermeeting period. At the beginning
of the period, the dollar rallied following the release of the robust April U.S.
employment report, which led market participants to move up their projected
path of FOMC tightening. The dollar did not sustain these gains, however, as
the U.S. trade deficit reached a record monthly high in April and the difficulties
in Iraq eroded some of the positive sentiment towards the dollar. On a bilateral
basis, the dollar depreciated 1½ percent, on balance, against the euro, yen, and
Canadian dollar. The U.S. dollar fell by a larger amount against the currencies
of two countries that tightened monetary policy over the period – Switzerland
and the United Kingdom – depreciating 3¾ percent against the franc and
2½ percent vis-à-vis sterling.

Short-term interest rates rose 40 basis points in the United Kingdom, as the
Bank of England’s Monetary Policy Committee raised its policy rate 25 basis
points on May 6 and again on June 10, lifting the rate to 4.5 percent. U.K.
economic data were quite strong, with retail sales growing robustly and the
unemployment rate falling to 2.8 percent, its lowest level since 1975. In
explaining its policy actions, the Bank of England also expressed concern over
the boom in housing prices. Swiss short-term rates, which have risen 20 basis
points on net since the last FOMC meeting, began increasing in early June ahead
of the Swiss National Bank’s monetary policy meeting on June 17. At that

IV-11
meeting the SNB tightened monetary policy, raising the top of its target range
for three-month Swiss franc Libor by 25 basis points, to 1 percent, and stated
that it would now aim to keep the rate close to the center of its 0 to 1 percent
target range.
Amid further signs that the global economic expansion will be sustained,
long-term interest rates rose about 20 basis points in Europe and almost 40 basis
points in Japan and Canada over the intermeeting period. Japan reported
economic growth of 5.6 percent in the first quarter, above market expectations.
Sanguine data on Japanese manufacturing activity, labor market, and corporate
profits led the Bank of Japan to upgrade its assessment of the economic outlook
in its latest monthly report. Market participants noted that the BOJ removed the
word “gradual” from its description of the recovery. Canadian economic data
were also strong, as the April and May labor market reports showed
much-larger-than-expected gains in employment and the unemployment rate
declined from 7.5 percent to 7.2 percent. Headline inflation in Canada was also
above market expectations.
Major equity indexes were little changed, on net, over the intermeeting period,

IV-12
as higher interest rates and concerns over the run-up in oil prices offset
expectations of robust economic growth. Fluctuations over the period were
generally subdued in the major stock markets, with the exception of Japan,
where share prices fell sharply in early May following statements by Chinese
authorities that they would take action to slow their economy. However,
Japanese share prices subsequently recovered most of that decline.
Higher oil prices and rising global interest rates also weighed on equity prices in
the emerging markets. Asian share prices had their sharpest one-day decline
since September 2001 on May 10 in reaction to the spike in global interest rates
after the release of the U.S. employment report for April. The prospect of
tighter monetary policy in China damped sentiment, most notably in Indonesia
and Korea, where stock market indexes fell 11 and 15 percent, respectively on
net. Amid the decline in share prices, the Indonesian rupiah depreciated 8
percent relative to the dollar, leading the Indonesian central bank to intervene to
stem the currency’s decline.
In Latin America, the Brazilian real depreciated 5½ percent against the dollar
over the period, despite a report showing that the Brazilian economy grew at a
6.8 percent annual rate in the first quarter. Market participants again pointed to
oil prices and global interest rates, as well as some political difficulties for the
Lula administration, to explain the weakness of the currency. Share prices in
Argentina fell 11 percent over the period as several leading firms reported
lower-than-expected first-quarter earnings.
. The Desk did not intervene on behalf of the System or
the Treasury during the period.

