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A review by the Federal Reserve B an k of Chicago Business Conditions 1963 December Contents ft for unemployment: Economic expan sion, structural changes, or both? The trend o f business Flow of funds for capital investment 2 7 11 Federal Reserve Ba nk o f Chicago fr for unem ploym ent Economic expansion, structural changes, or both? I n only one month in the past six years has unemployment dropped below 5 per cent of the civilian labor force. Much of the time it has been closer to 6 than to 5 per cent, with more than 4 million persons involuntarily jobless at any given time. Most observers agree that such an unem ployment rate is too high. Although a dy namic economy “needs” some slack in its work force to accommodate necessary shift ing about of workers, a rate in the 5 to 6 per cent range is generally believed to provide far more than necessary. The Council of Eco nomic Advisers refers to 4 per cent as an interim “full employment” goal, with a rate still lower than this an ultimate objective. Two v ie w s e m e rg e Unnecessary or excessive unemployment, of course, means that production and income are lower than is possible or desirable. The existence of substantial unemployment in generally prosperous times has drawn a great deal of thoughtful attention. Nevertheless, nothing like a consensus has been reached on what can or should be done about the prob lem. In an address last April, a former chairman of the Council of Economic Advisers de scribed as expansionists those who believe that recent levels of unemployment have re sulted largely from a deficiency of total de mand for goods and services and therefore advocate remedial action in the form of easier credit and larger Federal deficits. A stepped-up pace of monetary expansion, re ductions in taxes and increased Federal spending are the major tools in the expan sionist kit. The structuralists, in contrast, associate the relatively high unemployment of the past few years largely with technological develop ments and changes in the supply mix of labor and the demand for particular jobs and in consumer preferences for goods and services. These forces, they contend, have driven a wedge between demand and supply in labor markets, leaving substantial numbers virtu ally unemployable, either because their capa bilities have become obsolete or because they BUSINESS C O N D IT IO N S is published monthly by the Federal Reserve Bank of Chicago. Lynn A. Stiles w as primarily responsible for the article " R for Unemployment: Economic Expansion, Structural Changes, or Both?," George W. Cloos for "The Trend of Business" and Charlotte H. Scott and Lynn A. Stiles for "Flow of Funds for Capital Investment." Subscriptions to Business Conditions are available to the public without charge. For information concerning bulk mailings, address inquiries to the Federal Reserve Bank of Chicago, Chicago, Illinois 60690. 2 Articles may be reprinted provided source is credited. B u sin e ss C o n d itio n s, December 1963 P o stw ar unemployment heaviest am ong the inexperienced, unskilled and poorly educated (y e a rly a vera g e unem p loym ent rates) per cent 18 *— total labor force — males 14-19 have failed to acquire useful skills and job experience. From the structuralist view, providing easier credit, cutting taxes or boosting Gov ernment expenditures, while stimulating ag gregate expenditures, could be expected to have little effect in reducing unemployment— because of its concentration among the un skilled and inexperienced. The remedies proposed by the structuralists place major emphasis on manpower retraining programs, expansion of vocational education activities and efforts to stimulate private investment in local areas where labor surpluses have been sizable and persistent. There is some basis for common action, however, since the two positions are not as far apart as they at first may seem to be. Proponents of expansionary action generally acknowledge the presence of structural mal adjustments in the labor market that cannot be expected to yield readily to monetary and fiscal correctives. Similarly, those who em phasize the structural side of the problem— and remedial steps tailored to deal with it— typically recognize that their proposals will be most effective when labor markets overall are buoyant, as they usually are when the economy is expanding vigorously. The structuralist solution indeed implies economic growth if the measures that it calls for are to be effective. If, by such means as literacy training, vocational training and re training, aids to relocation of workers or a combination of these, an appreciable number of the presently unemployed were equipped to obtain jobs, the availability of work would depend upon some measure of economic ex pansion. Employers’ work force requirements would need to grow and this in turn would depend upon improvement in current and prospective sales. If jobs were to be provided for newly trained and retrained workers, product price reductions or some enlarge ment of total demand—whether by monetary or fiscal action, or a combination of these steps—would be needed to sustain the addi tion to total output brought about by the rise in employment. Whether economic stimulation—the al ternative approach—could “go it alone” as a means of resolving the contemporary unem ployment problem is another matter. If the make-up of unemployment and its distribu tion through the nation’s labor force are not essentially different today than some years ago, and if the jobs created