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February 24,1 984
U.S. Recovery
Last year marked the first full year of
econom ic recovery from the deepest
recession in the period after the Second
World War. Although growth in the first
quarter was subpar, robust activity followed
through the end of the year. The total value
of goods and services produced in the U.s.,
adjusted for inflation, grew 6.2 percent, or
fractionally less than the 6.8 percent first
year average of past business cycle upturns.
However, improvement in both employment and inflation was exceptional last year.
Civilian employment increased 3.5 percent
inflation, increased by 5.2 percent last
year, or marginally less than the 5.8 percent
average for the first year of previous recoveries. A welcome surprise was the strong
pickup in housing and business equipment
purchases. By the fourth quarter, residential
construction spending was 41 percent
above a year earlier, compared with an
average first year advance of only 25 percent, and business spending on equipment
had increased 20 percent, or more than
double the average first year increase of
9.5 percent
increase for the first year of a recovery. This
increase meant 3.5 million new jobs, or 1
million more than if the improvement had
been average. These job gains were reflected in a substantial decline in the
unemployment rate from 10.8 percent of the
civilian laborforce in December 1982 to 8.2
percent a year later.
In contrast, both net exports of goods and
services and longer-term business spending
on structures were weaker in 1983 than is
typical for the first year of a recovery.
Spending on business structures, adjusted
for inflation, usually increases by the final
quarter of the first year of recovery. But, by
the end of 1 983, these expenditures were
still 2.5 percent below a year earlier.
The extraordinary increase in jobs was
accompanied by a further decline in inflation. The average level of prices of all goods
and services produced in the U.s., measured
by the G N P implicit deflator, increased 4.1
percent over the four quarters of 1983 compared with 4,4 percent in 1982. This improvement was the more remarkable when
compared with 1 980 and 1981 when inflation averaged 9,4 percent In short, inflation
has been cut by more than half over the past
three years. Consumer prices showed even
more improvement than the G N P deflator.
During 1 983, they rose about3 percent, or
less than a third their average rate of increase
in 1 980 and 1981.
By far, the weakest performance in 1983
was in the foreign trade sector. Imports
usually rise faster than u.s. exports of goods
and services during the first year of recovery
because domestic incomes rise faster than
incomes abroad. As a result, the difference,
or net exports, decreases on average about
50 percent over the first year. Our foreign
position, however, deteriorated dramatically last year, with net exports of goods and
services falling 73 percent Actually, U S
exports increased by $7 billion (in 1972
dollars) in 1983, but U.S. purchases of
foreign goods and services increased by
$23.5 billion. Together, these produced the
dramatic decline in our net export position.
cornpared"with
the average 2.5 percent
Strengthsand weaknesses
Deficit-induceddistortions
A good deal of the economic strength last
year was attributable to consumer purchases, particularly of cars and household
items. After starting slowly in the first
quarter, household spending, adjusted for
The dominance of consumer spending in
this recovery, along with the strong growth
in housing and business equipment spending, contrasts with the marked weakness in
net exports and, to a lesser extent, in busi-
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In 1983, we observedsome signs of these
fiscal effects. Consumer spending was
driven in good part by the tax cuts provided
in the Economic Recovery Tax Act of 1981.
The final 1O-percent cut in personal tax rates
became effective in mid-1 983, and was instrumental in the increase in household
spending last year. Similarly, the Tax Act
provided business with accelerated depreciation allowances. Once economic conditions began to improve early in 1983,
business began an unusual amount of
spending on short-lived equipment, taking
advantage of this program.
ness spending on structures. This distorted
sectoral growth can in part be traced to the
federal government'sbudget policies, characterized by large deficits. In fiscal 1983,
the budget deficit was $1 95 billion, up substantiallyfrom $111 billion in 1982 and
more than triple the $58 billion deficit in
1981. A sizeable portion of these deficits is
related to the weak state of the economy
over the past few years, when we have experienced virtually two back-to-back recessions. During a business downturn, federal
tax receipts are weaker than usual while
federal outlays increase for cyclically
rel.ted items, such as high unemployment
benefits. These changes in receipts and
expenditures mean large budget deficits,
which generally set new records in recessions. But even removing the cyclical components, the remaining "structural" deficits,
caused by a basic mismatch of tax and
spending policies, were historically higher
over the past few years and increased from
1.3 percent of GN P in 1981 to 3.1 percent
in 1983.
The unusual weakness in 1983 in net
exports of goods and servicesalso can be
traced to the large deficits. High interest
rates here compared to those abroad attract
large flows of funds into the U.s. The heavy
foreign demand for dollars to be used for
investment in our financial markets causes
the dollar to rise in value on foreign
exchange markets. This higher dollar value
means that imports of goods and servicesare
encouraged while the price of our exports is
driven up in foreign markets, discouraging
U.S. exports. The result is a deterioration
in our net foreign position, which reached
record proportions in 1983. Thus, in part,
the burden of large deficits is being borne by
those industries that depend on exports or
that compete with imports.
The economic effect of these high and rising
structural deficits varies both over time and
with the type of budget pol icies that have led
to the deficit. Initially, when an economy is
producing at less than full employment, an
increase in the structural deficit may increase aggregate spending on goods and
services. The increased demand for output
and the accompanying demand for transactions, or monetary, balances tends to
place upward pressures on interest rates.
A reduction in taxes, with no other changes
in the fiscal program or in the money supply,
adds to households' disposable income. At
first, households may increase their spending more than the deficit's adverseeffects
on interest rates reduce spending. But, as
U.S. production increases and the economy
operates closer to full employment levels
of output, competing demands for available
resources will intensify upward pressureson
interest rates. Higher interest rates, in turn,
lead to the crowding out of some private
expenditures until the larger share of GN P is
absorbed by the federal deficit.