IV-13

IV-14

Developments in Foreign Industrial Countries
Growth in the major foreign industrial economies was solid in the first quarter.
Japanese output rose 6.1 percent, led by a large increase in personal
consumption. Indicators for the second quarter continue to be strong. Real
GDP in the United Kingdom expanded 2.5 percent in the first quarter, boosted
by strong increases in consumption, government expenditure, and investment.
The euro area posted a 2.3 percent rise in GDP in the first quarter. Domestic
demand was led by strong household consumption expenditure, although
indicators for the second quarter are somewhat mixed. Canadian real GDP grew
2.4 percent, as robust final domestic demand offset a dramatic slowdown in the
rate of inventory accumulation. Indicators of growth in the second quarter have
been favorable.
Consumer price inflation has moved up a bit in the second quarter mainly as a
result of higher energy prices. Twelve-month headline inflation in Canada
increased to 2.5 percent. Inflation in the euro area also rose to 2.5 percent in
May, well above the ECB’s 2 percent ceiling. In the United Kingdom inflation
rose somewhat, but remained below the Bank of England’s 2 percent inflation
target. Slight CPI deflation persisted in Japan.
In the United Kingdom, the Monetary Policy Committee increased its policy
rate 25 basis points in June, the fourth such hike since last November. Monetary
policy in the euro area, Japan, and Canada remained on hold.
In Japan, real GDP continued its recent strong growth, rising 6.1 percent in the
first quarter, led by personal consumption, which rose 4 percent. Business fixed
investment advanced 7 percent, while government investment continued to
contract sharply. A large increase in inventories contributed 2 percentage points
to growth. Exports soared 17 percent, boosted by buoyant growth in emerging
Asia (especially China). The gain in exports outpaced a 12 percent increase in
imports, and net exports added 1 percentage point to growth. Nominal GDP
rose 4.2 percent, marking the fourth consecutive quarter of increase. The GDP
deflator fell 2.5 percent below its year-ago level.
Indicators suggest that activity continued to expand strongly in the second
quarter. Real exports increased a further 2.7 percent in May on a monthly basis
following a strong increase in April. Real imports fell in May after rising the
previous two months, but were up 5.6 percent from May 2003, reflecting solid
domestic demand. Household expenditures surged 5.8 percent in April from the
previous month, registering the largest monthly gain on record, and measures of
consumer confidence continued to rise. New car registrations moved down in
April and May following a jump in the first quarter, but remained at relatively

IV-15

high levels. Industrial production rose 3.5 percent in April from the previous
month. The broader all-industries index of output rose roughly 1 percent in
March. Core machinery orders, a leading indicator of business fixed
investment, rebounded nearly 12 percent in April from the previous month.1
Japanese Real GDP
(Percent change from previous period, except as noted, s.a.a.r.)
2003
Component
GDP

2002

2003

2004

1.8

3.5

3.8

2.7

7.3

6.1

Total domestic demand

2.6

2.0

5.9

5.3

Consumption

1.8

2.5

4.3

4.0

Private investment

-1.0

11.9

16.2

2.2

23.4

6.4

Public investment

-4.0

-12.5

-15.2

-20.0

-5.0

-11.3

1.6

1.1

-.7

2.5

1.5

-.1

-1.0

2.0

Exports

17.3

11.4

7.4

14.7

21.9

16.7

Imports

8.7

4.9

-3.8

10.8

11.0

11.9

Net exports2

1.0

1.2

1.6

1.0

Government consumption
2

Inventories

1. Q4/Q4.
2. Percentage point contribution to GDP growth, s.a.a.r.

Labor market conditions continued to improve. The unemployment rate
remained at 4.7 percent in April, as both the level of employment and the size of
the labor force expanded strongly. The job-offers-to-applicants ratio, a leading
indicator of employment, was unchanged, but remained at a ten-year high. Core
consumer goods prices in the Tokyo area (which exclude fresh food but include
energy) were unchanged in May from the previous month but were down 0.1
percent from a year earlier. Wholesale prices were up 1.1 percent in May
compared with the same month a year ago, the largest twelve-month increase
since 1997.

1. Core machinery orders exclude orders for ships and orders from electric power
companies.

IV-16

Japanese Economic Indicators
(Percent change from previous period, except as noted, s.a.)
2003
Indicator
Industrial production1

2004
Q4

Feb.

Mar.

Apr.

May

1.0

3.9

-3.8

3.5

n.a.

1.7

-.2

-3.7

1.1

n.a.

Housing starts

-6.5

4.9

2.8

-6.4

2.1

-6.7

n.a.

Machinery orders2

-1.0

8.5

-5.6

2.8

-3.2

11.8

n.a.

Machinery shipments3

2.5

7.6

-.4

-6.4

-.3

5.6

n.a.

New car registrations

-2.0

12.6

-6.1

-7.7

-1.1

Unemployment rate4

5.2

5.1

4.9

5.0

4.7

n.a.

Job offers ratio5

.65

.73

.77

n.a.

-21.0

-15.0

n.a.

...

CPI (Core, Tokyo area)7

-.3

-.1

-.2

-.1

Wholesale prices7

-.7

-.4

1.1

All-industries index

Business sentiment6

1. Mining and manufacturing.
2. Private sector, excluding ships and electric power.
3. Excluding ships and railway vehicles.
4. Percent.
5. Level of indicator.
6. Tankan survey, diffusion index.
7. Percent change from year earlier, n.s.a.
n.a. Not available. ... Not applicable.