by the expansion in demand were suited to the characteristics of those presently out of work, the answer, of course, would be that it could. But, without widespread upgrading of workers, the jobs available to the unskilled and untrained would almost certainly be fewer than the supply of such workers. E x p a n sio n h a s “w o r k e d ” On several earlier occasions in the post- 3 Federal Reserve Ba nk o f Chicago war period, the forces of economic expansion succeeded in effecting substantial reductions in joblessness. In the course of the Korean conflict, for example, the unemployment rate fell sharply—moving from almost 6 per cent in 1949 to a postwar low of about 3 per cent in 1952 and 1953. Again, recovery from the 1953-54 recession pulled the rate down from more than 5Vz per cent to a little more than 4. Since that time, however, successive busi ness recessions have left in their wake some what higher levels of prosperity unemploy ment—an effect widely noted as the crux of today’s problem. It is significant, of course, that in both of the earlier stages of substantial reduction in the unemployment rate—the Korean War years and the post-1954 expansion—the behavior of prices proved troublesome. Con sumer and wholesale prices rose 11 to 12 per cent between 1949 and 1953 and about 8 per cent between 1955 and 1958. Few observers believe these price developments were un related to the sharp declines in unemploy ment. Indeed, it is commonly recognized that avoidance of price inflation and “full employ ment” may be partly inconsistent targets and that to move toward one means to some ex tent to move away from the other. Circumstances have changed considerably since the earlier postwar inflationary move ments. For one thing, production bottlenecks have all but disappeared as record sums have been poured into new industrial plant and equipment. Furthermore, demand and mar kets have become increasingly diffused as the more urgent restocking and replacement needs have been satisfied, and buyers today are better situated to resist inflationary ten dencies if they are inclined to do so. Thus, expansionary action undertaken to alleviate unemployment might today pose less threat than earlier to the preservation of price stability. Is structural u n e m p lo y m e n t g r o w in g ? For professional and technical personnel, managers, proprietors and officials, the job market has been firm 4 *Rates for married men (wives present) are for April 1947-49 and 1951-55; March for 1950 and 1956-63. Rates are seasonally high in early months; thus, for October 1962 and 1963 rates were 2.7 and 2.3 per cent, n.a. Not available. In a recent statement before the Senate Subcommittee on Labor and Manpower, the chairman of the Council of Economic Ad visers argued that structural elements today are not a significantly larger factor in the un employment situation than in earlier years. Enactment of the proposed tax cut, he contended, could be depended upon to boost total spending and largely solve the unem ployment problem. He pointed out that the current uneven incidence of unemployment has persisted throughout the postwar period—with high rates for such broad groups as nonwhites, teen-aged new entrants into the labor force, the poorly educated and unskilled. In con trast, there have been low rates for married men as a group, professional and technical personnel, managers and the self-employed B u sin e ss C o n d itio n s, December 1963 and college graduates. Acknowledging that an increase in overall labor demand would bear heavily on those sectors of the work force already in “short” supply, he stressed the . . . proven capacity of a free labor market— especially one endowed with a high average level of education and enterprise and expand ing programs to improve labor skills and mobility— to reconcile discrepancies between particular labor supplies and particular labor demands. If relative shortages of particular skills de velop, the price system and the market will moderate them, as they have always done in the past. There is, of course, the possibility that market forces would take an excessively long time to operate effectively while requiring greater wage differentials—generally, higher wage and salary levels for skills in short supply. Thus, there are signs that there is little slack currently in the segment of the labor force having the highest levels of educational attainment; the prevalence of overtime work schedules for many profes sional and technical workers is an indication of this. If an increase in aggregate demand created appreciably more jobs for such per sons, filling the openings could take as long a time as a term of extended training. In this connection, it is significant that today’s college graduates are for the most part drawn from the small number born in the early Forties. Postwar growth in college enrollments and in graduating class size has been due chiefly to a long-term rise in the proportion of high school graduates going on to college. Not until 1967 and after will the record postwar birth totals be directly re flected in the size of college graduating classes. Meanwhile, of course, large propor tions of those born since the war are begin ning to enter the labor market directly from high school, while still others—the school dropouts— have been among the new en trants for the past two or three years. Another complicating factor is that today’s first-time job seekers who are products of post-graduate university and professional school work—persons equipped to play a key role in an age of rapidly