The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.
o . C c U a ECONOMIC REVIEW •. Federal Reserve Bank of Atlanta January/February 1979 Federal Reserve Bank of Atlanta Federal Reserve Station Atlanta, Georgia 30303 Address Correction Requested The Southeast in 1978: Expansion for a Fourth Year Inflation and Home Buying Bulk Rate U.S. Postage PAID Atlanta, Ga. Permit 292 ( FEATURES: The Southeast in 1 9 7 8 : Expansion for a Fourth Y e a r . . . . 3 Good but uneven growth characterized the southeastern e c o n o m y last year. Robust consumer demand for new homes and durable goods, stimulated by the onset of chronic inflation, provided much of the momentum. Both households and businesses borrowed avidly, boosting the earnings and straining the liquidity of lending institutions. Higher prices and expanded output of farm products brought welcome relief to the ailing agricultural sector. But the minimum wage hike put a damper on job gains, and by year-end, most sectors were signaling slower growth in the months ahead. Inflation and Home Buying Director of Research: Harry Brandt Editing Assistance: A d o l p h a Jordan Production a n d Graphics: Martha S. M o s s and Eddie W . Lee, jr. 14 Long-term appreciation of house values has made home buying a truly profitable investment and one that is particularly attractive in periods of rapid inflation. Rising incomes and gradual changes in financing arrangements have kept homeownership within the means of more households but not without greater leveraging of their financial positions. Economic Review, Vol LXIV, N o . 1. Free subscription and add i t i o n a l copies available u p o n request t o the Research D e p a r t m e n t , Federal Reserve Bank of Atlanta, Atlanta, Georgia 30303. Material h e r e i n may be r e p r i n t e d o r abstracted, p r o v i d e d this Review, t h e Bank, and the author are credited. Please p r o v i d e this Bank's Research D e p a r t m e n t w i t h a copy of any p u b l i c a t i o n in w h i c h such material is reprinted. ) v NEW PUBLICATIONS HISTORICAL SOUTHEASTERN STATISTICS, 1978, 32 pp. Statistical time series for tracing long-run economic changes in the Southeast and United States, 1929-77. MONTHLY SOUTHEASTERN ECONOMIC INDICATORS, 1978,20 pp. Contains data on major business statistics for the Sixth Federal Reserve District and each of the six states included in the District for the years 1 9 6 8 - 7 7 and 1974-77, respectively. Copies of these publications are available f r o m the Research D e p a r t m e n t , Federal Reserve Bank of Atlanta, Atlanta, Georgia 30303. Single copy free; additional copies 75 cents each. Please include a c o m p l e t e address w i t h ZIP C o d e to ensure delivery. 2 JANUARY/FEBRUARY 1979, E C O N O M I C REVIEW THE SOUTHEAST IN 1978: EXPANSION FOR A FOURTH YEAR This article was prepared by Charles /. Haulk based o n material contributed by other Federal Reserve Bank of Atlanta economists Charlie Carter, John Godfrey, Frank King, and Gene Sullivan. 1978 OVERVIEW The 1978 southeastern e c o n o m y c o u l d be assessed as o n e of g o o d but uneven r o w t h . A f t e r s u f f e r i n g a p o o r January ue to weather and the coal workers' strike, the e c o n o m y b o u n c e d back briskly for several m o n t h s and t h e n e n t e r e d i n t o a p e r i o d of sluggish g r o w t h in late s u m m e r . A l t h o u g h some strong activity reappeared in O c t o b e r , recent evidence points t o a c o n t i n u a t i o n of modest g r o w t h for late 1978. The u n e m p l o y m e n t rate, w h i c h had fallen steadily t h r o u g h 1977, seems to have stuck at just under 7 percent after reaching as l o w as 6 percent in June. Retail sales, w h i c h for most of the first half of 1978 grew at a blistering pace, seem t o have c o o l e d off d u r i n g the latter half of 1978, a l t h o u g h year-overyear gains of 15 to 20 percent were reported f o r many areas in the Southeast. Inflation c o n t i n u e d t o worsen t h r o u g h o u t 1978 and has b e c o m e a major source of c o n c e r n . C o n s t r u c t i o n was t h e leading g r o w t h sector, w i t h residential contracts and e m p l o y m e n t up substantially f r o m 1977. M a n u f a c t u r i n g p r o d u c t i o n , especially d u r able goods, ran w e l l ahead of t h e yearearlier rate. The c o m b i n e d g r o w t h of e m p l o y m e n t , higher wages, and longer w o r k w e e k pushed factory payroll i n c o m e 13 percent above t h e 1977 figure. As w i t h retail sales, p r o d u c t i o n and inc o m e g r o w t h rates w e r e very strong in the first half and slowed to a less e b u l l i e n t pace in the second half. FEDERAL RESERVE B A N K O F A T L A N T A Farmers. U n l i k e t h e 1977 e x p e r i e n c e w h e n farm cash receipts w e r e f a l l i n g t h r o u g h m u c h of t h e year, f a r m receipts w e r e up sharply in t h e first f e w m o n t h s of 1978. Farmers w e r e the beneficiaries of rapidly rising prices t h r o u g h midyear. Since July, District farmers nave seen prices stabilize, but c r o p p r o d u c t i o n has been so m u c h greater than a year ago that receipts have c o n t i n u e d to show strong g r o w t h and c o u l d exceed the 1977 level by $2 b i l l i o n . W e a t h e r was c o n d u c i v e to g o o d crops in most areas of the Southeast, a l t h o u g h Georgia and parts of Alabama suffered some severe d r o u g h t c o n d i t i o n s . But, by and large, a b u n d a n t c r o p yields w e r e r e p o r t e d t h r o u g h o u t the region. Record harvests nationally began t o restrain prices of grains and soybeans by harvesttime. Cattle producers and, to a lesser degree, h o g and p o u l t r y growers benefitea f r o m higher prices. Citrus p r o d u c t i o n was depressed by a severe freeze in late 1977, but prices s t o o d at r e c o r d levels for most of the year and p r o d u c e r incomes w e r e unusually g o o d . All in all, 1978 was a m u c h better year for agriculture than was 1977. Banks. The b a n k i n g industry was in high gear for most of 1978. Total bank credit in t h e Southeast was up nearly 14 percent. Deposit g r o w t h was at a m u c h m o r e m o d e r a t e 8-percent rate, and, as a result, l i q u i d i t y pressures began t o d e v e l o p . 3 Consumer credit c o n t i n u e d to be a major source of loan g r o w t h , as auto sales posted a solid year. H o m e mortgage l e n d i n g was very brisk in response t o t n e surge in d e m a n d for h o m e o w n e r s h i p . Interest rates rose rapidly but business b o r r o w i n g grew w i t h little letup. A l t h o u g h d e m a n d deposits grew at a 10-percent rate, t i m e deposits and particularly passbook savings dia not advance as they nad for the previous three years. Savings and loan associations experienced d e t e r i o r a t i n g savings inflows t h r o u g h May, b u t w i t h the i n t r o d u c t i o n of t h e m o n e y market certificates of deposit, savings inflows i m p r o v e d markedly in June and r e m a i n e d strong for several months. Employment. Employment growth, which had surged d u r i n g f o u r t h - q u a r t e r 1977, c o n t i n u e d to move ahead strongly in first-quarter 1978. Since late spring, e m p l o y m e n t g r o w t h has been sluggish, if not flat. Labor f o r c e g r o w t h in 1978 trailed t h e 30,000 n e w entrants per m o n t h pace of 1977. Even t h o u g h t h e numbers u n e m p l o y e d increased, t h e u n e m p l o y ment rate held fairly steady at u n d e r 7 percent for most of the year because of the labor f o r c e g r o w t h that d i d occur. Overall, e m p l o y m e n t was up 3 percent f r o m the previous year. Florida led t h e region in j o b g r o w t h , b o t h in actual n u m b e r s ana in percentage terms. In every state, c o n s t r u c t i o n was the leading sector for e m p l o y m e n t g r