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ESSAYS ON ISSUES

THE FEDERAL RESERVE BANK
OF CHICAGO

FEBRUARY 1993
N U M B E R 66

Chicago Fed Letter
1993 outlook: recovery
am idst restructuring
The weakest economic recovery in the
post-World War II era showed promis­
ing strength in the second half of 1992,
raising business and consumer confi­
dence that the recovery will be sustain­
able and may even begin to follow a
recovery pattern in 1993 more similar
to past recoveries. More than thirty
business economists and analysts from
around the Midwest gathered in Chica­
go on December 9, 1992, for the sixth
annual Economic Outlook Sympo­
sium, sponsored by the Federal Reserve
Bank of Chicago, to discuss the pros­
pects for the American economy in
1993. The consensus view was for a
steady improvement in economic activ­
ity in 1993. Nevertheless, economic
growth was expected to remain below
historic rates of recovery. This issue of
the Chicago Fed Letter summarizes the
consensus of 24 forecasts submitted at
the meeting and highlights the related
discussion of key industries important
to the Midwest economy.
Economy wide perspective: edging up
to trend growth

The consensus forecast of real gross
domestic product (GDP) growth for
1993 is 2.8% (on a year-over-year ba­
sis) , with only the second half of the
year expected to fall within the lower
end of the normal range for the ma­
ture phase of a recovery. Even among
the more optimistic at the meeting,
only six forecasters predicted GDP
growth of 3.0% or higher, which is on
average little better than trend growth
for an economy (GDP has averaged
3.1% annual growth since 1948).
The weakness of the economic recov­
ery—both to date and projected
through 1993—perhaps can be under­

stood most easily from the perspective
of the normal recovery pattern, based
on an average of the four previous
recoveries (see Figure 1). For exam­
ple, the first six quarters of an econom­
ic recovery typically achieve growth
rates in real GDP in a range of approxi­
mately 5% to 7%. Following the se­
vere 1981-82 recession, annualized
GDP growth rates over the first six
quarters of recovery ranged from 4%
to 11%. However, the typical sharp
snapback of the earliest stage of recov­

at a pace slightly below 3%, after rising
only 2% in 1992. An improvement in
consumer spending got underway in the
second half of 1992, with many retailers
experiencing one of their best Christ­
mas selling seasons in years. The group
generally seemed to feel that any new
federal spending initiatives would have
little impact in 1993 because of normal
lags in implementing new programs.
Consequently, government spending is
expected to be flat, making it again a
drag on economic growth. Finally, ex­
ports may become one
of the few strong sectors
in 1992 to reverse course
in 1993, with growth
hindered by an expected
rising dollar and a slow­
ing global economy.
Industry perspective:
pent up demand drives
growth

Despite the weakness in
export growth and limit­
ed inventory building,
the distribution of eco­
nomic growth could still
‘ Based on previous four recoveries beginning in 1961Q1, 1970Q4, 1975Q1, and 1982Q4.
SOURCES: Bureau of Economic Analysis and Federal Reserve Bank of Chicago.
benefit manufacturers.
The consensus forecast
for industrial production showed a
ery did not occur in 1992, in part be­
3.0% gain in 1993, which would be
cause two key components of the econ­
more than twice the growth experienced
omy—autos and inventories—did not
in 1992 but still subpar by historical
experience their normal rebound. At
standards. In order to better under­
the same time, neither employment
stand the sources of the weak recovery,
nor income kept pace with their nor­
a closer look at key manufacturing in­
mal recovery patterns.
dustries can be useful.
The expected distribution of economic
Autos. Car and light truck sales, a major
activity in 1993 also offers some in­
factor in business cycles, have been
sights into how the recovery will devel­
struggling throughout this recovery,
op. Business fixed investment and
but are expected to make steady im­
residential construction, for example,
provements over 1993 (see Figure 2).
are expected to boost their growth
The consensus forecast is for 14.0 mil­
rates to 6% and 9%, respectively, in
lion in car and light truck unit sales in
1993 and lead the recovery. Consump­
1993, compared to 12.8 million units
tion, which represents roughly twoin 1992, led mainly by minivans and
thirds of total GDP, is expected to grow