advancing tech niques in the natural sciences, business man agement and engineering—are in their mid dle and later twenties and thus among the unusually small number born in the late Thirties. In all, prospects for securing sizable growth in the supply of highly trained peo ple available for new jobs are not good, at least for several years to come. Here, there fore, may be a bottleneck of a new kind to slow the pace of economic expansion. It de serves to be pointed out, of course, that there doubtless are ways by which employers could increase the productivity of their most highly skilled personnel. Assigning certain routine responsibilities of these persons to less-skilled employees is one method often recognized. A q u e stio n o f m e a su re m e n t Difficulty owing to specific manpower shortages, even in the midst of a high level of overall unemployment, is by no means con fined to the limited number of collegeeducated workers. A serious difficulty con nected with any effort to determine whether structural dislocation has been growing is that the subdivisions of the labor force for which unemployment rates are available are so broad as to conceal crosscurrents at work within them. The “professional and technical” occupa tional category, for example, embraces cer tain skills for which demands have grown substantially in recent years—electronics engineers, computer specialists, physicists and chemists are examples— along with 5 Federal Reserve Bank o f Chicago 6 others that have been in less intense demand. Moreover, even within broad subdivisions registering relatively high average unemploy ment rates, individual job classes have had shortages. Work opportunities frequently have been abundant for keypunch operators, while considerably less so for other workers in the comprehensive “clerical” category and plentiful for hospital attendants while scarce for certain other classes of workers in “service” occupations. There has been considerable evidence of persistent or chronic unemployment in recent years in communities heavily dependent upon farming, coal mining, railroad operations and old-line manufacturing—activities markedly affected by both changing product market conditions and the introduction of new, labor-saving production methods. This is not, of course, a new problem; technological un employment is as old as economic change. Especially high rates of joblessness have been reported among the unskilled and poorly educated not only in depressed areas but elsewhere. These factors have inspired concern that substantial numbers of persons, in effect, have become detached from the nation’s work force. The corrosive effects of long-term un employment, of course, are not to be meas ured solely in terms of income losses to those immediately affected. The disadvantaged status of the unemployed has a spillover im pact upon their children, serving to create a sense of futility and frustration and hindering the pursuit of needed education and job train ing and search for gainful employment. Some observers have expressed the conviction that a more or less permanent core of long-term joblessness has been forming. They fear that the longer unemployment lasts, the more difficult it will become to reabsorb the jobless and their offspring into the active work force. It is clear that in this view structural unemployment has been of growing size and significance and that it may threaten to be come an even more serious problem in the future. Recent and prospective labor force devel opments indicate clearly the magnitude of the task of adaptation and accommodation confronting the nation’s labor markets. The problem is especially evident in connection with youthful members of the working-age population. During the present decade, an estimated 26 million young persons will become first time job seekers. This compares with 19 mil lion during the Fifties. Although the number of 14 to 24 year old males in the labor force grew by less than 1 per cent between 1950 and 1960, a climb of 44 per cent is projected for the current decade. Meanwhile, the 25 and older group—generally the experienced workers—is growing much less rapidly. The 25 to 44 year category, which increased 9 per cent in the Fifties, is expected to grow only 4 per cent during the present 10-year period. Of the 26 million youths entering the labor force in the Sixties one-fourth, or 6.6 mil lion, will have had some college training and nearly half a full high school education. But more than 5 million will have entered the job market before high school graduation and more than 2 million others will have had at most only eight grades of schooling. In 1960, about 15 per cent of the 16 to 19 year old males in the labor force were unem ployed, with the rate even higher at times since then. By 1965, less than two years from now, the total number of 16 to 19 year old males in the job market—either at work or seeking work—will be almost 4 million, com pared with 3.2 million in 1960, while by 1970 it is expected to reach 4.3 million. Un less the incidence of unemployment at the B u sin e ss C o n d itio n s, Decem ber 1 9 6 3 lower end of the age scale is to become even wider, an abundance of job openings will need to appear for the rapidly growing num bers of young people seeking them. The implication seems clear that there is need for job training and retraining programs, suitable vocational education, dissemination of information on job availability and occu HETrend pational prospects, facilitation of worker mobility and similar structural approaches to