Japanese banks continued to make progress in reducing bad-debt levels. As of
March 2004, Japan’s four “mega” banks classified 5 percent of total outstanding
loans as “non-performing”, down from 7 percent in the previous year. Most
large Japanese banks also reported substantial net profits and improved
regulatory capital ratios for the fiscal year that ended in March. However, the
increase in reported profits largely reflected realized gains on equity portfolio
holdings, a one-time tax rebate from the Tokyo metropolitan government, and
reduced credit costs. Core operating earnings remained flat, suggesting that
Japanese banks have not yet begun to improve operating performance.
In the euro area, real GDP rose 2.3 percent in the first quarter, while GDP
growth in the fourth quarter of 2003 was revised upward to 1.5 percent. During
the first quarter, domestic demand was led by household consumption
expenditure, which grew 2.3 percent, the best result in three years. Investment

IV-17

decreased, following moderate growth in the previous quarter. Net exports
contributed positively to growth, as exports picked up while imports
decelerated. German domestic demand remained stagnant.
Euro-Area Real GDP1
(Percent change from previous period, except as noted, s.a.a.r.)
2003
Component

2002

2003

2004

GDP

1.1

-.3

1.7

1.5

2.3

Total domestic demand

1.2

1.3

3.0

-.3

2.3

-1.5

-.4

-1.1

2.3

-.5

2.4

2.1

2.3

2.8

1.6

-.9

-.8

1.9

-.2

Exports

3.4

-3.4

9.3

6.9

Imports

3.7

1.7

-2.2

5.3

4.6

3.0

Net exports3

-.5

1.6

-1.4

1.5

Memo: GDP
France
Germany
Italy

1.4
.5
.9

1.1
.1
.1

-1.2
-.7
-.4

2.4
.8
1.7

2.5
1.1
.0

3.1
1.8
1.8

Consumption
Investment
Government consumption
Inventories3

1. Includes Greece as of 2001 Q1.
2. Q4/Q4.
3. Percentage point contribution to GDP growth, s.a.a.r.

Indicators of economic activity for the second quarter are somewhat mixed.
Euro-area industrial production rose modestly in April. Retail sales rebounded
in April, increasing 1.3 percent after falling in both February and March.
Survey measures for May indicate a slightly less rosy picture. The German IFO
business climate index fell in May, leaving its level well below the first quarter
average. The European Commission’s confidence survey also showed declines
in both consumer and industrial confidence.
Twelve-month consumer price inflation jumped to 2.5 percent in May, moving
well above the ECB’s 2 percent target ceiling. Core inflation, excluding energy,
food, alcohol, and tobacco remained at 1.9 percent in May.

IV-18

Euro-Area Economic Indicators
(Percent change from previous period except as noted, s.a.)
2003
Indicator
Industrial production1

2004
Q4

Feb.

Mar.

Apr.

May

n.a.

Retail sales volume2

-.1

-.2

-1.1

-.2

1.3

n.a.

Unemployment rate3

8.9

9.0

n.a.

Consumer confidence4

-17.3

-16.0

-14.3

-14.0

-16.0

Industrial confidence4

-11.3

-7.3

-6.7

-7.0

-4.0

-5.0

Mfg. orders, Germany

1.5

3.3

-.3

1.9

n.a.

CPI5

2.0

1.7

1.6

1.7

2.0

2.5

Producer prices5

1.2

1.1

1.4

n.a.

M35

7.6

7.1

6.3

5.6

n.a.

1. Excludes construction.
2. Excludes motor vehicles.
3. Percent. Euro area standardized to ILO definition. Includes Eurostat estimates in some
cases.
4. Diffusion index based on European Commission surveys in individual countries.
5. Eurostat harmonized definition. Percent change from year earlier.
n.a. Not available.

Real GDP in the United Kingdom expanded 2.5 percent in the first quarter,
marked by strong increases in consumption, government expenditure, and
investment. These increases were partly offset by a 1.7 percentage point
negative arithmetic contribution from net exports, as exports contracted sharply.
Data for the current quarter on net point to continued strong growth. Industrial
production and manufacturing output expanded in April, and May
manufacturing PMI ticked up further. Business confidence rose appreciably in
May. Retail sales grew at a brisk pace in May.
According to the two leading private surveys, housing price inflation has picked
up in recent months, with the average twelve-month rise at around 20 percent in
May. Household net mortgage and consumer borrowing remained elevated in
April.

IV-19

U.K. Real GDP
(Percent change from previous period, except as noted, s.a.a.r.)
2003
Component

2002

2003

2004

GDP

1.9

2.7

2.4

3.4

3.7

2.5

Total domestic demand

3.3

2.5

1.0

4.8

5.4

4.0

Consumption

2.8

2.5

3.0

3.6

3.5

3.6

Investment

5.3

3.7

5.5

8.0

10.0

4.4

Government consumption

3.2

7.8

2.8

Inventories2

-.3

-2.2

1.2

Exports

-1.3

3.3

-7.6

5.3

-8.1

Imports

4.3

2.5

-10.8

5.2

11.1

-1.8

-1.7

1.4

-1.5

-1.9

-1.7

Net exports2

1. Q4/Q4.
2. Percentage point contribution to GDP growth, s.a.a.r.

The labor market continued to be tight, as both the official-claims-based and the
labor-force-survey measures of the unemployment rate remained near their
lowest points since 1975. The twelve-month CPI inflation rate rose to 1.5
percent in May, still well below the Bank of England’s 2 percent target.
On June 10, the Monetary Policy Committee (MPC) raised the official repo rate
another 25 basis points to 4.5 percent. This tightening is the fourth 25-basispoint increase since November. The MPC’s statement noted that strong
consumption, investment, and a buoyant housing market have all supported
growth at, or above, trend. The statement cited a “small and diminishing margin
of spare capacity” and the continued build-up of inflationary pressures as
motivation for the hike.

