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IDAHO ALASKA ASHINGTON The Longest Expansion? . UTAH Three Years Back-to-Back? Federal Agency Securities The Market . , . CON CALIFORNIA ARIZONA NEVADA The Longest Expansion? BHI— imiMMHi—>—M mm-M Ln.wmwmmmi—qg— saMaMMw^wM wium—m— i— — cycle analysts are keeping their C y d k a ! c o m p o n e n t s of G N P fingers crossed; they are increasingly con stimulate 1963 expansion fident th a t the c u rre n t expansion will last Billions of Dollars longer th a n any since the m assive K orean W ar expansion, b u t they still c an n o t p o in t w ith certainty to the forces th a t will p ro p e l the econom y to higher g round in 1964. Some p o r tents have developed in this, th e thirty-first m onth of the expansion, to suggest th a t b u si ness investm ent m ay provide th e driving force th a t was earlier supplied by consum er and governm ent spending. T h ere is still m uch u n certainty, how ever, regarding the underlying strength o f the factors th a t will determ ine the shape of the 1964 econom y— prim arily such factors as business investm ent decisions, the Source: Department of Commerce co n su m er’s appetite fo r new cars an d new a p artm en t space, and governm ent tax and ex q u arters, m eanw hile reced ed som ew hat to an p en d itu re decisions. an n u al rate of $4.3 billion. N otw ithstanding a $6 .0 billion rise in p e r The ch an gin g mix sonal incom e an d a $5.5 billion gain in dis D etailed analysis of the seco n d -q u arter ad p osable (a fte r ta x ) incom e, personal co n vance in gross n ational p ro d u ct m ay suggest sum ption expenditures increased by only $3.0 a possible line o f developm ent. T he $7.8 bil billion du rin g th e second q u arter, to an an lion increase, w hich raised G N P to $5 7 9 .6 n u al rate of $ 3 7 0 billion. T his was th e sm all billion at a seasonally-adjusted a n n u al rate, est q u a rte r-to -q u arter increase since the th ird o ccu rred in response to a considerable shift q u a rte r of 1961. B u t in spite o f the sm all rise in the p a tte rn of expenditures. In co n trast to in total co n su m er spending relative to the the p a tte rn prevailing during th e preceding gain in p erso n al incom e— w hich, incidentally, three q u arters, w hen the gains in G N P were p erm itted p erso n al saving to rise to 7.5 p er due entirely to increases in consum er and cent of disposable incom e fro m a figure of public-sector outlays, the prim ary facto r co n 6.9 p ercen t — consum ers financed a m uch trib u tin g to the m ost recent gain was a $4 b il larger p ro p o rtio n o f th e ir expenditures lion rise in p rivate fixed investm ent. A t an an through the accu m u latio n of deb t. A t $1.4 nual rate of $80.7 billion, to tal investm ent billion (seasonally a d ju ste d ), th e rise in con outlays reversed a succession of th ree q u a r sum er instalm ent d eb t o u tstan d in g was equal terly declines to attain a new record high. to ab o u t o n e-h alf of the sec o n d -q u a rte r in T he rise reflected b oth a $ 1.7 billion gain in crease in consum er spending; this p ro p o rtio n pro d u cers’ durable equipm ent and a gain of was twice as large as th e co rresp o n d in g debtover $2 billion in construction. (T h e latter, spending ratio in 1962. how ever, p a rtly reflected a rebound from the W ith a net increase of $ 8 0 0 m illion, gov m o re-than-seasonal declines w hich occurred ern m en t p urchases o f goods and services co n in each of the tw o preceding q u a rte rs .) In v en stituted m uch less o f an ex p an sio n ary facto r tory accum ulation, w hich h ad been a m od2 8FRASER erately expansive facto r in the tw o preceding th an at any o th e r tim e in th e p a st year. State Digitized1for B u sin ess September 1963 MONTHLY REVIEW an d local expenditures actually show ed a slight decline, for the first tim e in the past fo u r years. N et exports of goods and services, on the o th er hand, increased by slightly over $ 1 billion during the second q uarter, because of a su bstantial recovery in ex p o rt trad e oc curring in the w ake of a m ajor dock strike. H ow much staying power? B usiness cycle analysts are now w atching the various leading indicators w ith particular interest, to see if they can provide any clues concerning the staying pow er of the current expansion. T he optim ists am ong them can take som e cheer from th e 6 percent year-toy ear gain (first-half 1962 - first-half 1963) in building co n tract aw ards. B u t although this indicator presages a continuing high level of construction activity in the m onths ahead, construction spending at its recent July peak exceeded the ra te attained during th e last q u a rte r of 1962 by no m ore th a n 3 percent. O ptim ists can find fu rth er su p p o rt in the July im provem ent in new orders received by m anufacturers of durable goods — b u t the July figure, while 8 percent above m id-1962 levels, was still som ew hat below the level at tained in M arch-M ay of the cu rren t year. P lan t and equipm ent spending appears to be holding fairly close to the levels contem plated in surveys earlier this year. If the en visioned rise in expenditures m aterializes (from a second-quarter rate of $38.0 billion to a fo u rth -q u a rte r ra te of ab o u t $41.1 bil lio n ), the present period w ould provide a striking c o n tra st to the declines w hich oc cu rred in the com parable periods of the two preceding cyclical expansions. T he to tal gain w ould still be sm aller th a n th a t of other post w ar recoveries, b u t this can be understood in the light of the relatively m odest dim ension of the preceding cyclical decline. Inventory-sales ratios recently have re m ained at levels below those which prevailed during the com parable period of the tw o pre ceding p o stw ar recoveries. Since th e third q u arter of 1962, total business inventories hav e exhibited a m axim um q u arter-to -q u arte r change of slightly m o re than $ 1 billion, a stability w hich reflects such factors as busi ness efforts to effect closer control over costs, generally sh o rten ed delivery schedules, and the absence of price pressures sufficient to in duce speculative inventory accum ulation. In view of the relatively low level of stocks, therefore, any substantial increase in final d e m an d should lead to increased inventory spending as well. T