unemployment. It is no less evident that a climate of vigorous economic growth and de velopment will be indispensable as well. Structural and expansionist solutions both have a vital part to play if the nation’s man power problem is to be dealt with effectively. OF BUSINESS W h a t's hap pe n in g to prices? T ^ast April major steel companies raised prices on a sizable list of products in strong demand domestically—mainly sheet and strip —for the first time since 1958. Producers of a wide variety of other goods have attempted to obtain higher prices in recent months. Many of the announced price increases were later rescinded but others, as the steel price hikes, for example, have taken hold. Producers, of course, always desire higher prices for their products. Competition and demand, however, tend to hold prices close to production costs. Managerial decisions to attempt to raise prices are almost always made with one eye on competitors who may or may not “go along” and the other upon purchasing agents who may be able to with hold orders, switch to other sources of supply or substitute other materials. The price pic ture during 1963 has reflected the vigorous bargaining that characterizes the free market system when it is operating effectively in an atmosphere of expanding business activity. It is encouraging that through October, average wholesale prices measured by the wholesale price index of the Bureau of Labor Statistics remained stable within an extremely narrow range as had been the case since mid-1957. Decreases in recent months for such items as hides, rubber and cement have offset in creases for such goods as steel, aluminum and paper. Consumer prices have increased somewhat during 1963. This trend also has been evi dent for several years. While prices of con sumer goods, like wholesale prices, have been stable on the average, prices of medical care, personal services and restaurant meals and other items for which wages and salaries largely determine costs have continued up ward. Rents have edged up slightly this year but at a slower rate than in other recent years. The total consumer price index was at 107 in September (1957-59=100), up 1 per cent from the level of a year earlier. Increases of roughly 1 per cent have occurred in each of 7 B u sin e ss C o n d itio n s, December 1 9 6 3 Fe d e ra l Reserve Bank o f Chicago W h o le sa le prices have been stable since 1958 while consumer prices have risen '-moderately per 160 * ent, 1 9 5 7 - 5 9 » IOC pe r c e n t , 1 9 5 7 - 5 9 •100 160 150 150 <• - V 140 140 130 130 4* who lesa le prices 1 120 120 consum er p r i c fS n o 11 0 w ho le sa le pri c e s 1 100 100 _______ i i . — 90 90 *f 80 80 W W 70 70 1 1 1 1 t 1 i 1 1 II 1 1 1 1 1 1 1 1 1 1 1 I f f 1 i 1 i } 1 1 i 1947 1948 1949 ■111 the past five years, following a more rapid rate of rise in the 1955-58 period. H a v e prices really b e e n sta b le ? Each month officers in charge of procure ment for business firms in Chicago and other major centers are surveyed by their trade associations and asked whether they are pay ing more or less for the principal items pur chased for processing or resale. Beginning last April the proportion reporting higher prices outnumbered the proportion reporting lower prices by a substantial margin. A year earlier the reverse situation prevailed. Re ports of these “purchasing agents associa »M 1950 1 1 1 1 ■' 1 1 1 1 1 1111 1951 1 I i 1 » 1 I i I < < 1952 1 1 1 1 1 1 1 1 1953 111 ■i i ii i i i i i i 1954 tions” do not attempt any precise measure ment of the breadth or size of price changes. On the supply side, statements by execu tives from such industries as steel, aluminum, paper and chemicals indicate that price struc tures in their industries have strengthened, helping to maintain or boost profit margins. Nevertheless, the wholesale price index, and especially the price index for commodities other than farm products and foods (indus trials) has traced a remarkably straight line. Are the price indexes reflecting price de velopments accurately? In general terms, the answer appears to be “yes.” The wholesale price index is based largely upon list prices 111 1 1 11 1 1 1 1 * » 5 1 1 11. 11 1 II 1956 1 1 1 1 1 II II 1957 1 II 1 1 1 1 ___ L- j 1 1 1 1 1 1958 ' 1959 reported by mail. Altogether about 2,000 items are published each month. Obviously, it is necessary to obtain quotations on iden tical goods each month to preserve continu ity. While it has been suggested from time to time that it would be desirable to obtain actual transaction prices from purchasers, experiments have indicated that the idea is not feasible for many products because of the need for quotes on identical goods sold in comparable volume on similar terms. Purchasing agents and selling agents alike often refer to the quoted list prices as a start ing point for bargaining on individual trans actions. There are many ways in which I9 6 0 1961 1962 1963 prices can be adjusted, within limits, when demand strengthens or weakens relative to supply without changing the “list price.” For one thing, certain goods commonly are pur chased from distributors who can and do vary their gross profit margins in response to changes in competitive conditions. When goods are purchased from either distributors or manufacturers, quantity discounts, cash discounts, charges for special services and transportation may be raised or lowered, in troduced or eliminated, depending on mar ket conditions. Sometimes higher grades are available at the price schedules for lower grades and vice versa. Price adjustments may Fed