o w t h . Job g r o w t h was also strong in wholesale and retail trade, finance, insurance and real estate, services, and durable goods manufacturing. Weak growth o c c u r r e d in t r a n s p o r t a t i o n , g o v e r n m e n t , and n o n d u r a b l e m a n u f a c t u r i n g . Textile e m p l o y m e n t was actually d o w n f r o m 1977 levels. Other. The tourist industry e n j o y e d o n e of the best years in history, if not t h e best. Florida and N e w Orleans w e r e i n u n dated w i t h visitors. Hotel occupancy tax collections w e r e u p 22 percent in New Orleans. Nashville hotels had g o o d occupancy rates, but visitors to O p r y l a n d w e r e b e l o w anticipated numbers. Interest in t h e Mississippi Gulf Coast as a resort area c o n t i n u e d to increase d u r i n g 1978. Reports f r o m most of t h e major g r o w t h c e n t e r s — M i a m i , N e w Orleans, Nashville, Atlanta, B i r m i n g h a m , and Jacksonville, 4 as well as smaller areas, such as Tallahassee, Knoxville, Huntsville, and Alexandria, Louisiana—indicate that 1978 was a virtual b o o m year despite fears of inflation and high ana rising interest rates. Very f e w areas seem to nave had any serious e c o n o m i c d i f f i c u l t y . H o w e v e r , at the close of the year, an air of pessimism had c r e p t i n t o many of t h e statements made by businessmen. Continuing high inflation, along with rising interest rates and a severely p u m m e l e d dollar for most of t h e year, began to raise questions a b o u t t n e true u n d e r l y i n g strength of t h e e c o n o m y . W h i l e businessm e n f r o m most areas believed t h e Christmas season w o u l d be g o o d if not a r e c o r d , t h e n u m b e r of pre-Christmas sales being used to lure buyers was a w o r r i s o m e d e v e l o p m e n t because of r e d u c e d p r o f i t margins and the possible negative effect o n consumers' w i l l ingness to spend after Christmas. INFLATION A N D THE CONSUMERS' RESPONSE In 1978, inflation became t h e nation's number one economic concern. With prices soaring and still higher prices anticipated, " i n f l a t i o n p s y c h o l o g y " e n c o u r a g e d consumers t o buy cars and houses b e f o r e f u r t h e r price increases. Inflation has affected the vast majority of p e o p l e and t h e way they live, causing m o r e wives t o enter t h e w o r k force, y o u n g couples and singles to buy houses rather than rent apartments, and older p e o p l e to delay r e t i r e m e n t . At t h e b e g i n n i n g of t h e year, t h e A d m i n i s t r a t i o n forecasted a 6- t o 6V2percent inflation rate. The r e c o r d of 1978 t u r n e d o u t to be q u i t e d i f f e r e n t . T h r o u g h N o v e m b e r , c o n s u m e r prices had been rising at near a 9.0-percent rate, m u c h higher than 1977's 6.5 percent and 1976's 5.8 percent. A major c o n t r i b u t o r t o t h e price increases has been f o o d . Food prices surged at an 11.3-percent annual rate last year, c o m p a r e d t o 7.7 percent in 1977 and 4.0 percent in 1976. Within the food group, the combined category of meat, p o u l t r y , fish, and eggs showed the most dramatic increase. In 1978, prices of these items have g r o w n at an 18.1-percent annual rate, m o r e than d o u b l e the 6.8-percent increase in 1977. J A N U A R Y / F E B R U A R Y 1979, E C O N O M I C REVIEW O n the other hand, n o n f o o d c o m m o d i t y prices rose at a 6.8-percent annual rate in 1978, w h i l e services increased 9.7 percent, largely due to housing's d o m i n a t i o n . After raging at 15 percent in the first quarter and 19 percent in the second, f o o d price inflation m o d e r a t e d in the t h i r d quarter to a 3-percent annual rate. D u r i n g the first half of 1978, f o o d prices w e r e pushed up by beef shortages. Beef p r o d u c t i o n in 1978 was d o w n f r o m the 1977 level as the l i q u i d a t i o n phase of the cattle cycle c o n t i n u e d t o reduce herd sizes. Four years of heavy financial losses to cattle producers and area droughts c o m b i n e d to p r o d u c e massive reductions in the cattle herd. The most drastic herd l i q u i d a t i o n o c c u r r e d in 1977, a l t h o u g h a f u r t h e r d r o p in cattle numbers evidently o c c u r r e d in 1978. The result has been less p l e n t i f u l supplies at markets. A l t h o u g h the pork industry has had the e c o n o m i c incentive t o expand o u t p u t , the expected expansion d i d not occur in 1978. W h i l e total supplies of meat w e r e smaller than anticipated, consumer d e m a n d was g r o w i n g , pushing prices u p sharply for all livestock products. Food prices c o u l d flare u p again. The o u t l o o k for 1979 is g o o d for feed grains, but meat prices c o u l d accelerate w h e n cattlemen begin t o w i t h h o l d animals to r e b u i l d herds. Even if r e b u i l d i n g starts in 1979, beef p r o d u c t i o n may c o n t i n u e to decline for several years. The USDA forecast calls for a 1 - to 1 1 / 2 - b i l l i o n p o u n d d r o p in beef p r o d u c t i o n in 1979. Partially offsetting this is an expected 600t o 1,100-million p o u n d increase in the p r o d u c t i o n of p o u l t r y . The supply of pork and poultry provides t h e key to f o o d prices in 1979. Unless there is rapid expansion, meat w i l l cost more. W i t h i n the Sixth Federal Reserve District, consumer prices are measured b i m o n t h l y in t w o SMSAs—Atlanta and M i a m i . Both of these cities closely f o l l o w e d the national pattern of overall price increases led by f o o d prices, particularly meat. O n e difference, t h o u g h , was that prices of services d i d n ' t rise as sharply in Atlanta and M i a m i as they d i d nationally. As a result, overall consumer prices of all items rose slightly less in these t w o cities. FEDERAL RESERVE B A N K O F A T L A N T A As was t r u e in the nation, southeastern consumers were responding to inflation by stepping up their purchases of durable goods, particularly automobiles. The c o n t i n u e d strong g r o w t h of consumer debt in 1978 is fair testimony of the decreasing willingness of consumers t o h o l d l i q u i d assets in a p e r i o d of rampant inflation. H o m e buyers largely i g n o r e d increases in interest rates a n a s e e m e d to be only c o n c e r n e d w i t h m e e t i n g their m o n t h l y payments, expecting that inflation w i l l protect their investment. M o r e liberal repayment terms for a u t o m o b i l e loans have enabled many buyers to stay in the market. Forty-eight m o n t h car loans are n o w c o m m o n p l a c e . In September, a u t o m o b i l e credit outstanding at c o m mercial banks was 26 percent ahead of the year before. Car loans outstanding have increased a p h e n o m e n a l 63 percent in 24 months. Overall, instalment credit had g r o w n 20 percent over 1977 levels. C O N S T R U C T I O N ACTIVITY ENJOYS STRONG G R O W T H The pace of construction activity in the Southeast c o n t i n u e d to b u i l d on the g r o w t h of 1977. C o n s t r u c t i o n was the leading g r o w t h sector, w i t h e m p l o y m e n t up nearly 10 percent and tne value of residential construction contracts r u n n i n g at least 20 percent ahead of the 1977 pace. Nonresidential contracts were d o w n f r o m the 1977 level, but 1977 was unusual in that several m u l t i b i l l i o n dollar p o w e r plants were a n n o u n c e d . The 1978 figures for the more typical plant and commercial a n n o u n c e m e n t s have been quite strong. Building permits, w h i c h were at or near r e c o r d levels d u r i n g early 1978, had b e g u n to taper off after the summer months but were still at the strong year-earlier level. Florida e x h i b i t e d the strongest gains, w i t h permits r u n n i n g nearly 25 percent ahead of 1977. Permits in Alabama and Tennessee were lagging somewhat b e h i n d the year-ago pace. Strong rental markets and high occupancy rates c o n t r i b u t e d to a r e b o u n d in multifamily starts. Substantial purchases of luxury c o n d o m i n i u m s by South Americans were a significant factor in the b o o m like sales of real estate in Dade and Broward Counties in Florida. 