he consum er played a sm aller th an usual role in 1 9 6 3 ’s first-half expansion. B ecause of this, b u t also because o f the crucial im p o r tance of th e one secto r o n w hich he has re cently lavished atten tio n — autom obile spend ing— the co n su m er’s intentions will be closely w atched in the m onths ahead. D uring the first seven m onths of this year, his enthusiasm for the autom obile im p arted considerable buoy ancy to an otherw ise restrain ed dem and for d urable goods, and, directly a nd indirectly, the d em an d fo r autom obiles in tu rn accounted for a significant p a rt of the rise in industrial p ro duction and in em ploym ent and incom e. C on sum er reception of the 1964 auto m odels thus prom ises to be a significant facto r in determ in ing the d u ratio n , as well as the strength, of the cu rren t econom ic expansion. W eakness in the W est? T w elfth D istrict observers are particularly interested in the forces m aking fo r fu rth er ex pansion, since the pace of D istrict business activity during th e second q u a rte r generally fell short of the n atio n ’s perform ance. By the end of the q u arter, em ploym ent fell m ore— and unem ploym ent rose m ore— in the D is trict th a n in the nation. In relation to the D is trict’s p ast cyclical perform ance, m eanw hile, em ploym ent show ed substantial gains, bu t so too did the unem ploym ent rate. In the im p o rtan t defense and space sector, the volum e and p ro p o rtio n of D istrict defense and space pro cu rem en t aw ards show ed some 129 F EDERAL RESERVE BANK OF SAN FRANCISCO w eakness, as did em ploym ent in these indus tries. In the construction sector, em ploym ent in alm ost every D istrict state 1 was low er in June than in M arch (seasonally-adjusted b a sis), but otherw ise construction activity was m aintained at a high level. L eading indicators, in fact, p oint to continuing high levels of co n struction activity in m ost D istrict states in the m onths ahead. C onsum er spending, as reflected in retail store sales and auto registrations, exhibited less buoyancy in the D istrict than in the n a tion. A m ong other developm ents, D istrict farm receipts posted a good gain over the year-ago level, in contrast to a decline in farm receipts nationally, and agricultural em ploy m ent increased during the q u a rte r while regis tering a fairly sharp drop in the nation as a whole. E m ploym ent in the crucial m an u fac turing sector m eanw hile declined— p artly b e cause of a lum ber strike but also because of cutbacks in m ost of the m ajo r m anufacturing sectors. How much for defense? T he do llar volum e of prim e contracts aw arded by the D ep artm en t of D efense to D istrict firms in the second q u arter of 1963 appears, on the basis of partial data, to have am ounted to less than half of the $ 2 billion total of the preceding quarter. C onsequently, the D istrict share of D efense D epartm ent aw ards, w hich had recently been over 30 p e r cent of the n ational total, dropped far below that figure and was not offset by any increase in procurem ent contracts let by the N ational A eronautics and Space A dm inistration. T he N A S A budget is only about o n e-th ird as large as the D O D procurem ent budget, bu t its p ast— and projected— grow th trend has been m uch steeper. D istrict firms have shared heavily in N A S A business, receiving about 50 p ercen t of direct procurem ent aw ards of $ 25,000 and over during calend ar 1962. 1Not including Alaska and Hawaii, for which comparable data 130 are not available. H ow ever, prelim inary estim ates indicate that D istrict firms are receiving a m uch sm aller share of new business in this area also. O th er question m arks in the outlook in clude the seco n d -q u arter em ploym ent decline in defense-oriented industries and a reduction in m ajor firm s’ o rd e r backlogs. O n the o th er hand, W estern electronics m anufacturers an ticipate a rising level of activity in com ing m onths and a 1963 sales total of $4 billion — 8 p ercent above the 1962 figure. High building, speedy autos C onstruction activity in the D istrict gen erally rem ained at a high level during the second quarter, despite a slight decline in in dustry em ploym ent. P rivate housing starts in the 13-State W est p osted a 2 0 p ercent yearto-year gain during the first half of 1963, sub stantially exceeding the 7 p ercen t gain in starts nationally. M ore im p o rtan t, various September 1963 MONTHLY REVIEW indicators now point to a continuing high level of construction activity in m ost D istrict states in the m onths ahead. F o r exam ple, co nstruc tion aw ards rose 2 2 p ercen t (on a cum ulative basis) d u ring the first half of the year, fa r surpassing the 6 p ercen t gain nationally. P e r form ance was n o t uniform am ong individual states, how ever. T he cum ulative gain in con struction aw ards ranged from a low of 3 p e r cent o r less in A rizona, W ashington, and Idah o to gains of 17 percent in O regon, about 26 p ercen t in C alifornia and U tah, and 47 p ercent in N evada (F . W. D odge d a ta ). C onsum er spending in the D istrict has risen in recent m onths, but m ore slowly than in the nation as a whole. In the second q u arter, large retail stores selling soft goods posted an in crease of ab o u t 3 percent over the year-ago level, bu t those trading in h a rd goods (p a r ticularly autom otive p ro d u cts) experienced a decline in sales. F o r the entire first half, how ever, new c ar registrations recorded a 7 p er cent year-to-year gain, as com pared w ith an 1 1 percent gain for the nation as a whole ( Autom otive News d a ta ) . W ithin individual D istrict states, the auto registration gains ranged from a low of 5 percent in Tdaho to a high of 13 percent in A rizona. Farm, factory activity M arketing receipts of D istrict farm ers in creased by 2 p ercen t betw een the second q u a r te r of 1962 and the com parable period of 1963. T he D istrict bettered the national p e r form ance, prim arily because of a 5 percent year-to -y ear gain in crop m arketings; n atio n ally, crop receipts declined. T h e bulk of the rise in D istrict crop retu rn s o ccu rred in the w heat-grow ing states of the Pacific N orthw est and C alifornia. In asm u ch as average prices for both crops and livestock w ere below yearago levels, the rise in farm receipts in the D is trict reflected