era l Reserve Bank o f Chicago 1o be made on the basis of whether orders are firm or cancelable or whether some minimum quantity will be taken within a given length of time. Particularly in slack times, sellers may be willing to offer special concessions to obtain new customers or enter new markets. Through one or more of these means market prices may drift away from list and return to the former relationship without a formal or published change. If hopes for a “return to list” fade, existing market condi tions may be recognized by an announcement of a change in the “book.” There is no pre sumption of ill-faith in any of these practices. One purpose served is the very practical one of avoiding complications resulting from fre quent issues of price lists. Nevertheless, these methods of reaching agreement on prices make it difficult to construct a highly sensi tive wholesale price index. Price always is a matter of time, place and circumstance. Many purchasers and sellers believe that there was a broad weakness in wholesale prices be tween the spring and late fall of 1962, fol lowed by an increasing degree of firmness which continued into the fourth quarter of 1963. But these changes did not show up in the published indexes. Has the deviation from the published index been important? There are a number of rea sons for believing that any general decline and subsequent rise in average wholesale prices that may have occurred in the 1962-63 period was quite small. First, there are a num ber of indexes which are composed of quota tions on raw or semi-finished materials. Most of these items are traded in open markets in which prices are sensitive to changes in sup ply and demand not only in the United States but in other nations as well. In mid-Novem ber the 22-commodity spot price index of the Bureau of Labor Statistics was 96.5 (19575 9 = 100) compared with 93.3 a year earlier. During the past year increases for sugar, tin, zinc and wool have been largely offset by de creases for meat animals, hides, rubber, bur lap and rosin. Although the spot commodity index has been somewhat above the year-ago level in recent weeks, it has been almost ex actly the same as two years ago and below the level of the 1957-59 base period. Turning once more to the broad wholesale price index, it should be noted that prices of industrial goods rose sharply in 1950 and again in the 1955-57 period despite the fact that most of the business practices that tend to obscure moderate price adjustments were also in vogue in those years. Should a truly significant price upswing occur in the months ahead it almost certainly will be revealed in an appreciable increase in the index. T he c a s e fo r p ric e s t a b ilit y For the past six years average prices of goods in the United States have been highly stable in contrast with the record of the first 12 years of the postwar era. This experience compares favorably with that of most other nations, large or small, industrialized or un derdeveloped (see Business Conditions, No vember 1963). Price stability in recent years has been based in part upon the larger proportions of unused resources of manpower and facilities that have existed relative to earlier periods of expansion. Large capital outlays in the midFifties which broke the supply bottlenecks in such basic industries as steel, aluminum, copper and cement have played an important role in this trend. Also important have been the more restrained wage and benefit settle ments reached in recent labor-management negotiations, and the absence of major work stoppages since 1959. Relative price stability in the United States has helped to shore up the value of the dollar in world markets and B u sin e ss C o n d itio n s, December 1963 has lessened the inroads of inflation upon the purchasing power of those Americans whose incomes do not adjust readily to price changes. What are the prospects for continued price stability? Expansion in output during the past two and one-half years has decreased the margin of unused capacity in such lines as aluminum, paper and some types of steel. Such developments commonly foreshadow price increases which help channel produc tive resources to areas of greatest need. But it does not follow that aggregate demand is yet pressing closely upon the nation’s total ability to produce. McGraw-Hill estimates that manufacturers, as a group, are producing at only 85 per cent of capacity as compared with a desired rate of 92 per cent. Unemploy ment is on the order of 5.5 per cent of the labor force, a relatively high rate. Additional evidence that demand is being handled with out strain is found in the fact that lead-times required on orders if goods are to be deliv ered on schedule have lengthened only slightly since early 1961 in contrast with experience in previous postwar business ex pansions. With these conditions there is reason to expect free market forces to permit substan tial further increases in production and sales in the months ahead without repeating the inflationary excesses of the 1946-57 period. Even though the modest changes in average level of prices believed to have taken place in recent months have not been reflected promptly in the widely used price indexes, it can be assumed that any broad or sustained movement will be evident. Flow of funds for capital investment early 160 billion dollars was invested in long-lived goods during 1962. This was the amount spent by consumers, business firms and governments on the purchase of assets that yield streams of services or earnings over extended periods