rates in 1992 were a
significant factor in the
rebound in housing
activity, which was evi­
dent not only in starts
but also in new and
existing housing sales.
Besides refinancing,
many took advantage of
lower mortgage rates to
buy a new home (a deci­
sion that may have been
postponed as much as a
year ago). Remodeling
expenditures, driven by
decreased mobility
among baby boomers with children
reaching school age, is expected to
increase 6% to 7% in 1993. With the
forecasters anticipating little change in
long term rates, favorable mortgage
rates are expected to continue to sup­
port housing activity in 1993. However,
virtually all of the growth is expected to
come from single family units.

SO U R C E. Board of Governors, Federal Reserve System.

sports/utility vans. Based on favorable
underlying factors, such as disposable
income and installment debt trends,
an industry economist noted that there
was a strengthening in consumers’
“ability to buy” during 1992, but con­
sumers’ “willingness to buy,” deter­
mined by such things as consumer
attitudes and unemployment insur­
ance claims, remained relatively weak
until late in the year. Still, the expect­
ed gains in auto sales were driven not
so much by the overall improvement in
the economy or consumers’ willingness
to buy (although consumer confidence
has been rising), but by the release of
pent up demand that has accumulated
in recent years.

Appliances. Housing activity is also im­
portant as a source of demand for
household appliances. While much of
the appliance market is for replace­
ments, sales growth is derived from
improvements in housing activity. In­
creases in both existing housing sales
(a leading indicator of appliance sales)
and home remodeling are expected to
provide a boost to appliance sales in
1993. An industry analyst forecasted a
4% to 5% increase in household appli­
ances. As in the case of autos, the ana­
lyst saw indications of pent up demand
for appliances that consumers are now
beginning to address.

Housing. A second important source of
growth expected to improve in 1993 is
in residential construction. After one
of the worst housing markets in years,
housing starts made a comeback in
1992 and are expected to rise 12% in
1993 (see Figure 3). Lower mortgage

3. Quarterly housing starts
millions of units (saar)

ecast

■ |

IM T T i r
r
i i i
n

L

i

1989

i

1990

S O U R C E : B ureau of E co n om ic A nalysis.

i

1991

i_______

1992

1993

Electronics. Computers
and other electronics
equipment, which can
be classified as either
consumer or investment
goods, began to re­
bound in 1992, with
consumer electronics
sales posting 8% growth.
Computers, led by per­
sonal and laptop com­
puters, were among the
fastest growing house­
hold appliances, along
with compact disk play­
ers, large screen TVs,

and fax machines. Telecommunica­
tions equipment, like pagers and car
phones, are also increasing their con­
sumer market penetration. With key
markets for electronics components,
ranging from autos to computers, ex­
pected to improve in 1993 and orders
for electronic components already show­
ing strength, an industry economist
projected 15% to 20% growth in semi­
conductors and electronic components
orders in 1993.
Machine Tools. Traditional capital goods
markets, particularly machine tools,
held up remarkably well during the last
recession and the early phase of this
recovery and are expected to continue
to do well in 1993. Indeed, the most
recent Commerce Department Survey of
Plant and Equipment Spending showed a
healthy increase in real investment
spending planned for 1993—up 7.6%,
compared to 5.4% in 1992. An industry
analyst expected machine tool orders to
rise by 12% in 1993, with the bulk of the
increase going to domestic machine
tool producers. Investment in machine
tools and other productivity enhancing
equipment is being driven by produc­
ers’ long term need for cost reduction
and quality improvement, regardless of
the current strength of demand for
their products. This drive to reduce
cost and increase competitiveness glo­
bally should continue to sustain equip­
ment spending throughout the 1990s.
Trucks. Class 8 heavy duty trucks, which
haul over 90% of all freight shipped by
truck, experienced a strong resurgence
in 1992 (orders were up 13%) and are
expected to continue to surge in 1993.
After a remarkable 20% rise in sales in
1992, truck sales are expected to reach
135,000 units in 1993—a 14% gain, but
still below the 160,000 unit peak in
1989. Increases in industrial produc­
tion, requiring increased hauling, and
greater reliance on just-in-time deliver­
ies have contributed to the demand for
net additions to freight haulers stock
fleet of trucks. Medium sized trucks
(classes 3-7) have fared less well than
heavy duty trucks, perhaps because
small companies are still having prob­
lems getting bank financing, but are still
expected to post modest increases in
orders in 1993.