IV-20

U.K. Economic Indicators
(Percent change from previous period except as noted, s.a.)
2003
Indicator

Industrial production

2004
Q4

Feb.

Mar.

Apr.

May

-.4

-.3

n.a.

1.6

2.0

3.1

3.0

2.9

2.8

5.0

4.9

4.8

4.7

4.8

n.a.

-3.3

-.3

16.7

14.0

15.0

12.0

22.0

-5.0

-3.3

-2.3

-2.0

-5.0

1.4

Retail sales volume

-.1

1.2

1.3

1.1

1.2

1.5

1.2
3.6

2.9
3.5

-.4
5.2

-1.7
3.9

.8
4.3

2.9
4.7

5.3
n.a.

Unemployment rate2
Claims-based
Labor force survey
Business confidence4
5

Consumer confidence
Consumer prices6

Producer input prices
Average earnings7

1. Excludes motor vehicles.
2. Percent.
3. Three-month average centered on month shown.
4. Percentage of firms expecting output to increase in the next four months less percentage
expecting output to decrease.
5. Average of the percentage balance from consumers’ expectations of their financial
situation, general economic situation, unemployment, and savings over the next 12 months.
6. Consumer prices index (CPI). Percent change from year earlier.
7. Percent change from year earlier.
n.a. Not available.
... Not applicable.

In Canada, real GDP grew 2.4 percent in first quarter, as robust domestic
demand offset the effects of a dramatic slowdown in the rate of inventory
accumulation. Investment was supported by the continued strength of
residential construction, while consumption surged. A sharp increase in
machinery and equipment shipments pushed up export growth, whereas a large
decrease in automotive imports restrained overall import growth.
Indicators for the second quarter have been favorable. Employment increased
rapidly in both April and May, with hours worked increasing at a near record
rate in May. Average housing starts in April and May were 6.5 percent above
the first-quarter average. Exports shot 8 percent above their first-quarter
average in April, while imports increased 3 percent. Manufacturing shipments
rose for the fifth consecutive month in April, while new orders jumped 2.4
percent. In May, a composite index of leading indicators recorded its strongest
increase in two years.

IV-21

Canadian Real GDP
(Percent change from previous period, except as noted, s.a.a.r.)
2003
Component

2002

2003

2004

GDP

3.8

1.7

-.7

1.4

3.3

2.4

Total domestic demand

5.9

3.9

2.6

5.7

Consumption

3.6

2.8

3.2

4.4

5.5

Investment

3.6

7.0

2.6

12.9

5.3

6.7

Government consumption

3.2

3.5

5.9

3.9

1.1

Inventories2

2.2

-1.0

-4.1

3.2

-4.1

Exports

2.0

-.8

-5.1

-1.9

9.4

6.3

Imports

7.1

5.0

3.4

-3.0

17.8

-1.7

-2.1

-3.3

-2.5

2.3

Net exports2

1. Q4/Q4.
2. Percentage point contribution to GDP growth, s.a.a.r.

In May, the twelve-month rate of headline CPI inflation increased to 2.5 percent
from 1.6 percent in April. The increase was largely due to a 30 percent yearover-year increase in the price of gasoline. Twelve-month core inflation,
excluding food, energy, and indirect taxes, edged up only slightly to 1.3 percent.

IV-22

Canadian Economic Indicators
(Percent change from previous period except as noted, s.a.)
2003
Indicator

2004
Q4

Feb.

Mar.

Apr.

May

GDP by industry

1.1

n.a.

Industrial production

2.1

-.6

n.a.

New mfg. orders

1.2

5.6

3.2

2.4

n.a.

Retail sales

1.0

-1.2

3.0

2.6

1.2

n.a.

Employment

-.1

Unemployment rate1

7.9

7.5

7.4

7.5

7.3

7.2

Consumer prices2

2.1

1.7

1.6

2.5

Core Consumer Prices2,3

1.7

1.6

1.1

1.0

1.1

1.3

x.x

Consumer attitudes4

122.0

124.1 123.2

...

Business confidence4

127.2

146.3 144.8

...

1. Percent.
2. Percent change from year earlier, n.s.a.
3. Excluding food, energy, and indirect taxes.
4. Level of index, 1991 = 100.
n.a. Not available. ... Not applicable.