5 The Nashville and Knoxville areas of Tennessee e x p e r i e n c e d a b o o m i n g real estate market for most of t h e year. Jackson, Mississippi, o n t h e o t h e r hand, e x p e r i e n c e d some r e d u c t i o n in activity f r o m the 1977 pace. Sluggishness seemed to develop in Jacksonville's and Huntsville's home building as the year progressed. The Tri-Cities area of Tennessee had housing d e m a n d g r o w in response t o t h e inflows of p e o p l e d u e to the industrial expansion in tnat area. The price of land for housing d e v e l o p m e n t s rose sharply in N e w Orleans despite rising interest rates. The Mississippi Gulf Coast r e p o r t e d an extremely busy year in h o m e c o n s t r u c t i o n . Nonresidential c o n s t r u c t i o n m o v e d ahead in 1978, partially d u e to t h e large contract year of 1977. H o w e v e r , 1978 was a g o o d year in its o w n right, and new plant a n n o u n c e m e n t s made in 1978 will help keep c o n s t r u c t i o n m o v i n g in 1979. Contracts for nonbuildine construction w e r e well b e l o w the unusually strong 1977 levels, but contracts for c o m m e r c i a l and industrial buildings w e r e substantially ahead of 1977. This pattern was repeatea t h r o u g h o u t the U n i t e d States and not c o n f i n e d to t h e Southeast. Some of the highlights of plant announcements i n c l u d e : M i l l e r Brewing C o m p a n y , a $247-million facility in Albany, Georgia; Allis-Chalmers, a $150-million plant in Palmetto, Florida; Procter & Gamble, a $200-million p u l p o p e r a t i o n in M a c o n , Georgia; G. F. Business Furniture, a $300-million plant in Gallatin, Tennessee; a $400-million m u n i t i o n s facility at Picayune, Mississippi; and in Louisiana, a $150-million Georgia-Pacific project at Plaquemine and U n i o n Carbide, a $181m i l l i o n d e v e l o p m e n t at Taft. T h r o u g h the first three quarters of the year, a n n o u n c e m e n t s of facilities of m o r e than $10 m i l l i o n have been at a b o u t t h e 1977 pace. Housing Costs. There has been a lot of c o n c e r n recently a b o u t escalating h o m e prices. M u c h of the c o n c e r n over housing prices has focused o n new o n e - f a m i l y houses. The average sales price, for example, for new o n e - f a m i l y houses in the South increased f r o m $49,100 in September of 1977 t o $56,400 in September of 1978, a rise of 15 percent. O n e basic reason is the 6 COMPONENT PROPORTIONS OF THE MEDIAN PRICE OF NEW ONE-FAMILY HOMES* Thous. $ Financing Overhead and Profit Structure Costs L a n d Acquisition a n d Site Preparation 1969 1974 1977 ' S o u r c e s : National A s s o c i a t i o n of H o m e Builders a n d U.S. D e p a r t m e n t of C o m m e r c e . higher rate of h o u s e h o l d g r o w t h w h i c h spurs housing demand. 1 H o w e v e r , greater d e m a n d is not t h e only t r e n d causing h o m e prices t o rise. In the case of new homes, cost factors enter t h e picture. A c c o r d i n g to data p r o v i d e d by t h e National Association of H o m e Builders, land's p o r t i o n of the total cost of a single-family h o m e grew f r o m 21 percent in 1969 to 25 percent in 1977 (see chart above). The increase reflects b o t h higher costs of land acquisition and m o r e regulations g u i d i n g land d e v e l o p m e n t projects. Financing costs have been g r o w i n g as a percent of t h e total h o m e price, but the cost of the structure, i n c l u d i n g labor and material costs as a percentage of total cost, has declined. Higher p r o d u c t i v i t y t h r o u g h m e c h a n i z a t i o n of b u i l d i n g t e c h n i q u e s , the standardization of construction t h r o u g h ' See Inflation and H o m e B u y i n g " in this issue for a l o n g - t e r m analysis of national housing inflation. JANUARY/FEBRUARY 1979, E C O N O M I C REVIEW greater use of préfabrication m e t h o d s , m o r e efficient b u i l d i n g tools, and general use of industry m e t h o d s in t h e b u i l d i n g trade can be cited as the major reasons causing t h e decrease in t h e percentage of structure costs. Rising interest rates, insurance costs, closing costs, and taxes have pushed f i n a n c i n g costs u p w a r d at a rapid pace. In fact, since j u n e of 1977, f i n a n c i n g costs have g r o w n 15 percent, m o r e than t w i c e t h e rate of g r o w t h f r o m January of 1976 t o June of 1977. The degree that each cost c o m p o n e n t c o n t r i b u t e s to the overall cost of a house varies f r o m place t o place. For example, the land costs in a city generally are m u c h hieher than in rural areas, simply as a result of t h e greater c o n c e n t r a t i o n of p o p u l a t i o n and d e m a n d . Also, wage rates for builders have been lower in t h e South than in t h e o t h e r regions of the c o u n t r y ; h o w e v e r , t h e gap is closing fast. Generally, areas that have rapid g r o w t h , z o n i n g restrictions, and many p u b l i c services also t e n d t o have a t r e n d of rising housing costs. M o s t of t h e trends c o n c e r n i n g the costs and prices of new homes are also apparent for existing homes, a l t h o u g h existing homes are generally lower in price than new homes. The cost factors that influence the price of existing homes are basically t h e same as for new homes. For instance, the costs of m a i n t a i n i n g an existing h o m e i n c l u d e t h e same materials and labor expenses that are r e q u i r e d for a new h o m e but o n a m u c h smaller scale. CREDIT FLOWS T O THE H O U S I N G INDUSTRY The g r o w t h in residential c o n s t r u c t i o n activity, a l l u d e d t o earlier in this article, and in single-family housing prices indicates that credit flows for c o n s t r u c t i o n and purchase of housing held u p very well. M o r t g a g e l e n d i n g by savings and loan associations exceeded l e n d i n g in the previous year in each m o n t h f r o m January t h r o u g h July. The gap n a r r o w e d c o n t i n u o u s l y as funds became m o r e costly t o the associations and mortgage rates paid by ultimate b o r r o w e r s rose by about three quarters of a percentage p o i n t . In August and September, net mortgage l e n d i n g was b e l o w year-ago levels FEDERAL RESERVE B A N K O F A T L A N T A for t h e first t i m e since early 1975. Florida and Alabama associations a c c o u n t e d for most of the decline in year-overyear p e r f o r m a n c e , w h i l e l e n d i n g was up in Tennessee and Mississippi. In light of t h e rise in interest rates and the s o m e w h a t slower g r o w t h in t h e e c o n o m y , this small decline in t h e g r o w t h of mortgage l e n d i n g was an u n e x p e c t e d l y strong p e r f o r m a n c e . Strong d e m a n d for single-family housing, b o t h as a c o n s u m p t i o n g o o d and an inflation hedge, accounts for some of the strength. In t h e region as in the rest of the n a t i o n , t h e n u m b e r of families in the age groups that normally occupy singlefamily housing was e x p a n d i n g rapidly. M i g r a t i o n gave an extra push t o southeastern h o m e d e m a n d . In response t o t h e strong d e m a n d for housing and t h e strong mortgage d e m a n d d e r i v e d f r o m it, savings and loan associations in t h e r e g i o n actively sought funds t o use for mortgages. They w e r e l i m i t e d d u r i n g the early part of t h e year by regulatory ceilings o n depositors. C o n s e q u e n t l y , deposit inflows w e r e b e l o w year-earlier levels in each m o n t h f r o m January t h r o u g h May. So the associations t u r n e a m o r e of their a t t e n t i o n t o borrowings f r o m the Federal H o m e Loan Banks, sales of existing mortgages, and r e d u c t i o n of l i q u i d assets for lendable funds. Capacity t o raise f u n d s f r o m these sources and deposit inflows d e c l i n e d as s u m m e r a p p r o a c h e d . In response t o this, the bank regulatory agencies and t h e Federal H o m e Loan Bank Board a l l o w e d t h e institutions that they regulate t o offer b o t h eight-year certificates of deposit w i t h attractive interest rates and s i x - m o n t h certificates w i t h rates tied to the s i x - m o n t h Treasury bill rate. O f the t w o new instruments, the latter, called money market certificates, was the m o r e attractive t o t h e public. Their issuance h e l p e d t h e savings and loan associations to keep some o l d deposits and to attract some n e w ones. T h o u g h hard n u m bers are not yet available, these m o n e y market certificates probably already make u p 5 percent or m o r e of savings and loan liabilities in the region. Their effect may be seen in the fact that, even in t h e face of rapidly rising interest rates, 7 CONSTRUCTION CONTRACT AWARDS C o n s t r u c t i o n contracts g r o w strongly in 1978. continued to District States — 600 — 400 — 1977 Bank loan g r o w t h o u t s t r i p p e d deposit g a i n s , r e s u l t i n g in s o m e l i q u i d i t y pressure for banKs. 200 /V SV 1978 G R O W T H IN M E M B E R BANK L O A N S PERCENT INCREASE yu 0c - ' us District States District States • 1977 — ic 3 - 10 - 5 1978 (OCT 76 - OCT. 77) (OCT 77 - OCT 78) G R O W T H IN M E M B E R BANK D E P O S I T S PERCENT INCREASE District States — 10 1978 1977 (OCT 76 - OCT The issuance of m o n e y market certificates of deposit by savings and loan associations starting in June reversed the d o w n w a r d t r e n d of savings inflows. 77) (OCT. 77 - OCT. 78) SAVINGS A N D LOAN I N F L O W S MIL. S •800 • 400 /V 1977 8 JANUARY/FEBRUARY 1978 1979, E C O N O M I C REVIEW M A N U F A C T U R I N G PAYROLLS M a n u f a c t u r i n g e m p l o y m e n t gains and higher wage rates resulted in g o o d g r o w t h of incomes of factory w o r k e r s . District States — 160 — 140 /V Ay 1972=100 RETAIL S A L E S — 200 District States — 175 Retail sales, spurred by anticipatory buying, higher incomes, and heavy use of c r e d i t , rose s u b s t a n t i a l l y o v e r 1977 levels. — 150 A' MIL MIL. NONFARM EMPLOYMENT — 11.5 — E m p l o y m e n t gains w e r e m o r e m o d e r a t e in 1978. 11.0 MIL. Labor force g r o w t h was q u i t e slow for m u c h of 1978. LABOR F O R C E 102 — 100 U N E M P L O Y M E N T RATE 8.0 District States 1977 F E D E R A L RESERVE B A N K O F A T L A N T A 9 1978 The u n e m p l o y m e n t rate f l u c t u a t e d bet w e e n 6.2 and 6.8 percent t h r o u g h o u t t h e year after falling sharply in 1977. GROWTH OF NONFARM EMPLOYMENT BY INDUSTRY SEPTEMBER 1977—SEPTEMBER 1978 (thousands, seasonally adjusted) Industry September 1977 September 1978 Amount Increase Percent Increase Total Nonagriculture Construction Manufacturing Durables Nondurables Transportation and Public 9.449.6 550.6 2,057.5 902.4 1,155.1 9,766.9 586.4 2,131.4 958.1 1.173.3 317.3 35.8 73.9 55.7 18.2 3.4 6.5 3.6 6.2 1.6 Utilities Wholesale and Retail Trade Finance, Insurance, and Real Estate Government Federal State and Local 571.4 2,173.8 590.5 2,236.0 19.1 62.2 3.3 2.9 500.2 1.850.7 344.7 1,506.0 511.1 1.920.4 348.4 1,572.0 10.9 69.7 3.7 66.0 2.2 3.8 1.1 4.4 V savings and loan inflows e x c e e d e d yearago levels in three of t h e first five months since their i n t r o d u c t i o n . A l t h o u g h residential c o n s t r u c t i o n and mortgage l e n d i n g r e m a i n e d stronger than o n e m i g h t nave expected in 1978, some t r o u b l e for these activities remains o n the h o r i z o n . Usury ceilings have b e g u n to constrain c o n v e n t i o n a l mortgage loans in each of the southeastern states. Further rapid increases in m o n e y market rates since t h e s u m m e r have already b e g u n to have their effects o n l o n g - t e r m rates ( i n c l u d i n g mortgage rates) and o n savings and loan associations' ability t o c o m p e t e for funds. These efforts certainly w i l l raise t h e costs of mortgage funds and may l i m i t their availability to some extent. Nevertheless, basic housing and mortgage d e m a n d factors remain strong and very likely w i l l u n t i l i n c o m e g r o w t h slows or inflation abates. JOB G R O W T H SLOWER IN 1978 District e m p l o y m e n t g r o w t h over the first nine m o n t h s of 1978 slowed considerably f r o m t h e c o m p a r a b l e 1977 period. M o n t h l y gains in 1978 averaged o n l y 14.3 thousand, w e l l b e l o w t h e 22.4-thousand m o n t h l y increase d u r i n g 1977. The table shows e m p l o y m e n t gains by industry. 10 The District's labor force also grew at a slower rate than in 1977. A f t e r increasing an average of over 30,000 per m o n t h in 1977, the District's labor f o r c e g r o w t h slowed to only 22,000 per m o n t h last year. Slower labor f o r c e g r o w t h e n a b l e d the u n e m p l o y m e n t rate to fall despite slower j o b g r o w t h . By September 1978, t h e District u n e m p l o y m e n t rate had been cut by a full percentage p o i n t f r o m September 1977. O n tne o t h e r hand, the m o n t h l y i m p r o v e m e n t t o t h e District joblessness was not as impressive as yearover-year comparisons. A f t e r r e d u c i n g the level of u n e m p l o y m e n t by a p p r o x i mately 2,000 per m o n t h in 1977, the southeastern e c o n o m i c g r o w t h was not sufficient t o reduce t h e n u m b e r of people jobless last year. Instead, t h e n u m b e r of persons u n e m p l o y e d rose an average of 2,000 per m o n t h in 1978. M a n y have speculated as to the reasons w h y e m p l o y m e n t g r o w t h has been sluggish. Tne advanced age of t h e c u r r e n t e c o n o m i c expansion and fear of a s l o w d o w n in 1979 have p r o b a b l y h a m p e r e d District e m p l o y m e n t g r o w t h . H o w e v e r , we are of t n e o p i n i o n that the boost of t h e Federal m i n i m u m wage f r o m $2.30 to $2.65 per h o u r was a primary J A N U A R Y / F E B R U A R Y 1979, E C O N O M I C REVIEW cause of slower j o b g r o w t h last year. In a previous issue of the Economic Review, 2 w e argued that t h e increase in t h e m i n i m u m wage c o u l d constrain e m p l o y m e n t g r o w t h in t h e District by nearly 160,000 by midyear. O t h e r studies reached similar conclusions for t h e nation. A c c o r d i n g t o o u r study, s o u t h eastern e m p l o y m e n t g r o w t h was m o r e adversely affected by t h e increase in the m i n i m u m wage, since a large f r a c t i o n of o u r w o r k f o r c e earned m i n i m u m wages or less. M o r e o v e r , t h e " b u m p i n g - u p " effect of t h e m i n i m u m wage h i k e intensified the p r o b l e m . O u r study f o u n d that the January increase in t n e m i n i m u m wage s h o u l d not have a significant effect o n t h e overall u n e m p l o y m e n t rate but w o u l d adversely affect u n e m p l o y m e n t of youths. Therefore, in view of our earlier findings and those of others, the slower g r o w t h of southeastern e m p l o y ment was not surprising. In a d d i t i o n , o t h e r effects such as r e d u c e d o v e r t i m e and shorter w o r k w e e k s have resulted f r o m the m i n i m u m wage hike. Secondly, studies designed to examine the effect of higher m i n i m u m wages o n labor f o r c e p a r t i c i p a t i o n c o n c l u d e that higher m i n i m u m wages r e d u c e labor force participation. This, it