Basic materials. With industrial activity
picking up in 1993, demand for basic
materials, such as steel and cement, are
also expected to show substantial im­
provement in 1993. Steel shipments
are expected to increase by 5% to a
level of 86 million tons. Two key mar­
kets, autos and steel service centers, are
both currently doing well and are low in
inventory. Indeed, demand from auto
producers was reported to be sufficient­
ly high to keep one high performance
steel producer at full capacity in the first
quarter of 1993. While neither steel
nor cement are expecting a boost from
commercial construction because of
continuing high vacancy rates, cement
demand will continue to benefit from
public projects, particularly highway
construction. An industry economist
expects cement shipments to increase
5% to 6% in 1993 and reach a record
level by 1994.
Corporate perspective: restructuring
constrains trend growth

While a movement up toward trend
growth rates among many industries
contributes to short term growth in the
outlook, changing management polices
among large corporations may be low­
ering trend growth in this recovery.
Longer term restructuring of corporate
policies is perhaps most evident in hir­
ing, inventory controls, and financial
management. While corporations typi­
cally reevaluate these policies during
recessions to lay the basis for stronger
long term growth, many seem to have
begun the process well before the last
recession began and participants ex­
pected some aspects of this process to
continue into the recovery.
Corporate white collar layoffs have been
occurring since the recovery began
early in 1991, with Fortune 500 firms
like GM, Sears, and IBM making front
page news. Evidence of the widespread
impact of these layoffs is reflected in the
weak employment growth since the
overall recovery began. Many corpora­
tions are making these cutbacks in or­
der to reduce operating costs in re­
sponse to global competitive pressures
and rising health care costs. The fact
that industrial production has picked
up in 1992 and participants expect it to

continue to improve is indicative of the
drive among manufacturers to achieve
output growth with the same or fewer
workers. But without employment
growth, income growth may not be
sufficient to sustain consumer spend­
ing growth and with it the recovery.
The effort to reduce costs and improve
their cash liquidity has also led many
large corporations to shift to just-intime inventory practices. This shift is a
key factor in explaining the lack of
wide inventory swings that are typical
around recession troughs and the
absence of a strong snapback in the
early stage of the current recovery.
Indeed, inventories have been under
such tight control that the ratio of
inventories to sales has remained at
record low levels during the recovery.
Inventory investment has increased,
but only enough to meet current pro­
duction demand and not to anticipate
future sales. Most participants at the
meeting expected inventories to re­
main under tight control with many
firms still trying to further reduce their
inventory stocks. If the process of
shifting to just-in-time practices contin­
ues, inventory investment could re­
main a drag on the recovery, relative to
its role in the past.
Within the nonfmancial corporate
sector, muted borrowing demand may
also be hampering willingness to spend
and, as a result, slowing the pace of the
recovery. In the late 1980s and early
1990s, concern arose about the in­
crease in corporate debt, and some
highly leveraged firms did experience
financial stress during the recession.
A financial economist noted, however,
that corporate liquidity has been on
the mend over the last year and corpo­
rations have responded to lower inter­
est rates and strong equity markets by
restructuring their balance sheets,
laying the groundwork for improve­
ment in corporate spending consistent
with the consensus forecast. However,
if the perception persists that corpo­
rate debt is still higher than desired—
by the firm or by rating agencies—
corporations may be inclined to delay
capital spending projects until they are
more comfortable with their financial
positions. While the consensus out­

look for investment spending is en­
couraging, it remains to be seen how
aggressive corporations will be in ex­
panding investment, particularly if new
debt financing is required.
Summing up: sustainability
versus restructuring

