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ESSAYS ON ISSUES THE FEDERAL RESERVE BANK OF CHICAGO APRIL 1994 NUMBER 80 Chicago Fed Letter The revival of the Rust Belt: fleeting fancy or durable good? The Midwest economy expanded at a robust clip in 1993, with employ ment, consumer spending, industrial output, and housing activity showing substantial gains for the year as a whole.1 Flooding, supply interrup tions in the auto industry, and some slippage in consumer and producer confidence slowed the upswing around mid-year, but business activity strengthened markedly as 1993 came to a close. Harsh winter weather put a chill on growth in the region in recent months, but the underlying economic m om entum remained quite positive. This Fed Letter reviews the path of the Midwest economy during 1993 and into early 1994, docum enting how that performance fits into a pattern suggesting a long-term revival in the “Rust Belt.” Over the near term, un der current consensus expectations for the national economy, the Mid west economy should continue to grow at least as fast as the national economy. Midwest labor markets among the strongest in the nation In 1993, Midwest labor markets firmed up considerably. Hiring did slow in mid-1993, in part because of heightened uncertainty about health care reform, weather conditions, and special factors affecting the auto in dustry. 2 A renewed burst of business activity bolstered the labor market recovery late in the year, however, with particularly strong dem and for production workers. More recently, the composite picture painted by government data, private surveys, help-wanted advertising, and discus sions with personnel firms and large employers indicated further labor market gains in early 1994. The 1993 gains fit into a developing trend that dispels the region’s Rust Belt image. The aggregate unemploy m ent rate in the Midwest fell further than the national average in 1993 and remained below the national average for the second consecutive year.3 Pri or to 1992, the last time the Midwest’s unemployment rate was below the national average was in 1978. Figure 1 shows the difference between the national and Midwest unemployment rates since 1978; the harsh impact of the recessions of the early 1980s is clearly evident. From 1979 to 1982, Midwest payroll employment fell twice as fast as the national average, and the unemployment rate rose to a level fully 2 V2 percentage points above the national rate. Since 1982, however, the gap between the Midwest and the nation has consistently narrowed in the Midwest’s favor. By the end of 1993, in each Midwest state, the un employment rate had fallen below or close to its lowest level since 1977. The gap between the Midwest unem ployment rate and the national aver age even narrowed during 1990 and 1991, a remarkable development considering the traditional recession ary sensitivity of Midwest labor mar kets. Manufacturing accounts for a greater share of employment in the Midwest than in the nation as a whole, and m anufacturing employment tends to suffer greater losses during a recession than overall employment. Adding to the pressure, employment in cyclically sensitive durable goods sectors constitutes a greater portion of m anufacturing employment in this area than in the nation. 1. Relative unemployment rate -i r\ percent (U.S. rate m inus M idw est rate) ___________________________ l l II a r\ f~\r\ ii ii ii ii ii ii ii ii 1979 ’81 ’83 ’85 ’87 ’89 ’91 ’93 Sources: U.S. Department of Labor, Bureau of Labor Statistics; state employment agencies; and Federal Reserve Bank of Chicago. Midwest m anufacturing employment fell precipitously in the twin reces sions of the early 1980s, over twice as fast as the national average. Since that devastating period, however, m anufacturing employment in the Midwest has accounted for an increas ing share of m anufacturing employ ment, and the region’s share contin ued to rise during the recessionary years of 1990 and 1991 (see figure 2). Private surveys have proven valuable alternative tools for assessing labor markets in recent years. One such effort is a quarterly survey of employer hiring plans by a large temporary help company. In 1992, this survey’s re sults echoed the household survey pattern more closely than it did the payroll survey data, and accurately foreshadowed the ultimate revision in the payroll data. For 1993 as a whole, this survey showed stronger hiring plans in the Midwest census region than in the nation for the fifth consec utive year. Hiring plans improved further in early 1994 (see figure 3). Sources: U.S. Department of Labor, Bureau of Labor Statistics; state employment agencies; and Federal Reserve Bank of Chicago. Nationally, the index for hiring plans among durable goods manufacturers topped the list of ten industrial cate gories in the most recent survey. Hir ing plans in the Midwest showed con