a heavier volum e of m arketings. T he relative buoyancy of agricultural activi ties in the D istrict also was reflected in a Digitized FRASER b e tte rforth an seasonal gain in agricultural em ploym ent, in c o n tra st to a decline nationally. D istrict petro leu m processing facilities o p erated at 82 p ercen t of capacity during th e second q u a rte r of the year, co m p ared w ith an estim ated o p eratin g rate of 8 6 p ercent of capacity in the rest of the country. O il refin eries in both areas w ere op eratin g at a higher level th an a year ago, b u t the gain was re la tively g reater fo r D istrict facilities. To su p p o rt the ex p an d ed level of refining activity, in creased supplies o f crude oil w ere obtained from dom estic sources outside the D istrict and from foreign sources, as well as from w ithin the D istrict. T he upsw ing in steel p ro d u ctio n w hich b e gan in the fo u rth q u a rte r of 1962 continued into the second q u a rte r of this year, as o u t p u t in the D istrict an d the n ation attained levels 34 and 39 percent, respectively, above the o u tp u t levels of a y ear ago. (T h e co m p ari son is inflated, how ever, by the fact th a t an inventory build-up d om inated the recen t p e riod, in co n trast to the severe cutbacks of the year-ago p erio d .) Follow ing the la b o r co n tra c t agreem ent o f Ju n e 20, p ro d u ctio n began to decline as steel consum ers, in an effort to liquidate stocks, canceled and deferred o r ders placed p rio r to the settlem ent. A t th eir m id-A ugust levels, T w elfth D istrict and n a tional steel p ro d u ctio n still exceeded year-ago o u tp u t by approxim ately 19 and 8 percent, re spectively. T h e declines in p ro d u ctio n this y ear have been less sh arp th an those w hich follow ed th e la b o r settlem ent in M arch of 1962, p artly due to the high level of steel consum ption by the autom obile and co n stru c tion industries. A lum ber strike and lockout in the D istrict d om inated m arket developm ents in th a t in d ustry and im p arted fu rth e r strength to an al ready rising price stru ctu re fo r lu m b er and w ood products. T he dispute was settled on A ugust 15 w ith co n tract agreem ents p ro v id ing fo r an increase of 30.5 cents an h o u r in wage and fringe benefits o v er a th ree-y ear term . A s p ro d u ctio n resum ed, lum ber prices FEDERAL RESERVE BANK D is t r ic t e m p l o y m e n t rises slowly, jobless rate rises cyclically Million* of Persons P»icont UNEMPLOYMENT 8.0 Trough RATE 9 Quarters after Trough Source: Federal Reserve Bank of San Francisco lost p a rt of th eir strike-induced gains and fell from a p eak of $82.21 to $77.35 per th o u sand b o a rd feet; this q u otation, how ever, re p resented a 2 . 6 p ercen t gain over the year-ago figure. Jobs an d the jobless T h e slow dow n in the D istrict’s grow th rate has been reflected in the em ploym ent statis tics. C alifornia, A rizo n a and N evada each registered a sm all gain in em ploym ent during the second q u a rte r; the gains w ere n o t suffi cient to offset declines in U tah and the N o rth w est States, how ever, and total em ploym ent in the D istrict 1 declined betw een the end of M arch an d the end of June. A concom itant rise in the la b o r force m eanw hile resulted in an increase, fro m 5 .4 to 5.8 percent, in the D istrict unem ploym ent rate. T his rate was only slightly above the Ju n e figure fo r the nation, b u t th e gap tended to w iden in July, 1Not including Alaska and Hawaii, for which comparable data Digitized 1 3 2 for FRASER are not available. OF SAN FRANCISCO since the D istrict th e n reco rd ed a 6.0 p ercen t rate as opposed to a 5.6 p e rc en t rate fo r the nation. T he rise in unem ploym ent d u ring th e sec ond q u a rte r prim arily stem m ed fro m a decline in em ploym ent in m an u factu rin g , an d , to a lesser extent, in construction. W hile m an u fac turing em ploym ent, w hich acco u n ts fo r ab o u t 20 p ercen t of to tal em ploym ent in th e D istrict, declined in every D istrict state except A ri zona, and by slightly o v er 2 p e rc en t in th e D is trict as a w hole, the d ro p w as p articu larly sh arp in the N orthw est, w here losses ranged from ab o u t 7 p ercen t in Id a h o to 9 p ercen t in O regon and W ashington. In p a rt, these d e clines stem m ed fro m cu tb ack s in defense-re lated industries, b u t fo r th e m o st p a rt they w ere attrib u tab le to th e lu m b er strik e and lockout w hich red u ced em p lo y m en t in th e Pacific C oast lu m b er an d w ood p ro d u cts in dustries by alm ost 3 0 ,0 0 0 (o r so m ew h at over 17 p e rc e n t). B etw een m id -1 9 6 2 an d m id -1 9 6 3 , how ever, th e D istrict la b o r m a rk e t exhibited som ew hat m ore buo y an cy th a n the n atio n al lab o r m ark et; area em ploym ent increased by 2.7 p ercen t, tw ice the rate o f gain n a tio n ally, and the rise in u n em p lo y m en t was less th an th a t in the n atio n as a w hole. C alifornia, w hich accounted fo r alm ost 91 p ercen t of the net increase in D istrict em ploym ent betw een m id -1 9 6 2 and m id -1 9 6 3 , sustained over 60 percen t of the rise in u n em p lo y m en t in the D istrict and m ade no progress in reducing its unem ploym ent ra te (6.1 p e rc en t in J u ly ). U tah, W ashington, an d Id ah o all reco rd ed higher rates of u n em p lo y m en t th a n a year ago, ranging from 5.1 p ercen t in U ta h to 6.0 percen t in W ashington and Id a h o . W hile an absolute decline in m an u fa ctu rin g em ploy m ent accounted fo r the w eak en ed p e rfo rm ance o f som e of these areas, th e p ro b lem d e veloped in m ost D istrict states sim ply b e cause the n u m b er of jo b seekers grew at a faster pace th a n th e la b o r m a rk e t could a b sorb. September 1963 MONTHLY REVIEW T he jobless d ata suggest why businessm en in the Tw elfth D istrict are particularly inter ested in the strength of the forces th a t will determ ine the future size and shape of this cyclical expansion. If danger signals continue to ap p ear in the fields of consum er and gov ernm ent spending, future strength m ust be sought elsewhere. In the D istrict as in the n a tion, therefore, business investm ent decisions may provide the m issing clue. Three Years Back-to-Back? times during the current expan sion, the econom y has developed a th reat ening