of time. Consumers accounted for the largest share with capital outlays of more than 69 billion dollars. Purchases of homes made up about one-fourth of this total; the remainder con sisted mainly of purchases of such durable goods as cars, furniture and appliances. Business capital spending in 1962 totaled 57 billion dollars. Of the three major types, new construction and replacement and ex pansion of existing structures and equipment accounted for 46 billion dollars, while the increase in inventories was 5 billion and con struction of rental housing, 6 billion. Federal, state and local government capi tal expenditures in 1962 were roughly 33 billion dollars. The construction of schools, hospitals, highways and other public facili ties totaled 18 billion. The remaining 15 bil lion was largely for military equipment. Capital spending has increased each year since 1955 except during the recession years of 1958 and 1961. The fall-off in those two years occurred because of declines in con sumer and business spending; government in vestment expenditures in 1958 continued to rise and in 1961 remained virtually un changed. Some notion of the extent of the decline 11 Federal Reserve Ba nk o f Chicago and subsequent expansion in capital invest ment during recent cycles in business activity can be gained by comparing changes during equivalent periods beginning with the initial dates of downturns (see chart). For instance, from the peak of business activity in the sec ond quarter of 1960 to the second quarter of 1963, consumer capital outlays rose 4 billion dollars on an annual rate basis. This was somewhat less than the increases during the three-year periods following each of the two prior peaks. The comparatively small rise in consumer Rise in capital expenditures by consumers has not matched gains in earlier expansion periods per cent Flow of funds Most of the statistics used in this article are from the seasonally adjusted flow of funds accounts published regularly in the Federal Reserve Bulletin since November 1962. The assembled statistics differ from those in the national income and product accounts (G N P ) in that investment here includes spending on consumer durable goods, which is treated as a current ex penditure in the G N P accounts. Also, government purchases of goods and serv ices are divided between those for current use and those for capital purposes. Annual estimates of capital expendi tures by governments are based on data from the Governments Division of the Bureau of the Census. Expenditures for military construction and durable equip ment have been included in investment since the underlying assets yield services spread over a number of years. The consumer sector includes nonprofit organizations. The business sector com bines both nonfarm and farm businesses. _ _ i ____i 0 peak 2 i i____i____i____i____ i____i____ i___ i— 4 6 8 10 i— t— _j— 12 14 i— i— i 16 number of quarters after peak capital expenditures during the 1960-63 period largely reflects weakness in the mar ket for owner-occupied single-family housing. Consumer spending on residential construc tion during the second quarter of 1963 was below the second quarter of 1960. In dollar terms the increase in consumer spending for durable goods other than housing between the second quarter of 1960 and the second quarter of 1963 was virtually the same as in the comparable period that began with the 1953 peak. The percentage rise, especially for automobiles, was slightly greater during the most recent three-year period than during the 1957-60 upswing although it still did not measure up to the 1953-56 rise. The increase in business capital expendi tures during the current upswing has not been as strong as during the 1953-56 expansion but has been more pronounced than in the 1957-60 period (see chart). The principal B u sin e ss C o n d itio n s, December 1963 component of business investment — new plant and equipment—rose steadily in 1961 and erratically during 1962; its level in the second quarter of 1963 was still above the 1960 peak. Inventory accumulation has been even more variable but in mid-1963 was up from the level of mid-1960. A strong rise in business investment in apartment buildings, hotels and other residential properties during 1961 and 1962 was related to some extent to the sluggishness in the market for one-tofour-family homes. B a la n c e o f so u rc e s a n d u se s o f fu n d s In any given period some consumers, par ticularly home buyers, will be borrowing funds while others will be paying back loans or placing funds in the hands of financial institutions. Many families will be doing Business capital expenditures are rising after temporary decline in late 1962 and early 1963 both. As a group, however, consumers gen erally are net savers. In the aggregate they accumulate financial assets—currency, bank deposits, savings and loan and credit union shares, securities and insurance and pension reserves—thereby making funds available to other sectors for investment in capital goods. The growth in consumer savings in all forms combined has risen sharply since mid1960 and the rise of 43 billion dollars in 1962 was the largest for any postwar year. Per sonal income advanced during that year but the gain in financial saving was relatively much greater, indicating factors other than income are influential in stimulating saving; interest rates probably rank among the most important. The record level of personal finan cial savings was accompanied by a rise in borrowing. Consumers added 22 billion dol lars to their total