siderable relative strength in early 1994, and not simply because durable goods manufacturers account for a greater share of total employers in this region. The index for Midwest durable goods manufacturers was substantially higher than its national counterpart in early 1994. Midwest manufacturing on the move Given the central importance of man ufacturing in the Midwest, observers are fortunate to have a variety of reli able, relatively timely indicators of production trends in the region. Pur chasing m anagers’ surveys conducted in Chicago, Detroit, Milwaukee, west ern Michigan, Indianapolis, and Iowa provide monthly information on trends for m anufacturing as a whole. The Chicago Fed’s Midwest Manufac turing Index (MMI) estimates m onth ly regional output for manufacturing overall as well as for specific industrial sectors. In addition, a good deal of privately produced, publicly available information is available for im portant Midwest industries such as autos, heavy-duty trucks, steel, farm machin ery, construction equipment, machine tools, and appliances. Purchasing managers’ surveys suggest that industrial output grew faster in the Midwest in 1993 than in 1992, and faster than the national average. The pattern in the MMI echoed the pur chasing managers’ survey results (see figure 4), showing a mid-year slow down followed by faster growth at the end of 1993. The new-found relative strength in Midwest output during a recession can be seen in a longer-term perspective in figure 5. This chart shows the difference between the overall index for the Chicago purchas ing managers’ survey and the national average. In each of the three reces sions around 1970, 1973-75, and 198082, the Chicago index fell off sharply faster than the national average. Yet from 1983 to 1993, the Chicago index remained consistently above the na tional average, even in 1990 and 1991. The auto industry accounts for a sub stantial portion of the ebb and flow in the Midwest economy, because of its sizable share of regional output and the cyclically sensitive nature of de mand. Increased production and distribution in the industry made a material contribution to welfare in the region last year, and auto output entered 1994 on a high note. Nation ally, light-vehicle sales reached nearly 14 million units in 1993, up from 12.8 million units in 1992, and many fore casts call for similar gains in 1994. Temporary supply interruptions slowed assemblies in the third quarter Sources: Board of Governors of the Federal Reserve System and Federal Reserve Bank of Chicago. of 1993, but production surged as the year came to a close, and for the year, Midwest output grew somewhat faster than the national average. Auto sales and output should contin ue to benefit from factors that pro moted dem and improvement in 1993, including an aging auto fleet, im proved affordability, higher relative used car prices, and greater consumer confidence. Indeed, in March the Big Three announced that significant hiring initiatives would be required in order to keep pace with demand. The relative position of Midwest output should be prom oted by a continuing shift in market share for domestically produced cars, as well as the indepen dent and ongoing integration of transplant assembly operations with supply networks in the region. All in all, the new year is currently shaping up very well for the auto industry, and with it, a substantial slice of Midwest economic activity. The heavy-duty truck market is anoth er im portant industry to consider when m onitoring Midwest manufac turing activity, because of the location of its largest producers, the link to freight hauling, and the concentra tion of the supplier network in the Midwest. In 1993, the industry experi enced what one supplier described as a “production and dem and explo sion.” North American assemblies recovery. Nonethe less, starts in the Mid west rose considerably during 1993, and the longer-term trend toward faster starts in the Midwest than in the nation as a whole seemed to remain intact (see figure 6). Looking ahead Consensus expecta tions for national economic growth in 1994 have been on the rise in recent months, with continued rela tive strength forecast for sectors where Midwest productive capacity is ‘Unless otherwise specified, Midwest concentrated and increasingly com refers to Illinois, Indiana, Iowa, Wiscon petitive. Midwest economic prospects sin, and Michigan. seem the brightest in over a decade. 