knock in its m otor, but D etroit’s “inso lent ch ariots” cam e along on each occasion to give the econom y a push and help keep it m oving forw ard. In the process, the autom ak ers effectively dem olished the m yth that a p o o r sales year m ust inevitably follow a good one, since they sold $19.5 billion of autos and p arts in the 1962 m odel y ear and then sold about $ 2 2 billion in the m odel year just end ing. Now, having proved its ability to p u t two strong sales years back-to-back, can the in dustry confound the skeptics and post its third straight record? T he industry claims th at it can and the steel-rubber-glass com plex of supplying industries fervently hopes so, but outside observers are prone to w ithhold judg m ent until the underpinnings of the boom can be exam ined under the pressures of a new model year. S e v e r a l Bumper-to-bumper crops T he answ er is im portant because the fate of the current business expansion will depend — at least partly— on D etroit’s ability to re peat its success with its bum per-to-bum per crops of ’62 and ’63 m odels. G eneral business activity has been able to advance in the face of some p oor auto years— for exam ple, 1956 — bu t changes in auto sales have contributed to every recession and every full-blown busi ness expansion o f the past decade. A utos, on the other hand, have not contrib uted substantially to the secular grow th of A u t o s a le s e x p a n d more evenly than in previous cyclical upturns Billions of Dollar* 10 -2 ---------1------------------- 1--------- 1--------------------1--------- 1--------- 1______ _ - 0 + T 2 4 6 Quarters from G N P Trough i 8 i I 10 Source: Department of Commerce gross national product since the m iddle of the last decade. T he trend of auto sales in the first half of the postw ar period hew ed fairly close to the G N P trend, but passenger-car output since then has failed to approach the 5 p e r cent share of total outp u t recorded in 1955. This fact reinforces the optim ism of the auto m akers, who feel th a t the 7-m illion-plus unitsales records of 1955 and 1963 represent a norm that will be m aintained throughout the m id-1960’s. B ut the same fact fails to im press m any skeptics, who argue that the consum er today does not need to restock as he did in the early postw ar period, and th a t he has a wide choice of alternatives on which he can— and will— spend his discretionary dollars. Do-it-yourself transportation There m ay be disagreem ent about the slope of the grow th trend fo r auto spending, bu t 133 September 1963 MONTHLY REVIEW riod the indu stry h ad p e rm itte d value p er c a r to rise faster th a n consum er incom e; m o re over, it h a d m ade its cars alm ost indistin guishable — in size, pow er, ap p earan ce, and price. B ecause cars lo oked so m uch alike, the co nsu m er h a d difficulty in deciding w hich ones w ere the re a l status sym bols; because they w ere all increasingly expensive, he had difficulty in p u rch asin g the different types of tra n sp o rta tio n n eed ed fo r su b u rb a n living. A ro u n d the en d of the decade, D etroit (reacting to the success of its foreign com p e tito rs) devised a new strategy. T o m eet the c o n su m er’s needs fo r basic tra n sp o rta tio n , the sm all foreign cars an d dom estic com pacts en tered the m ark et in force; only ab o u t 1 0 0 ,0 00 o f these cars w ere sold in 1956, but the m ark et zoom ed to 6 0 0 ,0 0 0 in 1958 and to a b o u t one m illion a y e ar later. To m eet the still lively d em an d fo r status sym bols, m e an w hile, the au to m ak ers offered a new variety of ego-stirring expensive cars. Resurgence of negative thinking B oth 1959 an d 1960 w ere good sales years because o f the in d u stry ’s rejection of the “ m ore car p er c a r” co n cep t an d its acceptance of the necessity to provide a c a r fo r every purse and pu rp o se. B u t the p o o r sales record of th e 1961 m odels b ro u g h t a resurgence of the negative thinking o f the late-F ifties. M a r keting m en generally agreed th a t auto m aking h a d becom e only a rep lacem en t industry; even the m ost bullish tre n d p ro jecto rs could not visualize an o th er 7-m illion sales y ear u n til 1965. Psychologists insisted th a t the public had finally decided to allocate a low er status to do-it-yourself tra n sp o rta tio n th a n to b o a t ing, foreign travel, and higher education. E n gineering m en argued th a t the m o to rin g public w ould pay for lighter cars, sm aller engines, and low er m ain ten an ce costs b u t n o t a cent fo r frills. T h e au to m ak ers listened to th eir experts and resignedly began to look ab ro ad for the grow th m arkets o f the future. B efore they h ad an o p p o rtu n ity to revise th e ir basic strategy, how ever, th e old strategy p aid off handsom ely in the 1962-63 m odel years. B uyers increased th e ir purch ases in every price category, p u t tw o reco rd years b a ck -to -b a ck — in d o llar term s if n o t in u n it sales — an d fo rced m ark et forecasters to re-exam ine th e (h ereto fo re o p tim istic) 7 -m illion u n it figure originally p ro jected fo r th e m iddle of this decade. B ut w h at caused the resounding recovery of the p a st tw o years? W h at caused th e m a r k et to o u td istan ce so rap id ly the m ost o p ti m istic forecasts of th e norm ally ebullient au to m ak ers? In retro sp ect, th e m ark et a n alysts can find n o th in g w rong w ith th eir basic eq u atio n s; th e ir only fau lt was in u n d e re sti m atin g th e su b stan tial im pact w hich these factors were cap ab le o f exerting in the m a r ketplace. The power of money R ising co n su m er incom e, the basic facto r underlying a h ealth y au to m ark et, was of course closely involved in th e 1962-63 boom . T he unexpected dim ensions of the boom m ust also be attrib u ted , how ever, to the strength of a n u m b er o f o th e r m a rk e t factors — in p articu lar, the easy availability of au to credit, the slow grow th o f au to prices in relation to o th e r prices, the large n u m b e r of cars h ead ed fo r th e scrap h eap , and th e increasingly large n u m b er of young drivers h ead ed fo r the auto show room s. T h e average incom e p e r co n su m er sp en d ing unit ($ 6 4 0 0 in 1 9 6 2 ) increased 2 p ercen t (in co n stan t-d o llar te rm s) betw een 1961 and 1962. T his increase, th e