IV-23

External Balances
(Billions of U.S. dollars, s.a.a.r.)
Country
and balance

2003

2004

Mar.

Apr.

May

Trade
Current account

87.2
145.5

114.1
157.8

120.4
182.9

110.9
164.1

109.7
173.8

137.4
n.a.

Euro area
Trade1
Current account1

132.2
51.9

102.2
88.4

95.4
n.a.

158.3
n.a.

86.8
n.a.

n.a.
n.a.

Germany
Trade
Current account1

172.8
44.6

155.8
92.9

199.8
105.6

204.7
195.6

218.2
146.6

n.a.
n.a.

France
Trade
Current account

.8
1.3

.7
-.3

1.7
.6

1.9
-1.5

-1.0
.4

n.a.
n.a.

Italy
Trade
Current account1

2.1
6.8

4.3
-16.5

-1.6
-14.1

7.2
10.5

7.2
-27.5

n.a.
n.a.

-91.0 -101.0
...
...

n.a.
...

Japan

United Kingdom
Trade
Current Account

-77.5
-40.4

Canada
Trade
Current Account

43.2
19.2

1. Not seasonally adjusted.
n.a. Not available. ... Not applicable.

-88.5 -103.0
-35.7
n.a.
42.8
20.2

52.0
28.8

56.3
...

67.8
...

n.a.
...

IV-24

IV-25

IV-26

Economic Situation in Other Countries
Economic growth in the developing economies generally has remained robust,
supported by strong demand from the United States and a buoyant high-tech
sector. There have been recent indications, however, that policy tightening may
be slowing the expansion of the Chinese economy, which itself has been a
significant source of demand for the other Asian economies. In Latin America,
the Mexican economy appears to be firing on all cylinders, while growth in
Brazil has occurred despite weak domestic demand. Across the developing
economies, inflation has remained moderate despite increases in energy prices.
There are clear signs that the Chinese economy is slowing from the blistering
pace it has maintained since the end of the SARS epidemic last year.
Twelve-month growth in investment, industrial production, the money supply
(M2), lending, and imports all decelerated in May, indicating that the
administrative and quantitative measures taken by the government are having
the desired effect. Because the deceleration in activity has not been too sharp
and because retail sales and exports have continued to post very strong gains,
most analysts think that the Chinese economy is on course for a soft landing.
Price data provide additional evidence that the Chinese economy is cooling.
One measure of producer prices fell in May, the first month-to-month decline in
almost a year. Overall consumer prices were up 4.4 percent over the same
period, but the lion’s share of that increase came from food prices, which rose
almost 12 percent due to supply shocks; non-food consumer prices were up less
than ½ percent in May from a year ago.
Chinese Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2002
8.0

Real GDP1
Industrial production
Consumer prices2
3

Trade balance

2003
9.9

7.9

14.2

18.2

-.4
30.4

2004
Q1

Mar.

Apr.

May

15.9

...

17.7

14.9

19.4

20.1

17.3

3.2

2.7

2.8

3.0

3.8

4.4

25.5

38.2

1.3

20.1

-12.5

32.3

1. Annual rate. Quarterly data estimated by staff from reported four-quarter growth rates.
Annual figures are Q4/Q4.
2. Percent change from year-earlier, except annual figures, which are Dec./Dec.
3. Billions of U.S. dollars, annual rate. Imports are c.i.f.
... Not applicable.

IV-27

The Hong Kong economy grew a bit more than 4 percent in the first quarter.
Booming tourism from China boosted retail sales and consumer confidence in
recent months, and trade volumes (an important indicator for the entrepôt
economy) remain near record highs. The unemployment rate has fallen more
than 1½ percentage points below its peak last year during the SARS epidemic.
Economic growth has put upward pressure on consumer prices, which have been
rising on a monthly basis for several quarters now, although they are still down
from a year ago.
Hong Kong Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2002

2003

4.7

4.8

6.1

4.1

...

7.2

7.9

7.3

7.2

7.1

7.0

Consumer prices

-1.6

-1.8

-2.3

-1.9

-2.1

-1.6

-.9

Trade balance4

-7.7

-8.5

-14.1

-13.0

-11.1

-19.2

n.a.

Real GDP1
Unemployment rate2
3

Mar.

Apr.

May

1. Annual rate. Annual figures are Q4/Q4.
2. Percent. Monthly numbers are averages of the current and previous two months.
3. Percent change from year-earlier period, except annual figures, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate. Imports are c.i.f.
n.a. Not available. ... Not applicable.

Taiwan’s economy grew more than 7 percent in the first quarter, with exports to
China and investment spending giving the economy a significant boost. The
high-tech sector has been an important part of the economy’s resurgence, with
exports in this sector now exceeding the peaks reached during the boom in 2000,
and high-tech production continuing to move upward despite the decline in
overall production in recent months. Consumer price increases have leveled off
at a twelve-month change of just under 1 percent.