is argued, is d u e to t h e r e d u c t i o n in e m p l o y m e n t d e m a n d caused by higher wages. Thus, t h e r e d u c t i o n in labor f o r c e participation d u e to lack of j o b availability is a plausible explanation for slower labor f o r c e g r o w t h last year. Reduced labor f o r c e g r o w t h is not l i m i t e d to r e d u c t i o n in labor force participation but also to slow g r o w t h of the w o r k i n g - a g e p o p u l a t i o n . The Bureau of the Census had p r o j e c t e d earlier that a slower p o p u l a t i o n g r o w t h w o u l d begin in 1978. A t h i r d possible explanation for slower g r o w t h in e m p l o y m e n t is technical rather than e c o n o m i c . B e g i n n i n g in January 1978, the Bureau of Labor Statistics instituted a new p r o c e d u r e to estimate e m p l o y m e n t and u n e m p l o y m e n t in states and local areas. Tne new p r o c e d u r e 2 Charlie Carter. " T h e New M i n i m u m Wage: A Threat to Southeastern J o b s . " Economic Review, M a r c h / A p r i l 1978. F E D E R A L RESERVE B A N K O F ATLANTA was designed to reduce year-end revisions. U n d e r the o l d p r o c e d u r e , c u r r e n t estimates of e m p l o y m e n t w e r e revised d o w n w a r d at year-end to reflect t h e so-called D e c e m b e r e m p l o y m e n t b e n c h marks. Evidence f r o m an earlier study shows that use of t h e new p r o c e d u r e will r e q u i r e fewer d o w n w a r d revisions in t h e e m p l o y m e n t estimates at year-end. What's in store for 1979? U n f o r t u n a t e l y , t h e new year w i l l b r i n g m u c h of t h e same. The m i n i m u m wage has just been raised f r o m $2.65 t o $2.90 per h o u r , again constraining e m p l o y m e n t g r o w t h and labor force participation. H o w e v e r , since the 1979 increase in the m i n i m u m wage is less than last year's increase, t h e adverse e m p l o y m e n t effects are not expected to be as severe. The Bureau of the Census projects even slower increases in t h e w o r k i n g - a g e p o p u l a t i o n this year, w h i c h w i l l mean slower labor f o r c e g r o w t h . Secondly, since state labor d e p a r t m e n t s will be in their second year of the new p r o c e d u r e for estimating e m p l o y m e n t , t h e year-over-year c o m p a r i sons w i l l not be distorted. Third, this year's increase in Social Security taxes w i l l take a larger p r o p o r t i o n of w o r k e r s ' w e e k l y earnings and raise business costs. STRONG CREDIT G R O W T H BEGINS T O PRESS DISTRICT BANK LIQUIDITY D u r i n g t h e f o u r t h year of e c o n o m i c advance, District m e m b e r banks contin-ued to experience substantial requests for credit. By c o n t i n u i n g to lend, h o w e v e r , banks faced increasing l i q u i d i t y pressures, as deposit gains failed to keep pace w i t h credit extensions. As a result, l i q u i d i t y pressures, as measured by the l o a n - t o - d e p o s i t ratio, advanced f r o m 0.69 t o 0.73 t h r o u g h the year. Despite the increasing l i q u i d i t y pressures, District banks were able to a c c o m m o d a t e their existing customers and generally r e p o r t e d strong i n c o m e gains. District bank credit rose an estimated $5.5 b i l l i o n d u r i n g 1978, nearly 14 percent. By far, t h e largest part of the increase was c o m p r i s e d of new loans, but holdings of m u n i c i p a l securities also advanced at a solid pace. Deposits, h o w e v e r , gained o n l y $3.2 b i l l i o n , aoout an 8 - p e r c e n t increase. To acquire these funds, banks had to attract 11 m o r e expensive and interest-sensitive m o n e y market funds. In a d d i t i o n , t h e c o u n t r y banks sharply r e d u c e d their sales of Federal funds. The large banks also issued sizable amounts of l a r g e - d e n o m i n a t i o n certificates of deposit and o t h e r large deposits t o acquire f u n d s for l e n d i n g . W n i l e these funds are technically deposits for liquidity purposes, they resemble more closely other forms of b o r r o w e d funds such as Federal funds and securities repurchase agreements because of their short m a t u r i t y and interest-sensitivity. Therefore, greater reliance o n these funds may t e n d t o limit t h e l i q u i d i t y of some banks in ways that d o not readily show up in the more traditional measures of bank l i q u i d i t y . Strong Credit Expansion. Last year marked t h e second year of solia l e n d i n g gains for t h e larger banks and over t h r e e years for the m o d e r a t e and smaller size banks. There were some shifts in the sources of t h e loan strength. Fueled by a strong d e m a n d for auto loans, consumer credit rose nearly 20 percent. Real estate l e n d i n g also c o n t i n u e d to rise at a brisk pace. H o m e buyers c o n t i n u e d t o seek mortgage loans to purchase homes, and business firms used bank credit to finance c o n s t r u c t i o n of new projects and to finance investments in commercial property. Business b o r r o w i n g in general was strong but advanced at an irregular pace. Interest rates o n business loans rose sharply d u r i n g the year; the p r i m e rate m o v e d f r o m 73A percent to 113/4 percent, w i t h most of t h e advance c o n c e n t r a t e d in the f o u r t h quarter. D u r i n g the year, banks became m o r e selective in a p p r o v i n g loan c o m mitments t o b o t h new and existing customers and have t r i e d to maintain high credit standards. The lessons of t i g h t credit in t h e mid-70s w e r e not f o r g o t t e n by bankers as they again felt t h e pressures of monetary restraint and t h e p r o b l e m s that c o u l d occur if loan c o m m i t m e n t s rise excessively. At the larger banks, business loans w e r e u p at o n l y an 8 - p e r c e n t annual rate, a b o u t three-quarters of 1977's pace. O n l y in loans t o wholesale and retail trade firms, service firms, and textile and apparel goods manufacturers d i d gains a p p r o a c h those of t h e previous year. In 12 contrast, c o n s t r u c t i o n firms, businesses involved in m i n i n g and o t h e r extractive lines, and d u r a b l e goods manufacturers sharply c u r t a i l e d t h e g r o w t h of their bank b o r r o w i n g in t h e Southeast. Bank loans to sales and personal finance companies posted small gains d u r i n g the year ( f o l l o w i n g t w o years of reductions), but bank l e n d i n g to o t h e r financial institutions fell by nearly 25 percent. The c o n t i n u e d strength in l e n d i n g caused banks to redirect t h e acquisitions for their security p o r t f o l i o s . Bank h o l d ings of U.S. G o v e r n m e n t securities d e c l i n e d modestly as banks f o u n d l e n d i n g to be a m o r e p r o f i t a b l e use for their funds. Banks made p o r t f o l i o adjustments by t r i m m i n g their holdings of Treasury bills and some m e d i u m maturity c o u p o n issues and by a c q u i r i n g a d d i t i o n a l higher yielding, longer m a t u r i t y g o v e r n m e n t s . They o b t a i n e d better yields but r e d u c e d their holdings of the m o r e l i q u i d assets. District banks sharply increased t h e a m o u n t of new state and local g o v e r n m e n t securities. Not since t h e early Seventies have District banks' earnings been strong e n o u g h to justify a d d i n g nearly $1 b i l l i o n in such investments in a single year. Deposit Gains Slow. Deposit inflows remained sizable but at a slightly slower pace than in 1977. Slower deposit g r o w t h at this stage of a business cycle is not unusual. D e m a n d deposits, n o w e v e r , cont i n u e d q u i t e strong, advancing at nearly a 10-percent rate. Gains in t i m e deposits w e r e varied, reflecting the m o r e attractive yields available o n alternative investments. H o u s e h o l d passbook savings