larg est of the past decade (w ith th e exception o f 1 9 5 9 ), will ap p aren tly be follow ed by an o th er su b stan tial increase this year. C onsequently, enough cash has been available to su p p o rt the m ark et fo r m edium - and h igh-priced cars, and to expand the nu m b ers of tw o -car an d th ree-car fam ilies. T h e rap id grow th of the y o u n g-driver class has p erh ap s been a m o re crucial fa c to r in u p setting the n o tio n th at the m a rk e t h a d a fu tu re 135 FEDERAL RESERVE B A N K OF S A N F R A N C I S C O only in the replacem ent field. The 15-24 age category, w hich increased about 3 percent in each of the years around the tu rn of the dec ade after grow ing hardly at all in the midFifties, has now grow n by about 6 percent in each of the last tw o years. These m illions of postw ar babies, while unable to afford the top of the price line, have been heavy buyers of used cars; in other w ords, they have been a trem endous facto r in supporting a m arket which in tu rn provides a pow erful stim ulus to new -car buying. N e w s a le s r e c o r d s created as income and other factors expand B illio n s of D o lla r i 20 AUTO S A L E S (M O O E t Y E A R ) 10 Birth in the auto graveyard 136 T he steadily growing num ber of older cars, m eanw hile, has provided a solid underpinning to the replacem ent m arket. Since the 1958 m odel year, the num ber of cars over five years old has increased at least 5 percent annually; there w ere m ore than 34 m illion cars of this vintage on the ro ad at the beginning of the 1963 m odel year. In particular, a big bulge in replacem ent sales was alm ost inevitable during the past several years, because it was during this period th a t the cars purchased in the 1954-55-56 heavy-volum e years ap proached th eir eighth birthday — the age of heavy scrappage. T he dem ise of these cars, w hether from the violent death on the free ways o r from the degenerative diseases of old age, has created the potential for the birth of a m ajor replacem ent m arket. A n o th e r favorable factor has been the rela tive price attractiveness of the industry’s p ro d uct in recent years. T he “ m ore c ar p er c a r” strategy of the late-Fifties caused new -car prices at th a t tim e to rise even m ore rapidly than the consum er price index. B ecause of the introduction of the com pact car and other features, how ever, the new -car price index has actually declined since 1959. In com pari son with the total price level and with the in dustry’s ow n p ro d u ct o f several years ago, the auto today is som ething of a bargain. Finally, the m arket has been stim ulated by a large infusion of new credit during the past Note: Bar chart shows dollar sales of autos and parts in each model year (beginning one quarter before calendar year). Line chart shows annual percentage change in factors affecting auto sales— family income in 1962 dollars, population aged 15-24, number of cars S years or older (at beginning of model year), difference between changes in consumer price index and new-car price index, and amount of auto credit extended. All 1963 figures are estimates. Source: Department of Commerce, Autom otive News, Bureau of Labor Statistics, Board of Governors of Federal Reserve System. several years; extensions increased by 2 2 p er cent in 1962 and by 1 2 p ercen t m ore betw een the first half of 1962 and the corresponding period this year. B u t in co n trast to the 1955 boom year, w hen credit term s w ere eased so strikingly by the w idespread adoption of the 36-m onth sales contract, recen t sales records have been set w ithout any significant length ening of term s. Som e instances have been re ported of 42-m onth and even 48-m onth con tracts, bu t these have been isolated cases. Basically, credit term s have no t shifted very September 1963 MONTHLY REVIEW significantly since 1955, which m eans th at available credit has been used to support a w ider and higher-priced m arket, ra th e r than to entice those w ould-be buyers who cannot afford norm al contract term s. T he com m ercial banking system , inciden tally, is playing an increasingly im portant role in this credit picture. In 1962 it accounted for $9.6 billion of new auto credit— about onehalf of total extensions— and it m ay exceed that dollar figure substantially this year. (By way of contrast, com m ercial bank extensions of $6.7 billion accounted for only 40 p er cent of the total in 1955.) T w elfth District banks have consistently accounted for almost one-fifth of the com m ercial bank total. W here on the S-curve? R ising consum er incom e, to perm it greater m ultiple-car ow nership; growing num bers of young drivers, to support the crucial used-car m arket; grow ing num bers of aged cars, to ex pand the replacem ent m arket; relatively stable prices, to enhance the attractiveness of autos in relation to other consum er purchases; eas ily available credit, to p erm it the im m ediate enjoym ent of this postponable big-ticket item — all these factors have com bined explosively to generate tw o successive sales records and to create a spirt of euphoria rem iniscent only of the heady days of 1955. B ut are these fac tors now capable of creating a third back-toback year? The industry, hedging its bets only slightly, suggests th a t they can. O ne industry leader, who had predicted in the m idst of a six-m illion-unit y ear (1 9 6 1 ) th a t the m arket was nearing the top of its S-shaped grow th curve, recently declared th a t the industry has reached a seven-m illion-unit plateau and was “ setting its sights on eight m illion.” O thers pointed w ith relish to a re cent Census B ureau survey which indicates th at 8.4 percent of all consum ers plan to buy a new car w ithin the next 1 2 m onths, as com p ared with 7.4 p ercen t p rio r to the 1963 rec ord m odel year. T h e only factor left out of the industry’s optim istic equation was the cru cial one — the psychology o f the A m erican consum er. T h a t crucial facto r m ay soon be tested. In practically every y ear of the past decade, pub lic acceptance o r rejection of new models has tended to jell soon after m odel-introduction tim e. F o r instance, total expenditures for autos and parts jum ped from a $17.0 billion annual rate to an $18.9 rate in the first q u ar ter of the 1962 m odel year, and jum ped again, from $19.8 billion to $ 2 2 . 