IV-28

Taiwan Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2002

Real GDP1

2003

2003
Q4

2004
Q1

Mar.

Apr.

May

4.3

5.1

5.9

7.3

...

Unemployment rate

5.2

5.0

4.7

4.6

4.5

4.6

4.5

Industrial production

7.9

7.2

4.7

-.1

-.6

n.a.

-.1

-.2

Trade balance

18.1

16.9

12.6

9.7

7.2

20.0

12.2

Current account5

25.6

29.2

32.1

23.3

...

Consumer prices
4

1. Annual rate. Annual figures are Q4/Q4.
2. Percent.
3. Percent change from year-earlier period, except annual figures, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate. Imports are c.i.f.
5. Billions of U.S. dollars, n.s.a., annual rate.
n.a. Not available. ... Not applicable.

Incoming data for Korea point to moderation in economic activity. GDP rose
3.2 percent in the first quarter, following a torrid 11.3 percent pace in the fourth
quarter. Growth was entirely concentrated in the trade and government sectors;
private consumption and investment declined. Indicators for the second quarter
show a similar pattern. Retail sales for April and business and consumer
confidence for April and May remained low. Industrial production rose
1.1 percent in April, supported by growth in the export-related industries.
Exports and imports continued to be strong and the trade balance remained high
at an annual rate of $39 billion in April. Inflation in April and May held near
the first-quarter average of 3.3 percent. The Korean stock market index has
declined markedly recently, in part reflecting concerns about weak domestic
demand and fears of a hard landing in China. Markets reacted little to the
reinstatement of President Roh on May 14 immediately following the Korean
Supreme Court's ruling overturning his impeachment.

IV-29

Korean Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2002

2003

Real GDP1

7.7

4.1

11.3

3.2

...

Industrial production

8.3

5.0

5.4

3.8

-2.1

1.1

n.a.

Unemployment rate2

3.1

3.4

3.6

3.3

3.4

3.5

3.8

3.4

3.5

3.3

3.1

3.2

3.3

14.8

22.2

33.2

40.1

32.4

38.9

n.a.

5.4

12.3

30.6

24.6

11.0

14.4

n.a.

Consumer prices
4

Trade balance

Current account

Mar.

Apr.

May

1. Annual rate. Annual figures are Q4/Q4.
2. Percent.
3. Percent change from year earlier, except annual changes, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate.
5. Billions of U.S. dollars, n.s.a., annual rate.
n.a. Not available. ... Not applicable.

In the ASEAN economies, Singapore, the Philippines, and Indonesia recorded
very strong growth in the first quarter, supported by both external demand and
domestic consumption. Activity in Malaysia and Thailand also continued to
grow, but at rates that disappointed expectations. In the case of Malaysia, this
partly reflected a change in the quarterly pattern, with fourth-quarter growth
being revised substantially upwards. For Thailand, the slowing of growth
reflects the adverse effect of higher oil prices, weakness in the agriculture
sector, and political unrest in the southern states. Recent data on industrial
production are generally encouraging, with the exception of the Philippines.
Spurred by demand for electronics and high-tech products, exports have
remained buoyant through much of the region. There is some evidence of
increased inflation pressures in the region.
In political developments, President Arroyo was officially declared the winner
of the Philippine elections held in mid-May, although the margin of victory was
slim. The Indonesian parliamentary elections resulted in a defeat for President
Megawati’s party. This leaves the field wide open for the presidential elections
to be held on July 5, which is a source of considerable uncertainty that is
weighing on financial markets. Indonesia’s central bank took measures in early
June to drain excess liquidity, including an increase in reserve requirements, in
an attempt to stem the slide of the Indonesian rupiah.

IV-30

ASEAN Economic Indicators: Growth
(Percent change from previous period, s.a., except as noted)
Indicator and country

2002

3.6
5.6
5.5
2.8
6.0
-1.1
4.6
-6.1
8.4
8.5

Real GDP1
Indonesia
Malaysia
Philippines
Singapore
Thailand
Industrial production2
Indonesia3
Malaysia
Philippines
Singapore
Thailand

2003

2004

Feb.

Mar.

Apr.

4.3
6.6
4.8
4.9
7.8

-2.2
10.4
6.2
11.0
10.2

n.a.
3.3
8.9
11.2
3.4

...
...
...
...
...

-1.1
9.3
.0
3.0
12.3

-2.7
3.9
-8.3
4.2
4.3

3.8
3.6
3.9
2.0
3.7

-2.8
-1.4
-1.8
-5.4
2.8

1.8
1.0
-7.0
-11.8
-3.0

n.a.
1.7
n.a.
20.5
2.6

1. Annual rate. Annual figures are Q4/Q4.
2. Annual figures are annual averages.
3. Staff estimate.
n.a. Not available. ... Not applicable.