accounts, w h i c h for t h r e e years had p r o v i d e d District banks w i t h tne bulk of their t i m e deposit inflows, advanced only slightly. By late February, small o u t flows f r o m these 5-percent accounts had b e g u n at the larger banks. In contrast, s m a l l - d e n o m i n a t i o n t i m e deposits (under $100,000) rose over $1.25 b i l l i o n . The major factor a c c o u n t i n g for the strong s h o w i n g in these accounts was t h e i n t r o d u c t i o n of the s i x - m o n t h m o n e y market t i m e certificates in June. These t i m e deposits, issued in $10,000 m i n i m u m s w i t h rates tied to the s i x - m o n t h Treasury bill a u c t i o n rate, t o t a l e d over $1 b i l l i o n by year-end. J A N U A R Y / F E B R U A R Y 1979, E C O N O M I C REVIEW Decreases in these deposits came partly at the expense of bank savings and o t h e r short maturity t i m e deposits. The gain in m o n e y market certificates represented to some extent new funds for l e n d i n g . Consumer t i m e deposits m a t u r i n g in f o u r years and over rose over $400 m i l l i o n . O U T L O O K FOR 1979 This t i m e last year, forecasts for t h e national e c o n o m y w e r e calling for 4 to 5 percent real g r o w t h and a 5to 6-percent increase in prices. Both p r o v e d t o be t o o optimistic. Inflation nas been m u c h worse than was forecast, and real g r o w t h was under 4 percent. For the Southeast, d e v e l o p m e n t s have been less of a surprise, except possibly for f o o d prices. E m p l o y m e n t was up, n o n residential b u i l d i n g i m p r o v e d , and consumer s p e n d i n g was strong for the first half of the year. As w e l o o k ahead to 1979, there are some dark clouds o n the h o r i z o n . Interest rates have risen to near r e c o r d levels, inflation has g o t t e n worse, and households have taken o n debt at record rates. These d e v e l o p m e n t s are a n y t h i n g but auspicious. M a n y iorecasters are n o w calling for a recession in 1979. FEDERAL RESERVE B A N K O F A T L A N T A In the Southeast, w e still have a heavierthan-national dependence o n construction, and that c o u l d be a p r o b l e m if interest rates remain at present levels or go higher. A slowing in c o n s t r u c t i o n activity c o u l d severely h a m p e r j o b g r o w t h in 1979. If housing, capital spending, and auto sales slow nationally, as many expect they w i l l , d u r a b l e goods e m p l o y m e n t , w h i c h e n j o y e d a g o o d year in 1978, w i l l almost certainly be weak if not d o w n in 1979. Service e m p l o y m e n t g r o w t h , w h i c h seems t o be less sensitive to e c o n o m i c fluctuations, will probably c o n t i n u e u p w a r d . Fortunately, n o n d u r a b l e goods e m p l o y ment is less sensitive to business cycle fluctuations and m u c h of southeastern m a n u f a c t u r i n g is in the n o n d u r a b l e category. Livestock producers are expected to benefit f r o m higher animal prices. O t h e r farmers may not get t h e kind of increase in receipts they had in 1978, but w i t h favorable weatner, s h o u l d have a g o o d year. Retailers of d u r a b l e goods such as autos are probably g o i n g t o have a slower year in 1979 than they have had in the past t w o years. In sum, 1979 may be the slowest year w e have had since 1 9 7 5 . 1 13 INFLATION AND HOME BUYING only 36 percent. In the p e r i o d f r o m 1966 t o 1977, prices of new single-family homes sold m o v e d up 128 percent and c o n s u m e r prices, 87 percent. So, w h i l e house prices are still increasing m o r e rapidly than consumer prices, tne margin of d i f f e r e n c e has n a r r o w e d . TABLE 1 MEDIAN SALES PRICES by Charles J. Ha ulk Rapid a p p r e c i a t i o n of house values continues t o make h o m e o w n e r s h i p a g o o d way to c o p e w i t h inflation. Rising incomes ana available credit have allowed American families to take advantage of this investment o p p o r t u n i t y , w h i l e longer mortgage maturities have h e l p e d keep their repayment obligations w i t h i n their means. Some of those w h o already o w n homes have used their inflated equities to finance purchases of a variety of goods and services as well as new or existing housing. A l t h o u g h inflation tends t o redistribute real i n c o m e or w e a l t h f r o m savers to b o r r o w e r s and investors in real p r o p e r t y , the upsurge in mortgage b o r r o w i n g has left h o u s e n o l d balance sheets i l l i q u i d and d e b t heavy. A G O O D INVESTMENT Investment in single-family residences has been heralded as o n e of t h e best protections against inflation's assault o n one's standard of living and w e a l t h . A home's effectiveness as an inflation hedge, of course, depends o n the extent to w h i c h the increase in its value exceeds t h e overall inflation rate. That h o m e prices have risen rapidly can be verified readily. In 1949, the median sales price of a new single-family h o m e was $8,800. Bv 1977, t h e price had reached $48,800, a 450-percent increase (see Table 1). Over the same p e r i o d , consumer prices rose 154 percent. M u c h of the house price g r o w t h relative to consumer prices o c c u r r e d f r o m 1949 to 1966, w h e n m e d i a n house prices advanced 143 percent w h i l e c o n s u m e r prices gained 14 Year New Homes Existing Homes* 1949 1954 1955 1956 1959 1963 1965 1966 1968 1970 1974 1976 1977 $ 8,800 12,300 13,700 14,300 15,200 18,000 20,000 21,400 24,700 23,400 35,900 44,200 48,800 $20,100 23,000 32,000 38,100 42,900 "No data available for years earlier t h a n 1968 Sources: New H o m e s - Bureau of the Census: Existing H o m e s National Association of Realtors. V J Rapid price increases have not been l i m i t e d t o new homes. The m e d i a n sales price of existing homes rose f r o m less than $20,000 in 1967 to $43,000 in 1977. This e n o r m o u s gain in h o m e prices, c o m b i n e d w i t h a r e c o r d rate of h o m e c o n s t r u c t i o n , has pushed t h e estimated value of the nation's single-family housing stock f r o m $890 b i l l i o n in 1970 to $1,905 b i l l i o n in 1977.1 As an investment alternative, the singlefamily h o m e has, o n average, p e r f o r m e d extremely well c o m p a r e d to o t h e r readily available investment o p p o r t u n i t i e s . The National Association of Realtors has estimated returns o n investment for various alternatives, 2 w e i g h i n g their average earnings or price a p p r e c i a t i o n 1 2 Existing Home Sales, 1977, National Association of Realtors, Washington, D C., p. 22 Ibid. JANUARY/FEBRUARY 1979, E C O N O M I C REVIEW against inflation. These estimates, s h o w n b e l o w , indicate that h o m e o w n e r s h i p is probably the best investment a family could nave made in t h e past decade. VALUE OF ONE DOLLAR INVESTED IN 1967 Investment Purchasing Power of the Dollar Single-Family H o m e Corporate Bond Savings Account C o m m o n Stock Cash 1967 1972 1977 $1.00 1.00 1.00 1.00 1.00 $1.14 1.13 1.04 1.08 .80 $1.23 1.18 .93 .80 .55 S o u r c e : N a t i o n a l A s s o c i a t i o n of Realtors H o w e v e r , because t h e quality of newly c o n s t r u c t e d homes changes over time, prices alone d o not necessarily reflect the true a p p r e c i a t i o n in t h e value of homes. Houses built in 1977, by and large, are bigger and i n c l u d e m o r e amenities than houses built in 1967.3 A n o t h e r measure of investment perf o r m a n c e is t h e i m p l i c i t r e t u r n o n equity. Henry Kaufman's estimates of r e t u r n t o house e q u i t y , listed b e l o w , take account of interest payments and tax breaks as w e l l as price appreciation. These rates of r e t u r n c o n t r i b u t e f u r t h e r evidence that housing is an excellent investment. e x p l a n a t i o n for this is