2 billion, in the first q u arter of the 1963 m odel year. B ut all that is past history; w hether the consum er will ren d er his decision so early and so resound ingly in this m odel year, he alone knows. 137 F E DE R AL R E S E R V E BANK OF SAN FRANCISCO Federal Agency Securities: The Market sponsored credit agencies have been selling their securities to the public for decades, b u t they have generally received little attention in the literature on debt instru m ents and financial m arkets. This situation m ay now be changing, how ever, since the m arket for such securities has recently b ro a d ened far beyond its previous range. T he supply of this unique class of securities, w hich as late as 1954 totaled only about $2 billion outstanding, has grown substantially in recent years, reaching $ 1 0 billion by the end of 1962. C om pared with m any oth er types of investm ents, A gency securities now repre sent a sizable m arket. F o r exam ple, m ore than $5 billion, o r about half of the am ount outstanding at the end of 1962, fell in the short-term m aturity range; this was alm ost twice as large as the volum e of bank ers’ ac ceptances, and was nearly equivalent in size to the m arket for com m ercial and finance com pany p ap er o r the m arket for negotiable certificates of deposit. This article exam ines the basic characteristics of the com paratively little know n but F 133 e d e r a lly expanding m arket fo r A gency securities. F u ture articles will describe the p articipants in the A gency securities m arket, and will analyze the m ajor factors shaping the supply and de m and for this special class of investm ents. Little risk but no guarantee T he securities issued by five instrum entali ties of the F ederal G overnm ent com prise w hat is com m only referred to as the “ Federal A gency” m arket. T hese instrum entalities— F ederal L an d B anks, F ed eral Interm ediate C redit Banks, B anks fo r C ooperatives, F e d eral H om e L oan B anks, and the F ed eral N a tional M ortgage A ssociation — finance m ost of their credit activities by selling th eir ow n obligations to the public through regular m ar ket channels. The unique feature o f Agency issues, which sets them a p art as a special class o f investm ents, is the fact th at they are not g uaranteed by the F ed eral G overnm ent, even though they are issued by instrum entalities of the G overnm ent. Legally, they are the re sponsibility of the issuing agency. T hey occupy an anom alous position; strictly speaking, they September 1963 MONTHLY REVIEW are n either G ov ern m en t n o r private debt in strum ents. O nly in the m ost form al sense, how ever, w ould there a p p ea r to be any great er degree of risk attach ed to these securities th an to G overnm ents; in fact, regulations on investm ents of natio n al banks classify all the securities of these A gencies as “ m inim um risk” assets. M o st A gency securities b e ar a fixed rate of interest and are bought and sold in term s of a price ra th e r th a n a discount. (O ne agency, the F ederal N atio n al M ortgage A ssociation, also sells obligations on a discount basis.) S hort-term A gency securities of the fixed-interest variety, although m ore directly com parab le w ith short-term T reasury coupon issues th an w ith issues such as T reasury bills, com pete w ith bills fo r sho rt-term m oney. Longer term A gency obligations, w hich are m arketed w ith m aturities of up to 15 years, com pete principally with T reasu ry and cor p o rate obligations. T he tax status of A gency securities is som ew hat different from th a t of U nited States G overnm ent o r co rp o rate securities. T he in terest o n A gency securities is subject to all F ed eral taxes and som e state taxes. Interest on the securities of each A gency except the F ed eral N ational M ortgage A ssociation, how ever, is exem pt from state incom e taxes. A typical new A gency issue is ab o u t $100 m illion, w hich is sm all only in com parison w ith flotations of T reasury securities; it is sizeable in relation to the average corporate o r m unicipal bond flotation. In the past, new A gency issues rarely exceeded $300 m illion, bu t several issues in the $ 3 0 0 -$ 5 0 0 m illion range were sold in 1963. The narrow ing spread (1) A gency issues traditionally carry higher yields th a n T reasury issues of com parable m aturity. T heir nongu aranteed status is often cited as the principal reason for this relation ship, b u t changed supply an d dem and re la tionships affecting m ark et behavior since the B illio n* of Dollars Source: Department of the Treasury 1960-61 recession suggest th a t the absence of a G o v ern m en t guarantee should be viewed as only one am ong m any factors bearing on the position of A gency issues in the stru ctu re of interest rates. T he differential has always fluc tu ated w ith changes in m a rk e t conditions, and at tim es has disappeared. F o r exam ple, a greatly n arrow ed spread betw een com parable A gency and T reasu ry m aturities was one of the m ost conspicuous developm ents in the A gency m ark et during 1961 and 1962. U ntil 1961, the yield sp read betw een A gency and T reasu ry issues of sim ilar m atu ri ty usually ranged betw een Va -^A p ercent th roughout the m atu rity range. T he spread tended to be greater in the earlier years. In 1961 and 1962, this differential shrank, and by the end of 1962 even the long-term issues carried a yield only 1 0 to 2 0 basis points above com parable T reasu ry issues. M oreover, yield i on the shortest m aturities declined to the level o f those on sh o rt-term G overnm ents tow ard the end of 1962. T his unusual relatio n ship developed partly as a result of T reasury o p eratio n s in the bill m ark et. T he financial authorities, as p a rt of their defense against the gold outflow, p u rsu ed a course of b o lster ing sh o rt-term rates on G o v ern m en t secu ri ties, specifically by increasing the supply of 139 FEDERAL RE S E RVE B A N K OF S A N F R A N C I S C O N a r r o w i n g s p r e a d for securities concentrated in shorter maturities U n d tr I Vagr ] 1955 t95T 1 -5 Y»on AGENCY Government H T 1 ] 1959 1961 1962 10 12 14 16 Spread in 32 » Source: C om m ercial and F inancial Chronicle. T reasury bills by alm ost $9 billion during the 1961-62 period. T he resulting upw ard pressure on short-term rates tended to reduce the differentials am ong