The outlook
The strength in consumer and business
spending begun last year is likely to
continue in 1984. According to most forecasters, real G NP is expected to increase
between 4.0 and 5.0 percent, or slightly
above the 3.8 percent averagefor the
second year of recovery. This growth will
support further improvement in labor
markets. The unemployment rate will likely
decline from 8.2 percent in December 1983
(and 8.0 percent in January) to about 7.5
percent in the fourth quarter of 1984.
However, some economic slack is likely to
remain this year. Most analysts believe that
2
First Year Real Increases .
Percenl
Housln9
40
·20
·40
o
Average Recovery'
_
This Aecovary
·60
·70
'Tha average Includes racoverles trom 5 cyclical troughs In
1954.2,1958.2,1961.1,1970.4
and 1975.1. Tho trough In this
recovery Is 1962.4.
inflationary pressures do not build until the
jobless rate averages around 6.5 percent to
7.0 percent. Consequently, it is likely that
inflation this year will remain within the
4.0 percent to 5.0 percent range if there are
no surprising changes in energy prices. This
inflation range is wide enough to include
half of a percentage increase due to hikes
in food prices expected to result from last
year's severe drought.
eral budget deficits and the monetary
authorities' reactions to them. Under existing tax laws and spending programs, budget
deficits from here on out, by either the
current or structural deficit measure, will be
large and will represent an increasing share
of the national GNP.
Hence, it is clear that the private sector will
get a smaller share of income in the 1970s
than in prior decades. The displacement of
private spending by public deficits has been
termed "crowding out," and was clearly
observable in 1983 in our net export position. Other interest-sensitive spending, including housing and business expenditures
on new plant and equipment, will eventually be noticeably and adversely affected
by these large deficits, if they continue.
Some market observers fear that the monetary authorities, who have suctessfu I ly
pursued a non-inflationary policy over the
past three years, may increase monetary
growth in an effort to ease financial market
pressures. This would be tantamount to
abandoning the fight against inflation. In
addition, markets appear dubious about the
Administration's and Congress' political will
to reduce the budget deficits.
According to most forecasts of interest rates,
both short- and longer-term rates will
remain close, within a half of a percentage
point, to their 1983 averages-8.6 percent
for the 3-month Treasury Bill rate and 12
percent for the Corporate AAA bond rate.
This stability in rates, atfairly high levels this
year, contrasts with the substantial reduction in 1983 when both short- and longerterm rates declined between 1.5 and 2.5
percentage points from their average levels
in 1982; it is a major reason forthe slower
real growth expected this year.
The high cost of borrowing is expected to
slow substantially the advance in housing,
but continued improvement in the job
market should allow almost average growth
in consumer spending for the second year of
recovery, and business spending growth on
plant and equipment around the 9.0 percent
suggestedby recent business plan surveys.
However, major weakness is expected to
continue in net exports of goods and services largely because of continued high
federal budget deficits.
The economic outlook now is one of sustained growth with stable inflation through
the end of 1984. Any sign that the monetary
authorities have actually deserted their noninflationary policies, or that pledges to
reduce deficits have been rhetorical, will
adversely affect this outlook.
Uncertainties
Uncertainties with regard to this outlook
center upon the impact of prospective fed-
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BANKING DATA-TWELFTH FEDERAL
RESERVE
DISTRICT
(Dollaramountsin millions)
SelectedAssetsandliabilities
Large Commercial Banks
Loans,leas.esand Investments
I2
Loansand leases1 5
Commercial and Industrial
Realestate
Loans to Individuals
Leases
U.s. Treasury and Agency Securities2
Other Securities2
Total Deposits
DemandDeposits
Demand Deposits Adjusted 3
4
Other TransactionBalances
Total Non-Transaction Balances
Money Market Deposit
Accounts-Total
Time Deposits in Amounts of
$100,000 or more
Other liabilities for Borrowed MoneyS
Weekly Averages
of Daily Figures
Reserve Position, All Reporting Banks
ExcessResE,'!rves
(+ ljDeficiency (-)
Borrowings
Net free reserves(+ )/Net borrowed( -)
• epeAdN• oyep]
l?UOZpV.
Amount
Outstanding
2/8/84
175,109
154,755
45.648
58,942
26,690
5,025
12,234
8,120
183,741
42,162
29,507 .
12,184
129,395
Change
from
2/1/84
181
- 224
259
80
35
6
26
17
-1,567
-1,843
457
125
151
Dollar
2,873
4,204
56
1,050
2,272
294
615
NA
NA
3,377
NA
NA
NA
Percent
1.7
2.8
0.0
1.8
9.3
5.5
5.2
NA
NA
8.7
NA
NA
NA
228
NA
NA
7,828
4,382
- 17.0
- 18.9
-
40,009
38,092
18,778
Weekended
2/8/84
NA
NA
NA
Change from
year ago
-
71
821
Weekended
2/1 /84
NA
NA
NA
Comparable
year-ago period
220
4
216
1 Includes loss reserves,·unearnedincome, excludes interbank loans
2 Excludes trading account securities
3 Excludes U.S. government and depository institution deposits and cash items
4 ATS, N OW, Super N OW and savings accounts with telephone transfers
5 Includes borrowing via FRB,TI&l notes, Fed Funds, RPsand other sources
6 Includes items not shown separately
.
Editorial comments may beaddressedto the editor (Gregory Tong)or to the author . ... Freecopies of
Federal Reservepublications can beobtained from the Public Information Section, Federal Reserve
Bank of San Frandsco, P.O. 8t?x 7702, San francisco 94120. Phone (415)
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