indebtedness in 1962; of this, 15 billion was in new mortgage debt and more than 4.5 billion was in instalment loans. But this was only half as great as the addition to consumer financial assets. Businesses, unlike consumers, are usually net borrowers: that is, the funds required by the business sector for capital investment are often in excess of funds generated internally from retained profits and depreciation allow ances. The amounts required are obtained by selling equity or debt securities to the public or by increasing liabilities in other forms. The difference between the growth in lia bilities and the growth of financial assets of business firms was smaller in 1962 than in some earlier years of expanding business ac tivity, notably 1956. This was largely because nonfinancial corporate businesses in the ag gregate were able to increase capital outlays with only a moderate rise in external long term financing. Corporate bond and stock obligations were increased only 4.7 billion dollars in 1962, the smallest rise since 1955. 13 Federal Reserve Ba nk o f Chicago At the same time, however, a record increase occurred in another form of corporate indebt edness—mortgage debt on apartments and other business properties rose 4.4 billion dollars. Business needs for external funds were reduced somewhat by internal funds gained from investment credits arising out of the 1962 Federal tax changes. On balance then, the sizable growth in net financial saving of consumers in 1962 was not fully matched by a greater-than-usual amount of net new corporate borrowing. Consumers continue to have a large volume Consum ers' gross savings exceeds expenditures for "capital goods" Cap ital expenditures by businesses typically exceed retained earnings and depreciation allowances of net financial saving thus far in 1963, though funds are being accumulated some what less rapidly than in 1962. Corporate ex ternal financing or “dissaving” in the first half of 1963 was only slightly larger than the mod erate 1962 amount. Projections of increased spending on business plant and equipment in the near term ahead suggest that net corpo rate borrowing will increase. It is expected that consumer net financial saving will rise more slowly but will still exceed the amount of external funds used by corporate business. The deficits of the Federal Government are influenced by and are partly in response to the spending-saving decisions made by businesses and consumers in the private sec tor. The amount spent on public works, for example, often rises when business expendi tures on plant and equipment decline. Net borrowing by the Federal Government tends to be greatest in periods of recession when net borrowing by the private sector is low (see chart); indeed, Federal deficits are sometimes thought of as the balancing ele ment keeping total borrowing equal to total financial saving. The Federal Government reduced its in debtedness and thus was a supplier of ex ternal funds in 1960. During 1961, 1962 and the first two quarters of 1963, however, its role was that of a net borrower. The increase in financial liabilities exceeded the acquisition of financial assets by 5 billion dollars in 1962, but even at this level the deficit was not as large as in some recent years such as 1958 (see chart page 16). The amount of funds borrowed by the state and local governments has been com paratively stable in contrast with the large fluctuations that have characterized borrow ings by the private sector and the Federal Government. State and local governments always tend to be net borrowers. The net B u sin e ss C o n d itio n s, December 1963 amount borrowed in 1962 was somewhat larger than in most recent years. C h a n n e ls o f s a v in g to in v e s t m e n t W he n business activity declines, consumers tend to step up saving and business saving also tends to rise Consumers make funds available to other sectors of the economy directly through the purchase of bonds and stocks and indirectly by placing their funds in the hands of finan cial intermediaries—banks, savings and loan associations, insurance companies, pension funds and similar institutions. In one instance, the decision whether the consumer, nonfinancial business or government sector be comes the user of the funds is made by the consumer, in the other case by the financial intermediary. Consum ers, nonfinancial businesses and governments channeled more funds through financial intermediaries Funds supplied to Financial intermediaries’* Funds directly placed M ortgages Securities Loans (billion dollars) 1953 16.1 1.6 1954 2 3 .3 1.4 - 8 .0 0 .9 0 .4 4 .8 1 9 55 18.3 1.8 12.4 12.5 1956 2 0 .4 2 .5 2 .7 10.4 1957 2 1 .7 3 .5 6 .2 7 .0 19 58 3 1 .7 2 .7 2 .2 9 .8 1959 2 2 .2 4 .2 14.1 11.5 1960 2 5 .9 3 .6 1961 3 6 .4 2 .2 19 62 4 5 .0 1963b 4 8 .2 2 .6 9 .2 3 .5 12.8 3 .6 0 .6 12.5 1.2 10.6 17.4 - “Deposit and share accounts at commercial banks, mutual savings banks, savings and loan associations and credit unions,- reserves of life insurance and pension funds. bSecond quarter, seasonally adjusted annual rate. The volume of funds that consumers chan nel into credit and equity markets through financial intermediaries has tended to decline during business expansions when direct stock market purchases have increased. In 1962, however, consumer saving through financial intermediaries rose sharply, partly because of the comparatively high rates offered on savings deposits and share accounts. As a re sult, in the current upswing more consumer saving has been channeled into financial mar kets through