them . C om m ercial banks and other investors looking for higher yields took a renew ed interest in short-term A gency issues, and thereby tended to reduce the spread betw een them and G overnm ents. The narrow ing spread (2) 140 H istorically, the m arket for Agency securi ties has exhibited a w ider spread betw een bid and asked prices th a n has the G overnm ent securities m arket. In the past tw o or three years, how ever, short-term A gency securities have trad ed at spreads alm ost as narrow as those prevailing on short-term T reasury se curities, and only the m aturities beyond one year have continued to show appreciably w ider spreads. This situation reflects an in creased supply and variety of m aturities in the m arket. T he degree of tradeability pos sessed by a debt instrum ent depends to a large extent on the difference betw een the price at w hich a n investor can buy and sell in the m arket. T he w ider the price sp read is, the greater the cost involved when it is sold. T he volum e of trading influences the price spread, b u t the price spread also m ay affect the volum e of trad in g ; b o th are determ ined by the characteristics of the supply. F o r sh o rt term T reasury securities, the huge supply and wide range of available m aturities are reflect ed in very thin spreads of 1 /3 2 -2 /3 2 .1 F o r short-term A gency securities, w hich during the 1950’s typically showed a 4 /3 2 spread, the increased supply and variety of m aturities in recen t years have also resulted in a spread as narrow as 2 /3 2 . B u t fo r m aturities beyond one year, w hich are available in sm aller q u an tities, spreads are m uch w ider— both in rela tion to short-term A gency securities and in relation to Treasury issues. T he quoted spread usually has been a full point on A gency is sues m aturing beyond five years, w hereas for T reasury securities it generally is only 1 /8 point on interm ediate, about 1 /4 point on long-term m aturities. G overnm ent securities dealers have played a prom inent role in bringing about the n a r row ed spread betw een the bid and ask price on A gency issues. By m aking an active m ar ket— carrying inventories of A gency securi ties and standing ready to buy o r sell quickly — dealers have been instrum ental in p ro m o t ing w ider public acceptance of A gency issues. How to market an Agency issue T h e q u a s i- g o v e r n m e n ta l c h a r a c te r o f A gency securities carries over into the m anner by which they are sold. E ach A gency has a fiscal agent in N ew Y o rk w ho handles all the details of each sale. (T h e fiscal agents’ fu n c tions do no t extend to servicing A gency debt, how ever; the T reasu rer of the U nited States handles paym ents of principal and interest on A gency securities.) In practice, one fiscal agent handles the sales of the th ree agricul tural credit agencies, w hile the F ed eral N a tional M ortgage A ssociation and the F ederal H om e L oan B ank B o ard each has its own agent. 1 Treasury and Agency fixed-interest securities are usually quoted in fractions of 32nds of a dollar. For example, a dealer may offer to buy (bid for) a certain short-term coupon issue at a price 100 5/32 and sell (ask) at a price of 100 6/32. The spread is 1/32, or $0.031250 per $100 of the security. September 1963 MONTHLY REVIEW T he fiscal agents are responsible for assem bling selling groups fo r the purpose of distrib uting securities to retail investors. A selling group— com posed of governm ent bond deal ers, dealer banks in securities, stock houses, and sim ilar nationally-recognized organiza tions— differs in several im portant respects from the type of syndicate th a t m arkets cor p o rate and m unicipal bonds. F irst, a selling group is set up on a continuing basis, although individual m em bers do enter and leave the group; the typical syndicate, on the other hand, is form ed anew to bid on each particu lar corporate or m unicipal issue. Secondly, only one selling group deals with each A gency issue, w hereas several syndicates generally bid against each other for each cor p orate or m unicipal issue. P rio r to each sale, the fiscal agent con sults with officials of the A gency concerned and with representatives of the selling group regarding the am ount, coupon, price, and date of sale. The individual A gency is responsible for the final determ ination of term s. O n the sale date, the agent telegraphs the price to the m em bers of the selling group. T he m em bers then telegraph or telephone their subscrip tions to the fiscal agent’s office in New Y ork, where allotm ents are m ade. T he new securi ties are delivered at the F ed eral R eserve B ank of N ew Y ork, and paym ent is in F ederal funds 1 at the offering price less the stated com m ission. Bridging the credit g a p M any F ederal credit program s were devel oped for the purpose of bridging credit gaps in the private econom y. In particular, the five Agencies u n d er discussion were set up to fa cilitate credit flows in one o r m ore of the fol lowing w ays: to supplem ent the sources of financing already available to certain types of 1A1I transactions involving new issues of United States Govern ment securities and most transactions in outstanding Government obligations are settled by payment in Federal funds. Federal funds are the member-bank deposit balances which are main tained at the Federal Reserve Banks. borrow ers; to reallocate locally available funds geographically, m oving them from areas of surplus to areas of deficit; and to create and m aintain orderly credit m arkets of national scope in place of isolated local m a r kets. T he agencies w ere designed to carry out these functions in the tw o areas of agricultural credit and residential m ortgage credit. A ll five A gencies are interm ediaries— they deal directly w ith oth er financial institutions w hen they perform the lending, discounting, o r buying and selling functions appropriate to their program s. T h e financial institutions, in turn, extend credit to the ultim ate borrow er, who m ight be a farm er, a farm cooperative, o r a city dw eller purchasing a new hom e. The capital stock of these F ederal A gencies, which originally was provided by the U nited States Treasury, now is ow ned alm ost entirely by the retail financial institutions o r by the ultim ate borrow ers. In each instance, how ever, private ow nership and