that t h e ratio of n e w - h o m e prices to median family income has t e n d e d t o stay in a fairly n a r r o w range (see Table 2). In 1970, a heavy v o l u m e of c o n s t r u c t i o n of lower priced, subsidized houses caused the ratio t o d i p t o 2.37; otherwise, t h e ratio's range seems t o be c e n t e r e d o n 2.90. In t h e most recent years, t h e ratio has m o v e d up f r o m its l o n g - t e r m average. The ratio of existingh o m e prices to family i n c o m e , available f r o m 1968 f o r w a r d , has e x h i b i t e d an u p t r e n d as w e l l . At its recent rate of increase, it c o u l d reach t h e l o n g - t e r m average of t h e n e w - h o m e - t o - i n c o m e ratio in a f e w years. TABLE 2 RATIOS OF MEDIAN SALES PRICE TO MEDIAN FAMILY INCOME Year 1949 2.83 1954 1963 2.94 3.09 2.98 2.80 2.88 1965 2.87 1966 2.88 2.86 2.37 2.78 1955 1956 1959 1968 1970 1974 1976 Year Implicit Return on House Equity New Homes 1977 2.95 3.05 Existing H o m e s * 2.32 2.33 2.48 2.54 2.68 (percent) 1974 1975 1976 1977 1978 ( S e p t e m b e r ) 11.1 21.2 12.3 24.3 21.3 S o u r c e : H e n r y K a u f m a n , a d d r e s s to A m e r i c a n B a n k e r s A s s o c i a t i o n . A n n u a l C o n v e n t i o n . O c t o b e r 25, 1978. F I N A N C I N G THE INVESTMENT O n e w o u l d be t e m p t e d to believe that the fantastic g r o w t h in house prices w o u l d have p r i c e d many p o t e n t i a l h o m e buyers out of t h e housing market. In fact, h o w e v e r , this has not been the case. O n e 3 M y t h a n k s to F r a n k K i n g for c a l l i n g a t t e n t i o n t o this i m p o r t a n t point. FEDERAL RESERVE BANK OF ATLANTA * N o d a t a a v a i l a b l e for y e a r s e a r l i e r t h a n 1968. S o u r c e s : C a l c u l a t e d f r o m d a t a p r e s e n t e d i n T a b l e 1 a n d e s t i m a t e s of m e d i a n f a m i l y i n c o m e f r o m B u r e a u of t h e C e n s u s . Increases in the p r i c e - t o - i n c o m e ratios have been accommodated by a lengthening in t h e maturity of c o n v e n t i o n a l mortgage loans and an increase in t h e l o a n - t o price ratio. A f t e r averaging just u n d e r 74 percent t h r o u g h o u t the Sixties for n e w - h o m e loans, t h e l o a n - t o - p r i c e ratio fell t o 71.7 p e r c e n t in 1970. It quickly ret u r n e d to 76 percent and has been at least that high d u r i n g most of t h e Seventies. Years t o maturity o n new mortgage loans reached 27.9 in 1977, an adclition of nearly 3 years since 1970 and about 3.5 years longer than the average of t h e Sixties. C o m p a r a b l e increases in maturity 15 REGIONS SHOW WIDE DIFFERENCES IN NEW-HOME PRICES Médian Prices of New Homes, by Région 1962* Northeast North Central South West All U.S. $21,300 18,500 16,100 18,100 17,900 1967 $25,400 25,100 19,400 24,100 22,700 1972 1977 1978" $31,400 29,300 25,800 27,500 27,600 $51,600 51,500 44,100 53,500 48,800 $68,000 59,900 49,400 65,100 55,600 Percent Changes in Prices for New Homes Northeast North Central South West U.S. 1962-67 1967-72 1972-77 1962-77 19.2 35.7 20.5 33.1 23.6 16.7 33.0 14.1 21.5 64.3 75.8 70.9 94.5 76.8 219.2 223.8 206.8 259.7 210.6 26.8 " F o u r t h quarter data. • ' P r e l i m i n a r y July estimates. S o u r c e : D e p a r t m e n t of C o m m e r c e , B u r e a u of the Census. New-home prices and the rates at which they have appreciated vary considerably among regions of the country, as the tables above illustrate. The Northeast's new homes remain the costliest, on average, but new-home prices have risen most rapidly in the western region. Inflation of new-home values in the South has lagged other regions, except in 1967-72, keeping this region's new-home price a little more than 10 percent below the national average. No allowance was made for quality changes. \ J and the l o a n - t o - p r i c e ratio have o c c u r r e d for existing houses. M o r t g a g e interest rates have also risen; recent postings have been about three percentage points above mid-Sixties rates. Therefore, h o m e buyers are b o r r o w i n g m o r e per dollar of house value purchased and paying a higher rate over a longer t e r m . The ratio of h o m e mortgage d e b t outstanding to disposable personal income, after rising rapidly t h r o u g h the m i d Sixties. leveled off t h r o u g h t h e early Seventies and started t o increase again after 1972. The share of disposable i n c o m e g o i n g t o repay principal and interest nas risen since 1970 as well. 4 The longer maturities have acted t o h o l d d o w n t h e r e p a y m e n t s - t o - i n c o m e ratio, 4 Charles A. Luckett and David Seiders, " H o u s e h o l d B o r r o w i n g in the Recovery," Federal Reserve Bulletin, March 1978, p. 159. 16 but n o w that the average maturity o n new loans is a p p r o a c h i n g 30 years, it is unlikely that m u c h f u r t h e r help in h o l d i n g d o w n repayments can be expected f r o m a d d i t i o n a l l e n g t h e n i n g of maturities. Leveraging. In a d d i t i o n to rising m o r t gage interest rates, longer maturities, and higher l o a n - t o - p r i c e ratios, there has been a n o t h e r significant change in the U.S. housing market. Since the early Seventies, there has been a substantial increase in the rate of e x i s t i n g - h o m e sales relative to n e w - h o m e sales. In 1972, t h e ratio of existing- to n e w - h o m e sales was about three to o n e after reaching as high as f o u r t o o n e for short periods d u r i n g 1969 and 1970. From 1973 u n t i l 1975, the ratio of existing- t o n e w - h o m e sales c l i m b e d steadily t o well over f o u r t o o n e as n e w - h o m e sales p l u m m e t e d . The ratio has r e m a i n e d at or above f o u r t o o n e since, even t h o u g h n e w - h o m e sales have JANUARY/FEBRUARY 1979, E C O N O M I C REVIEW risen sharply f r o m the depressed levels of 1974. In September 1978, t h e ratio reached 5.8 t o 1. The annualized rate of existing-home sales reached 4 million units in the f o u r t h quarter of 1977 (and has r e m a i n e d close to or above that level since). This represents a sharp rise f r o m t h e 2.0- t o 2.5-million rate w h i c h was prevalent f r o m 1971 to 1973 and t h e 1.5m i l l i o n rate of 1968 and 1969 (data for e x i s t i n g - h o m e sales are not available for years prior to 1968). The increasing rate of e x i s t i n g - h o m e sales and rising prices have a l l o w e d h o m e owners t o m o n e t i z e a c c u m u l a t e d equity in large amounts. As a matter of fact, since 1960, h o m e o w n e r s have raised m o r t gage f u n d s in excess of t h e a m o u n t s e x p e n d e d o n new residential c o n s t r u c t i o n . The table b e l o w gives estimates of mortgage m o n e y generated t h r o u g h resale, second mortgages, and refinancing in excess of n e w c o n s t r u c t i o n expenditures by households. 5 As a r o u g h check o n these figures, the Federal Reserve Board's estimates of excess net investment in new residences are s h o w n for 1970-77. The negative signs mean that funds have b e e n EXCESS MORTGAGE BORROWING ($ billions) Year 1950 1955 1960 1965 1970 1971 1972 1973 1974 1975 1976 1977 Mortgage Funds Raised in Excess of New Residential Expenditures - 5.1 - 4.0 0.1 10.8 16.6 17.5 26.1 31.0 24.6 29.8 42.2 60.6 Excess Net Investment in New Residences - 2.5 - 8.3 -15.7 -19.0 -12.3 -17.2 -28.4 -43.2 Sources: M o r t g a g e Funds in Excess of New Residential Expenditures, 1950-1970. estimated by B e r n a r d Gelb; 1971-77, estimated by Charles J. Haulk; and Excess Net Investment in New Residences. Federal Reserve Board. Flow of Funds Accounts. taken o u t of h o m e e q u i t y ; i.e., the v o l u m e of mortgage b o r r o w i n g has e x c e e d e d t h e value of net additions to the housing stock. M o r e o v e r , as David Seiders of t h e Federal Reserve Board staff has p o i n t e d o u t , the resale of homes may easily generate increases in mortgage debt that are larger than the capital gains realized. 