ASEAN Economic Indicators: Trade Balance
(Billions of U.S. dollars, s.a.a.r.)
Country

2002

2003

Indonesia

25.9

Malaysia

2003

2004

28.5

29.4

25.7

22.7

23.4

n.a.

13.5

21.4

19.8

18.5

16.8

22.4

n.a.

Philippines

-.2

-1.5

-3.5

-1.7

-.1

-.8

n.a.

Singapore

8.7

16.2

17.2

14.1

9.1

7.1

9.4

Thailand

2.7

4.2

1.4

2.5

-3.1

n.a.

n.a. Not available.

Mar.

Apr.

May

IV-31

ASEAN Economic Indicators: CPI Inflation
(Percent change from year earlier, except as noted)
2003

2004

20021

20031

Indonesia

9.9

5.2

5.7

4.8

5.1

5.9

6.5

Malaysia

1.7

1.2

1.0

1.2

Philippines

2.6

3.0

3.4

3.8

4.1

4.5

Singapore

1.4

1.3

2.0

Thailand

1.6

1.8

1.6

1.9

2.3

2.5

2.4

Country

Mar.

Apr.

May

1. December/December.

In Mexico, GDP growth continued at a robust pace of more than 5 percent in the
first quarter, and recent indicators suggest that growth remained strong in the
current quarter. Industrial production rose 1.3 percent in April and exports
picked up sharply, as the manufacturing sector continued to be buoyed by
demand from the United States. Construction activity strengthened in April as
well, consistent with a pickup in investment spending. Labor market conditions
have begun to improve–the rise in maquiladora employment that began last fall
has accelerated, and the national unemployment rate edged down in
April–contributing to a considerable increase in retail sales in the first quarter.
The Bank of Mexico has left its monetary stance unchanged since tightening
policy on April 27, but short-term market interest rates have moved up
somewhat. Mexican twelve-month consumer price inflation edged up to
4.3 percent in May, and inflation expectations and one-year wage settlements
remain just above 4 percent, the upper end of the 2 to 4 percent band for the
Bank of Mexico’s inflation target. High oil prices boosted the Mexican public
sector fiscal surplus to a record high during the first four months of this year,
and the government has increased transfers to the states for infrastructure
spending, implying greater fiscal stimulus even as the government deficit
remains on target.

IV-32

Mexican Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2002

2003

1.9

2003

2004

Mar.

Apr.

May

2.0

5.6

5.4

...

1.3

1.5

2.5

n.a.

Industrial production

-.3

-.7

1.9

1.3

1.7

1.3

n.a.

Unemployment rate2

2.7

3.3

3.6

3.7

3.8

3.7

5.7

4.0

4.3

4.2

4.3

-7.9

-5.6

-4.6

-4.4

-6.3

-3.7

n.a.

168.7

170.5

176.6

182.8

186.3

186.6

n.a.

160.8

164.9

171.9

178.4

180.1

182.9

n.a.

-14.0

-9.2

-13.4

-7.5

...

Real GDP1
Overall economic activity

Consumer prices
Trade balance4
4

Imports

Exports4
5

Current account

1. Annual rate. Annual figures are Q4/Q4.
2. Percent; counts as unemployed those working one hour a week or less.
3. Percent change from year-earlier period, except annual figures, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate.
5. Billions of U.S. dollars, n.s.a., annual rate.
n.a. Not available. ... Not applicable.

In Brazil, real GDP grew 6.8 percent in the first quarter after rising a revised
5.9 percent in the fourth quarter. The first-quarter increase largely reflected a
rise in net exports, while growth in domestic demand was weak. Industrial
production declined 1.4 percent in the first quarter, on average, but rose sharply
in March and edged up further in April. Other indicators, such as capital goods
production, also point to expansion in industrial activity in April. Although
urban unemployment has remained high, employment growth has been solid,
particularly in the agricultural sector. Twelve-month headline inflation
continued to fall, but monthly inflation picked up in May and is widely expected
to rise further in June and July as a result of mid-June hikes in fuel prices.
Declines in Brazilian asset prices, including the depreciation of the real, since
early April prompted the central bank to leave its policy rate unchanged at
16 percent at its June 15-16 meeting. The policy rate was cut from 26½ percent
to 16½ percent over the second half of 2003, but concerns about inflation have
prompted the central bank to slow the pace of interest rate declines. Survey
measures of average twelve-month ahead expected inflation have moved up
from 5½ percent in early May to over 6 percent in mid-June. The Brazilian
government has not auctioned any fixed-rate domestic debt since late April and

IV-33

has resorted to its usual practice of shortening the maturity structure of the
domestic debt in times of financial stress.
Brazilian Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2002

2003

3.8

-.1

5.9

6.8

...

Industrial production

2.7

-.1

5.3

-1.4

2.0

n.a.