control is subject to Federal supervision of general policies and operations. O perations of F ed eral credit agencies have expanded rapidly in recent years. In the late 1 9 4 0 ’s and early 1950’s, these agencies had obligations outstanding of about $ 1 .5-2.0 bil lion. In 1955, credit activities expanded fu rth er as a result o f the housing boom and increased dem ands fo r m ortgage credit. The F ederal H om e L o an B anks, which had been selling notes since 1937, experienced a size able increase in the scale of their operations in 1955. T he F ed eral N ational M ortgage A s sociation, m oreover, follow ing its 1954 re organization, entered the m ark et for the first time in 1955 in ord er to finance the liquida tion of its predecessor’s m ortgage portfolio, and in the following year began to borrow to finance its secondary m ark et operations .1 In the ensuing period, the credit functions of all five Agencies have increased, and their b o r rowings in the financial m arkets have risen correspondingly, albeit w ith substantial cyc lical fluctuations in m ortgage-associated p ro gram s. FEDERAL RESERVE BANK OF SAN FRANCISCO B A N K IN G A N D CREDIT STA TIST ICS AND B U S I N E S S I N D E X E S — T W E L F T H D IST R IC T 1 ( i n d e x e s : 1 9 5 7 - 1 9 5 9 = 1 0 0 . D o l l a r a m o u n t s in m i l l i o n s o f d o l la r s ) Condition items of oil member banks2’ 7 Demand deposits adjusted3 Total time deposits 495 720 1.450 6,639 7,942 7,239 6,452 6,619 8,003 6,673 0,964 8,278 1,234 951 1,983 10,515 11,196 11,864 12,169 11,870 12,729 13,375 13,000 14,163 1,790 1,609 2.267 7,997 8 ,699 9 ,120 9,424 10,679 12,077 12,452 13,034 15,116 19 8 14 69 71 80 88 94 96 109 117 125 111 20,017 20,165 20,460 20,589 21,102 7,309 7,471 7,471 7,501 7,608 13,255 13,446 13,969 14,012 14,431 16,655 16.772 16,934 16,827 17,093 144r 143 142r 144r 146 21,0 3 5 21,103 21,480 21,714 21,894 22,140 22,277 7,454 7,130 7,130 7,103 7,069 7,153 7,002 13,917 13,527 13,646 14,175 13,427 13,610 14,030 17,390 17,532 17,760 17,868 18,111 18,264 18,363 146 149 152 147 152 152 159 1134 Year and Month Loans and discounts 1920 1933 1939 1953 1954 1955 1956 1957 1958 1959 19C.0 1961 1962 2 ,2 3 9 1,486 1,967 9 ,2 2 0 9 ,4 1 8 11,124 12,613 13,178 13,812 16,537 17,139 18.499 1962 A u gu st Sep tem b er O ctober N o v em b er D ecem b er 1903 J an u ary F ebruary M arch April M ay ■Tune ■July A u g u st Bank debits index 31 cities1’ s U.S. Gov't securities Bank rates on short-term business loans8' 1 Total nonagri cultural employ ment 4.14 4.09 4.10 4.50 4.97 4.88 5.36 5 .6 2 5.46 5.49 e :so 5^46 5.53 Industrial production (physical volume)5 Year and month Crude Refined Dep't store sales (value)6 18 11 19 74 74 82 91 93 98 109 110 115 123 53 34 38 93 93 92 94 97 101 101 103 104 Retail food prices 7, a 86 85 90 95 98 98 104 106 108 113 86 84 90 96 101 96 103 103 103 109 110 56 83 108 103 112 112 103 96 101 95 94 104 113 114 114 114 115 109 110 111 110 111 105 107 104 102 101 124 122 121 128 127 105 106 106 105 106 116 116 116 116 116 116 1 16p 111 111 111 110 110 108 lOSp 90 105 105 99 103 127 128 130 118 129 127 128 107 107 107 107 106 too 108 Exports Cement Steel7 Copper7 1929 1933 1939 1952 1953 1954 1955 1956 1957 1958 1959 1960 1961 1962 84 35 62 101 102 101 107 104 93 98 109 98 95 97 91 54 70 112 114 111 111 109 106 98 96 95 96 96 61 39 49 90 95 92 96 100 103 96 101 104 108 111 34 17 35 77 82 83 90 97 93 99 108 101 105 111 16 92 105 85 102 108 114 94 92 102 111 100 89 15 70 100 98 90 104 114 113 101 86 112 119 128 1962 Ju ly A u g u st S ep tem b er ( >ctober N o v em b er D ecem b er 98 95 98 98 104 103 96 97 96 97 97 97 115 114 113 112 113 113 115 117 115 120 115 121 84 89 90 88 91 100 112 115 119 127 127 127 101 94 104 91 93 94 96 96 97 98 98 98 113 111 110 108 112 116 122 118 122 105 111 111 127 lOOp 114 127p 138p 145f> 131 p 109p 125 130 134 135 127 1963 J an u ary F eb ru ary M arch A pril M ay June J u ly Carloadings (number)® Waterborne Foreign Trade Index7' •> 10 Petroleum7 Lumber Total mf’g employ ment Electric power Imports Total Dry Cargo Tanker Total Dry Cargo 13 11 17 61 69 73 82 89 95 97 107 115 124 96 55 82 86 71 67 84 101 117 89 95 122 126 61 193 55 * 43 81 56 57 72 105 124 86 90 123 134 190 lO lr 113 96 117 91 96 96 108 120r 104 20 12 16 33 51 44 52 75 95 92 112 133 134 '41 61 70 71 80 86 93 95 113 117 116 ' i 18 41 28 35 69 97 91 112 142 145 128 134 134 132 135 82 116 105 96 93 154 85 130 121 105 91 157 74 76 61 72 99 144r 154 168 153 r 158 163 134 122 136 122 154 127 124 172 186 ]7 1 r 161 183 140 127 132 139 145 94 96 123 111 128 119 120 107 Tanker 1 Adjusted for seasonal variation, except where indicated. Except for banking and credit and departm ent store statistics, all indexes are based upon data from outside sources, as follows: lumber, N ational Lumber M anufacturers’ Association, West Coast Lum berm an's Association, and Western Tine Association; petroleum, cement, and copper, U.S. Bureau of Mines; steel, U.S. D epartm ent of Commerce and American Iron and Steel In stitu te ; electric power, Federal Power Commission; nonagricultural and manufacturing employment, U.S. Bureau of Labor Statistics and cooperating state agencies; retail food prices, U.S. Bureau of Labor Statistics; carloadings, various railroads and railroad associations; and foreign trade, U.S. D epartm ent of Commerce. 2 A nnual figures are as of end of year, m onthly figures as of last Wednesday in m onth. 3 D em and deposits, excluding interbank and U.S. Governm ent deposits, less cash items in process of collection. M onthly data partly estimated. 4 Debits to total deposits except interbank prior to 1942 . Debits to demand deposits except U.S. Governm ent and interbank deposits from 1912 , 6 D aily average. ® Average rates on loans made in five m ajor cities, weighted by loan size category. 7 N ot adjusted for seasonal variation. 8 A new index now combining not only Los Angeles, San Francisco, and Seattle food indexes b u t also Portland. Reweighted by 1960 Census figures on popu lation of standard metropolitan areas. 9 Commercial cargo only, in physical volume, for the Pacific Coast customs districts plus Alaska and Hawaii; starting w ith Ju ly 1950 , ‘‘special category” exports are excluded because of security reasons. 10 Alaska and H aw aii are included in i ndexes beginning in 1950 , p— Preliminary. r— Kevised. * Less than 0,5 percent, 142
@FedFRASER