6 E C O N O M I C EFFECTS Some economists have argued that some of the capital gains created by escalating house prices have f i n a n c e d c o n s u m e r expenditures for goods and services o t h e r than housing. Seiders has presented evidence which suggests that large amounts of mortgage funds raised against housing equity have been used to bolster consumption expenditures since the last recession. 7 The excess funds raised by m o n e t i z i n g equity, t h o u g h large in absolute a m o u n t , are small w h e n c o m p a r e d t o disposable personal i n c o m e . For example, t h e estimated excess $60 b i l l i o n raised in 1977 was about 4.5 percent of disposable inc o m e . Still, if all these funds w e r e spent o n c o n s u m p t i o n , t h e result w o u l d be a substantial increase, a c c o u n t i n g for a b o u t half of t h e g r o w t h in e x p e n d i t u r e s f r o m 1976 t o 1977. It is very likely that m u c h of the s p e n d i n g f i n a n c e d by excess mortgage f u n d s was for expensive items, such as cars, f u r n i t u r e , e d u c a t i o n , or perhaps f o r e i g n travel. Some b o r r o w i n g against h o u s i n g e q u i t y may have been used t o retire consumer d e b t that carried a higher interest rate or t o purchase o t h e r financial assets in order t o i m p r o v e h o u s e h o l d l i q u i d i t y . H o u s e h o l d l i q u i d i t y has been d e c l i n i n g in recent years, as families have sought to invest in real assets such as c o n s u m e r goods and houses t o protect themselves f r o m inflation. The ratio of financial assets to liabilities has d r o p p e d f r o m 5 to 1 in t h e Fifties to 2.8 t o 1 in 1978. As inflation continues, it generally becomes less and less attractive t o h o l d financial assets. 6 5 Bernard Gelb. Mortgage Debt for Non-Real Estate Purposes, The C o n f e r e n c e Board, New York, 1972. Gelb's estimates are gross of amortization. T h e Federal Reserve estimates are net of amortization. F E D E R A L RESERVE B A N K O F ATLANTA David Seiders, Mortgage Borrowing Against Equity in Existing Homes, Measurement, Generations and Implications for Economic Activity, Staff E c o n o m i c Studies. B o a r d of G o v e r n o r s of the Federal Reserve System. ' Ibid. 17 In an e c o n o m y p r o d u c i n g w e l l b e l o w p o t e n t i a l o u t p u t , b o r r o w i n g against equity in homes for c o n s u m p t i o n purposes w o u l d lead to a temporary increase in consumption relative to i n c o m e , thus raising aggregate d e m a n d and physical o u t p u t . In an e c o n o m y o p e r a t i n g close to capacity, t h e increase in d e m a n d w o u l d be inflationary and generate little or no real o u t p u t increase. Income w o u l d then be redistributed f r o m those w h o save t o those w h o choose t o c o n v e r t w e a l t h in the f o r m of house equity into c u r r e n t c o n s u m p t i o n . As consumer prices rise faster than the value of the l i q u i d assets of savers, b u y i n g p o w e r is transferred t o those w h o c o n s u m e o u t of house equity. In an e n v i r o n m e n t of stable prices, consumers w o u l d f i n d little incentive to bec o m e less l i q u i d , so that t h e r e m a r k a b l e upsurge in excess m o r t g a g e f u n d s w h i c h w e have described w o u l d n o t have occurred. D u r i n g t h e Fifties, w h e n house prices w e r e rising at a m u c h faster rate than overall prices and w h e n real incomes w e r e m a k i n g solid gains, there was o n balance no l i q u i d a t i o n of equity in housing. H o w e v e r , in t h e Sixties and the Seventies, w h e n price increases for goods and services have approached the pace of home price g r o w t h , w e have seen t h e p h e n o m e n o n of large amounts of money raised t h r o u g h equity b o r r o w i n g . 18 H o w l o n g can t h e raising of massive a m o u n t s o f funds t h r o u g h house equity continue? If n o m i n a l family i n c o m e oegins to slow relative t o house-price g r o w t h , t h e n a s l o w i n g of housing transactions w i l l occur as credit w o r t h y b o r r o w e r s b e c o m e scarcer. Further l e n g t h e n i n g of loan terms or increases in l o a n - t o - p r i c e ratios w i l l likely c o m e gradually, if at all, and p r o b a b l y w o n ' t be large e n o u g h to offset the deterrent effect of rising h o m e prices and interest rates. G o v e r n m e n t programs w h i c h subsidize h o m e b u y i n g c o u l d help c o u n t e r t h e effects of relatively slower n o m i n a l i n c o m e g r o w t h , but t n e m o r e robable impact of these programs w i l l e a d d e d pressure o n h o m e prices. If the new era in residential markets is t o last, real interest rates o n m o r t g a g e loans must remain low or negative. But p r o f i t a b l e mortgage l e n d i n g requires a c o n t i n u e d large w e d g e b e t w e e n t h e rates that savers receive and the rates that h o m e buyers pay, w h i c h f u r t h e r redistributes wealth and i n c o m e f r o m savers t o mortgage b o r rowers. Should the highly inflationary e n v i r o n m e n t of recent years c o m e u n d e r control, it is likely that households w o u l d reduce their leveraging activity and resume a more normal pattern of behavior. • J A N U A R Y / F E B R U A R Y 1979, E C O N O M I C REVIEW Federal Reserve Bank of Atlanta OCCASIONAL PAPERS The Federal Reserve Bank of Atlanta f r o m time t o t i m e prepares W o r k i n g Papers and Research Papers. Most Research Papers examine technical aspects of monetary, fiscal, and banking subjects. W o r k i n g Papers present tentative results of similar technical projects. They are of special interest t o the economics profession. The f o l l o w i n g papers are currently available u p o n request f r o m the I n f o r m a t i o n Center, Research Department, Federal Reserve Bank of Atlanta, Atlanta, Georgia 30303. Please include a c o m p l e t e mailing address w i t h ZIP Code to ensure delivery. Interested parties may also nave their names placed on a subscription list for future studies. Working Paper Series: Brian D. Dittenhafer, Estimating Sixth District Consumer Spending. September 1976. William N. Cox, III, Small Banks and Monetary Control: Is Fed Membership Important?, January 1977. B. Frank King, Changes in Seller Concentration in Banking M a r k e t s . March 1977. William D. Toal, Regional Impacts of Monetary and Fiscal Policies in the Postwar Period: Some Initial Tests, June 1977. Stuart G. Hoffman, Component Ratio Estimation of the Money Multiplier, August 1977. Robert E. Keleher, A Framework for Examining the Small, Open Regional Economy: An Application of the Macroeconomics of Open Systems, December 1977. Robert E. Keleher, State Usury Laws: A Survey and Application to the Tennessee Experience, January 1978. John M. Godfrey, Southern Banks and the Confederate Monetary Expansion, April 1978. David D. Whitehead, An Empirical Test of the Linked Oligopoly Theory: An Analysis of Florida Holding Companies, June 1978. Robert E. Keleher, Of Money and Prices: Some Historical Perspectives, August 1978. Research Paper Series: Robert E. Keleher, Fundamental Determinants of Credit Volume: A Survey and Regional Application, Stuart G. Hoffman, The Impact of Holding Company Affiliation on Bank Performance: A Case Study of T w o Florida Multibank Holding Companies. December 1977. July 1976. David D. Whitehead, Holding Company Power and Market Performance: A New Index of Market Concentration, December 1977. Joseph E. Rossman, Jr., and B. Frank King, FEDERAL RESERVE B A N K O F A T L A N T A 19 Convenience and Needs: Holding Company Claims and Actions. May 1978.
@FedFRASER