Unemployment rate

12.5

12.4

13.2

11.6

11.8

12.2

n.a.

Consumer prices3

12.5

9.3

11.4

6.8

5.9

5.3

5.2

13.1

24.8

28.2

29.4

34.5

26.4

32.7

-7.7

4.0

1.2

6.7

9.8

-8.8

n.a.

Real GDP1

Trade balance

Current account

Mar.

Apr.

May

1. Annual rate. Annual figures are Q4/Q4.
2. Percent. Break in October 2001 as a result of change in methodology.
3. Percent change from year-earlier period, except annual figures, which are Dec./Dec. Price
index is IPC-A.
4. Billions of U.S. dollars, annual rate.
5. Billions of U.S. dollars, n.s.a., annual rate.
n.a. Not available. ... Not applicable.

The Argentine economy grew 6.8 percent in the first quarter. However, recent
data suggest that the ongoing economic recovery could be adversely affected by
the country’s energy problems. Industrial production fell 4 percent in April,
following a sharp increase in the first quarter that was apparently the result of
firms’ anticipation of energy price increases and potential energy shortages
during the winter months of the southern hemisphere. Capacity pressures in the
energy sector are a result of limited investment over the past few years because
of utility price controls and general economic disruption. Argentina has so far
responded to the energy crisis by importing electricity from Brazil, natural gas
from Bolivia, and fuel oil from Venezuela; by cutting natural gas exports to
Chile; and by taxing exports of hydrocarbon products to finance the creation of a
state-run energy company. Despite this, Argentina has continued to run sizable
trade surpluses, and twelve-month consumer price inflation remained low in
April, at just over 4 percent.
Although Argentina has met all quantitative targets agreed with the IMF with
comfortable margins, it has lagged behind in other areas, such as reform of the
federal-provincial fiscal structure, bank compensation, and debt restructuring.
In early June, the Argentine government unveiled a new debt restructuring plan
that is somewhat more favorable to creditors than the original proposal last year.

IV-34

The most significant concession by the Argentine government is the offer to
recognize most, if not all, of the roughly $20 billion in past-due interest that has
accrued since the December 2001 default. The new offer would result in a
net-present-value reduction of the defaulted debt of about 75 percent. The
original proposal implied a reduction of about 90 percent in net present value
terms. The offer would also include “growth coupons” on the new bonds, which
would result in higher interest payments if GDP growth were to exceed certain
thresholds.
Argentine Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2002

Real GDP1

2003

2003
Q4

2004
Q1

Mar.

Apr.

May

-3.3

12.1

12.7

6.8

...

Industrial production

-10.7

16.2

3.8

5.5

1.8

-3.9

n.a.

Unemployment rate

22.5

17.3

14.5

14.4

...

Consumer prices3

41.4

3.8

2.5

2.3

3.1

4.2

16.7

15.7

12.2

10.6

12.0

14.3

n.a.

9.1

7.8

4.6

1.5

...

Trade balance

Current account5

1. Annual rate. Annual figures are Q4/Q4.
2. Percent, n.s.a.
3. Percent change from year-earlier period, except annual figures, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate.
5. Billions of U.S. dollars, n.s.a., annual rate.
n.a. Not available. ... Not applicable.

In Venezuela, despite political uncertainties, activity this year has expanded,
fueled by expansionary fiscal policies. It was announced that President Hugo
Chavez will face a recall referendum on August 15, ending months of disputes
over whether the opposition had collected enough valid signatures to force the
referendum. There are strong concerns that Chavez will manage to delay the
referendum, which by law must be held before August 19 or it will be too close
to the 2006 end of Chavez’s term. In addition, opinion polls do not give clear
signals on whether there is sufficient popular support for a regime change. Poor
economic performance under Chavez led to a failed coup attempt in 2002 and to
debilitating national strikes later that year; activity has not fully recovered since
then. Oil production is still believed to be about 15 percent below pre-strike
levels.

IV-35

Venezuelan Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2002

2003

-16.7

8.6

17.4

16.0

n.a.

31.2

Unemployment rate
Consumer prices3

Non-oil trade balance
4

Trade balance

Current account

Mar.

Apr.

7.9

...

n.a.

27.1

26.3

24.0

23.5

23.1

21.8

-8.5

-5.8

19.4

n.a.

13.0

Real GDP1

2004
Q1

May

15.0

46.0

n.a.

7.4

9.6

10.8

13.8

...

1. Annual rate. Annual figures are Q4/Q4.
2. Percent.
3. Percent change from year-earlier period, except annual figures, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate.
5. Billions of U.S. dollars, n.s.a., annual rate.
n.a. Not available. ... Not applicable.

Full text of Federal Open Market Committee Meeting Minutes, Transcripts, and Other Documents : Meeting, June 29-30, 2004 : Greenbook Part 2

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