The consensus outlook for 1993 repre­
sents a solid improvement over 1992, if
somewhat modest by historical stan­
dards. The expected steady improve­
ment over the course of the year
should be taken as encouraging, but
may also be the most vulnerable aspect
of the outlook. Steady gains in eco­
nomic activity are dependent on in­
come and spending growth that them­
selves are ultimately dependent on
employment growth. To date, employ­
ment growth has been the most disap­
pointing part of the recovery. The
need to replace equipment and satisfy
consumers’ pent up demand may be
able to generate much of the growth
expected in 1993, but sustained growth
will require new sources of consumer
income and corporate earnings. In
the long run, corporate restructuring
should make firms more competitive
and their growth may lead to a resump­
tion of their employment growth. But
until that stage is reached, employ­
ment growth could continue to be
sluggish and the recovery vulnerable
to set backs.
—Robert Schnorbus and
William Bergman

Karl A. S cheld, S en io r Vice P re sid en t a n d
D irecto r o f R esearch; David R. A llardice, Vice
P re sid en t a n d Assistant D irecto r o f R esearch;
C arolyn M cM ullen, E ditor.
Chicago Fed Letter is p u b lish ed m o n th ly by th e
R esearch D e p a rtm e n t o f th e F ed eral Reserve
B ank o f C hicago. T h e views ex p ressed are th e
a u th o rs ’ a n d are n o t necessarily th o se o f th e
F ederal Reserve B ank o f C hicago o r th e F ederal
Reserve System. A rticles may be re p rin te d if
th e source is c re d ite d a n d th e R esearch
D e p a rtm e n t is p ro v id ed with copies o f th e
rep rin ts.
Chicago Fed Letter is available w ith o u t ch arg e
from th e Public In fo rm atio n C e n te r, F ed eral
Reserve B ank o f C hicago, P.O. Box 834,
C hicago, Illinois, 60690, (312) 322-5111.

ISSN 0895-0164

Tracking Midwest manufacturing activity
Manufacturing output index, 1987=100

Manufacturing output index
(1987=100)
Nov.

Month ago

Year ago

MMI

112.5

m .i

109.4

IP

110.8

110.3

108.6

Motor vehicle production
(millions, saar)
Dec.

Month ago

Year ago

6.1

5.6

5.6

Light trucks 4.8

4.1

3.5

Autos

18
0

Purchasing Managers’ Surveys:
production index
Dec.

Month ago

Year ago

MW

66.2

63.9

46.6

U.S.

59.4

60.1

50.6
-I__I__I
__I__L_

Midwest manufacturing activity posted a solid 1.0% gain in November. The Mid­
west gain was twice the rate of the Board’s index of manufacturing production for
the nation, marking the second consecutive month that the Midwest has doubled
the pace of manufacturing activity nationwide. The Board’s index for December
rose another 0.5%, raising the likelihood of another solid gain for the Midwest.
Auto production was significant in the recent strong performance in regional and
national manufacturing. Domestic auto producers revised their production
schedules for the first quarter of 1993 upward to a 23% increase over the weak
production of a year ago. For cars, that could translate into a 6.5 million unit
build pace (saar), roughly half a million more than for the second half of 1992.

SOURCES: T h e M idwest M an u factu rin g In d e x
(MMI) is a com posite in d ex o f 15 in d u stries,
based o n m o n th ly h o u rs w orked an d kilow att
h ours. IP rep re sen ts th e FRBB in d u strial p ro ­
d u ctio n in d e x fo r th e U.S. m an u fa c tu rin g sec­
tor. A utos a n d lig h t trucks are m easu red in a n ­
n u alized physical units, u sing seasonal adjust­
m en ts d ev elo p ed by th e F ederal Reserve B oard.
T h e PMA in d e x for th e U.S. is th e p ro d u c tio n
c o m p o n e n ts fro m th e NPM A survey a n d fo r th e
M idwest is a w eighted average o f th e p ro d u c ­
tion c o m p o n e n ts from th e C hicago, D etroit,
a n d M ilwaukee PMA survey, w ith assistance
from B ishop Associates a n d C om erica.

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Federal Reserve Bank of St. Louis, One Federal Reserve Bank Plaza, St. Louis, MO 63102