2See “Midwest update,” Midwest Economic How long can the good times last? It Report, third quarter 1993; “The Great should be noted that lower oil prices, Flood of 1993,” Midwest Economic Report, fourth quarter 1993; and “Assessing the the declining exchange rate of the dollar, and declining long-term inter Midwest flood,” Chicago Fed Letter, No. 76, December 1993, all by Federal Re est rates enhanced the relative per formance of the Midwest economy in serve Bank of Chicago. recent years. A substantial share of ^Unemployment rates are derived from the region’s industrial output con data prior to a 1994 change in house sumes oil and its derivatives, and the hold survey methodology. relative price of regional output is more importantly determ ined by 4Besides the states listed in note 1, the Midwest census region also includes transportation costs (and oil prices) Ohio, Minnesota, Missouri, Kansas, Ne than the national average. The de clining dollar helped boost exports in braska, South Dakota, and North Dakota. recent years, and export output pro vides a higher share of income in the region than in the nation as a whole. Karl A. Scheld, Senior Vice President and Director of Research; David R. Allardice, Vice Declining long-term interest rates President and Assistant Director of Research; helped boost dem and for durable Janice Weiss, Editor. goods in recent years and, in turn, Chicago Fed Letter is published monthly by the lifted the relative position of the Mid Research Department of the Federal Reserve west economy. Predicting the future Bank of Chicago. The views expressed are path of these three factors is a tall the authors’ and are not necessarily those of order, and in any case, they lie be the Federal Reserve Bank of Chicago or the Federal Reserve System. Articles may be yond the immediate control of most reprinted if the source is credited and the Midwesterners. Research Department is provided with copies At the same time, improved productiv of the reprints. ity in the region certainly accounts for Chicago Fed Letter is available without charge from the Public Information Center, Federal much of the brightness in the overall Reserve Bank of Chicago, P.O. Box 834, outlook. The Midwest’s m anufactur Chicago, Illinois, 60690, (312) 322-5111. ing base suffered greatly during the recessions of the early 1980s. Many of ISSN 0895-0164 the surviving firms responded by un Sources: National Association of Purchasing Management, Purchasing Management Association of Chicago, and Bishop and Associates. rose 35%, and retail sales climbed 37%. Current build plans call for significant growth in assemblies in the first half of 1994. Further gains are unlikely to match those of 1993, how ever, if only because producers are closing in on capacity limits. The spillover benefits of an increas ingly competitive Midwest manufac turing sector can be seen in the recov ery of the Midwest housing market. Housing starts rose somewhat faster in the nation as a whole than in the Midwest census region4 during 1993, partly because of new strengthening in other regions that were relatively weak in the early stages of the housing Source: U.S. Department of Commerce, Bureau of the Census. dertaking a variety of productivity initiatives, including more efficient production and inventory manage ment, more closely focused capital spending, organizational restructur ing, and the development of more efficient transportation and distribu tion systems. If private and public policymakers continue to work to identify and improve upon those efforts that prom oted the relative position of the Midwest economy in recent years, they can maximize the long-run potential of the regional economy and enhance its perfor mance in good times and bad. —William Bergman and William Strauss Tracking Midwest manufacturing activity Purchasing Managers’ Surveys (production index) 78 Manufacturing output index ( 1987 = 100) Jan. Month ago Year ago MMI 129.1 127.5 117.4 IP 115.4 115.2 109.9 Midwest 66 U.S. Motor vehicle production (millions, saar) Jan. Month ago Year ago Cars 7.0 6.8 6.3 Light trucks 5.4 5.8 4.8 Purchasing Managers’ Surveys: production index 54 42 Feb. Month ago Year ago MW 72.9 65.3 67.6 U.S. 58.5 61.5 62.4 30 1991 1992 Midwest m anufacturing activity expanded at a robust pace in recent months, with the auto industry playing a key role. After rising significantly in the fourth quarter, the composite production index for purchasing m anagers’ surveys in Chicago, Detroit, and Milwaukee changed little in January, despite the unusually severe weather. The index suggested that output growth then rose substantially in February, led by responses in the Detroit survey. The Midwest composite index has now been above the national average for 16 consecutive months. Domestic light-vehicle production galloped ahead in early 1994, and total assemblies ran at their highest level since the late 1970s. 1993 1994 Sources: The Midwest Manufacturing Index (MMI) is a composite index of 15 industries, based on monthly hours worked and kilowatt hours. IP represents the FRBB industrial pro duction index for the U.S. manufacturing sector. Autos and light trucks are measured in annualized physical units, using seasonal adjust ments developed by the Federal Reserve Board. 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