financial intermediaries and less has been directly placed than in earlier ex pansion periods. Funds advanced by corporations to finan cial intermediaries, mostly in the form of demand and time deposits, are small com- 15 Federal Reserve Ba nk o f Chicago 16 pared with those advanced by consumers. The amount corporations added to their de posits in 1962 was about 500 million dollars. In the second quarter of 1963, corporate de posits increased at a seasonally adjusted annual rate of about 200 million dollars. Di rect lending by corporations has fluctuated much more and has held at a high level in the current expansion, reflecting the extension of larger amounts of short-term credit such as that provided to buyers. Corporate business reversed its position from net seller of Fed eral Government obligations in 1961 to net purchaser in 1962 and the first half of 1963, a development that sometimes occurs when funds on hand are not needed immediately for capital expansion. Governments, like business corporations, provide only a small proportion of the total funds available to financial intermediaries. The direct lending of governments, partly in the form of mortgage loans on residential and farm properties, has changed little in recent years. Financial intermediaries used funds re ceived from their customers during 1962 and the first six months of 1963 and earnings on assets to add sizable amounts to their hold ings of state and local government securities. Mortgage lending also increased sharply as did short-term business and consumer lend ing. In contrast, the increase in holdings of Treasury securities by financial institutions was smaller in 1962 than during the previous year, and in the second quarter of 1963, com mercial banks reduced their holdings of U. S. Government securities, after allowance for seasonal factors. These uses of funds reflect liquidity and earnings requirements of the various financial intermediaries as well as legal restrictions on loans and investments. Most investors in practice are restricted as to the kinds of instruments that they may use N et bo rro w in g by Federal Government usually is largest when private credit demands are low to raise external funds. Consumers, for ex ample, obtain funds for financing homes in mortgage rather than securities markets. Governments borrow the funds they require and do not issue equity securities. Most finan cial intermediaries deal largely in debt, both in their “borrowing” and “investing.” Con sequently, the various borrowing and saving groups are likely to affect the behavior of particular financial markets in different ways. Recent experience is illustrative of the separation between decisions to save and de cisions to invest and the differences that occur between demand for funds and the available supply of savings. In early postwar years and in recent recoveries, demands for external financing have been strong and this competi tion for savings funds has generated corre sponding pressures on prices and interest rates. More recently, the situation has been one of abundant supply of savings relative to the demand for funds. LJUOM I GOO Conditions a review by the Federal Reserve Bank of Chicago Index for the y e a r 1963 B a n k in g a n d m o n e t a r y p o lic y On time deposits: some pertinent data, October, 10-16. Savings accounts and commercial bank earnings, August, 12-16. Trends in banking and finance: January, 5-8; Negotiable certifi cates of deposit, February, 5-9; Selected operating ratios of Seventh District member banks, 1962, April, 6-7; Financial developments in the first quarter 1963, May, 7, 14-16; Banking in spotlight again, June, 3-9; Liquidity on the rise, August, 8-11; Monetary policy and capital outflows, November, 2-5. C r e d it a n d fin a n c e Decline in home mortgage credit quality? September, 10-16. Banks step up mortgage lending, April, 12-16. Flow of funds for capital investment, December, 11-16. Renewed strength seen in capital outlays, April, 8-12. Trends in banking and finance: Growth of major types of debt, March, 2-4; Bank loans in the District, July, 2-5; Business demand for credit, October, 2-6. Eco n o m ic c o n d itio n s , g e n e r a l Stock prices and business prospects, November, 6-10. The trend of business: January, 2-4; February, 2-5; May, 2-6; Four expansions compared, August, 3-7; September, 2-5; What’s happening to prices? December, 7-11. In c o m e a n d e m p lo y m e n t Farm income continues at high level, January, 14-16. for unemployment: economic expansion, structural changes, or both? December, 2-7. The patterns of personal income, July, 10-15. The trend of business: As reflected in employment in midwestern states, April, 2-5. In d u s t r y a n d t r a d e Competition for military contracts—Midwest position has de clined, January, 9-13. The growth of industrial production, June, 10-16. Manufacturing at record level in Chicago metropolitan area, May, 10-13. 1964 cars reach the market, October, 6-10. In t e r n a t io n a l e c o n o m ic c o n d itio n s “Defense of the dollar—a Midwest view” a speech by Charles J. Scanlon, July, 15-20. The European business outlook—slower growth? March, 5-8. Export aids play a key role, May, 8-9. Foreign long-term borrowing in the United States, September, 5-9. Foreign trade—the United States competitive position, November, 11-16. Great Lakes ports broaden Midwest links to world, July, 5-10. “Monetary policy and international payments” a speech by William McChesney Martin, Jr., February, 9-16.
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