The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.
http://clevelandfed.org/research/trends May 1997 Best available copy "Putting the Economy in Perspective" Mother Nature Town Loses Bet on Bridge GAhI13LER'S FALLS . OHIO-Gaml~ler's Falls just lost a big nxges, ancl it's liliely to be a long time hefore the town bets against Plother Nature again. Last spring. after three consecutive trernors ancl minor years of earthcl~~alce d:tmage. the town c o ~ ~ n crejectecl il a proposal to strengthen the briclge spanning the \kattas~~ccor River. Erectecl hy the town fr~thersin 1907, Bettor's 13ridge has been the gatewxy to Gambler's Falls for nearly a century. i\/lany trernors threateneel to clrop the l~riclgeinto the \Wattasuccor over the t structure r~lwayshelcl. years, l ~ the Ne\.ertheless. state officials repeateclly ~v;;arneclthat Bettor's Bridge \\?as sho~vingits age ancl that the t i ~ n ehacl come to rehuilcl. They fe21recl that the next IIig tremor \\~oulcltopple tlle trestle. The city coi~ncil,hot\.ever. rejectecl tfie project hecause the state's nen- infr;lstructure progl.am woulcl have reqilirecl the town to pay half the cost. in this case about $25 million. ivlayor Ilewjey Cheaturn t h o ~ ~ g he h t co~~lcl get the state ancl priv~ttecle\;elopers to foot the entire bill as part of a river- hont casino and professio~lalsports complex that he planned to pitch to the state legislature. State Superintenclent of I'ublic \Yjorks A. Bert Aynstine saicl that the to\-~;\in'srefusal to I~olsterthe ele\.atecl structure "\vzs lilce playing Lincoln Logs with the ~~niverse." Mayor Cheat ~ ~retortecl m that ',the risk of quake clarnage is being exaggeratecl by ~ n y enemies. \vl;ho r e f ~ ~ to s e recognize that ti~neshave chnngecl. Gambler's Falls is now a service-based economy without heavy truck tmf'fic. Besides, higher speeci limits mininlize the danger hecause cars cross over so cluiclcly." Neeclless to say, yesterclay's 5.5 c l ~ ~ a kand e 4.0 aftershock provided arnple proof for S~~perintendent Aynstine's prediction. Fortunately, no one n.as injured. 1 ~ 1 the t loss of Bettor's Briclge means severe economic losses for the to\v11. While the briclge is being rel,uilt, tmffic xvill b e routecl t l l r o ~ ~ gthe l ~ neighboring village of Cold Comfort. Fed Blasted by Civic Group WASHINGT0N.D.C.-The Fecleral Reserve has been receiving sharp reprimancls fro111several big-business CEOs ancl a few former U.S. Congressmen for its decision to increase a lcey interest rate by 'A percentage point. The complaints. loclgecl by a group calling itself Genuine Anlerica~lsfor a Fast Fonvarcl Economy (GAFFE), steln from a belief that the Fed's monetztry policy action \\rill prevent inflation zit the expense of economic gro~vth. GAFFE's criticism comes at a time when the U.S. economy is thriving. ' f i e n:~tionhas been expancling for IS of the last 19 years. Unemployment rates have l x e n between 4.5% and 5% k)r several years, with inflation in the 2.5[%,to 3% zone. Nlost private economists point to consiclerable historic:tl eviclence that 1,oom cotlclitions are associatecl lvith rapicl money growth, higher inflation. :ind speculation in housing, gold. art. ancl farm lancl. Exrent~lally,spending I>eco~nes so clistortecl and speculative that the economy turns \veal< ancl recession-prone. Inflation becomes costly to un.~vincl. Nevertheless, the FOMC's last action does not sit \\;ell with some. "The Fecl's fighting the lz~stwar:" howled GAFFE chief Iihett Orick. "They can't seer11 to recog~lizethat the U.S. economy has changeel." Other angry worcls came from former Representat i w Hetsy Rantche, \vho cleclared that "people \rant faster gro~vth.anel they lcnow the economy can do better." For their part, Federal Reserve offiancl clelightecl with cials itre s~~rprisecl the economy's perforrrlance. Mo\vever resource c~tilizationlevels :Ire extre~nelyhigh hy historic measures, ancl money growtll 1x1s been accelerating. Accorcling to lnost Feclwatchers, by traditional st;tnclarcls the FOMC shoulcl have reactecl sooner anel Inore aggressively to these trends than it has so far Com~nentingon the Fecl's recent rate hike, ?'a\\;lcin Hedcl, chief economist for Zecl Bank. saicl that "the FOivIC n a s ~nerelytrying to take a moclest, pruclent step in the right clirection." Fi?zn?zce New Wave Bank Capsizes NEW YORK-In a stunning hlo\v that shoolc financial m:trlcets. K e ~ v \=~ve 13anlc anno~~ncecl ycsterclay that its capital had Ixen wiped out 11y the lnassive foreign real estate loans it 111acle cluring the past t\vo ).ears. The $80hillion giant. touteel as :i strong buy as late as yesterclay 11y \Wall Street ~LISLIS. has heen taken into receivership by the Federal Ileposit I n s ~ ~ s a n cCorporation e and is receiving emergency iicluidity support from the Fecleral Reserve. A l t h o ~ ~ ginsurecl h clepositors \\.ill 1,e lnacle whole. the outlook for other creclitor-sappears hlealc. New which only fi1.e years ago was 3 520 billion regional retail l~anl<, grew rxpiclly through accluisitions and lunged into several new enterprises. Foreign commercial real estate lerlcling I>ecan~ea l~~crative profit center, accounting for nearly one-thircl of the 11:lnlc's profits last yeas. This new activity rlleallt more rislc for Kew \Yj:lve. 11ut banlc managers ex~~clecl conficlence. At a meeting with security analysts last Novetnl~er. some investors c l ~ ~ e s tionecl N e ~ v\Vave's ability to Inanilge the risks associatecl \vith overseas property lencling. I-Io\vever. Knute D. Versified, chairman of the I~anli'sIiislc Management Committee. hoastecl that analysts were "too hitng up on the past. Ih~lliing is ai>o~ltrislc management, ancl ~ v e ' r e allout hanlcing. \Ve clicln't get where \ve :\re by not knowing hon- to manage risk. 13anlcs today are more sophisticateel than they were 25 years ago. It's a big, glob;~l .~vorlclancl there are m;u11y opportunities overseas to ride the New \Yliave." Convers;ltions with senior bzlnlcing offici a 1s. conl'ir~necl , that New Wave's coll ~ tracecl e to 21 huge conccnlapse could tration of real estate loans in Sharclul, which \v;ts overrun last \\ieel< 1,y rebel forces. "Nothing ever changes," said FDIC C h ~ t i r m ~Shel n N. Outcash. "Someone a l \ ~ t y sgoes too far, thinking they've cliscoverecl a new formula for eliruinating risk ancl refusing to believe anything Ixtcl c o ~ ~ lhappen cl on their watch." Oc~tcash lamented. "Then we ha1.e to g o in ancl clean L I their ~ ~ness." http://clevelandfed.org/research/trends May 1997 Best available copy Monetary Policy Percent, weekly averages 1RESERVE MARKET RATES Percent Contract month Percent Percent Jan. March May July 1996 Sept Nov Jan. March 1997 May SOURCES: Board of Governors of the Federal Reserve System; and the Chicago Board of Trade. Since the Fecleral Open b1;larket Comxnittee (FOMC) anno~~ncecl an espectecl 'A-percentage-point increase in the federal S~rnclssate at its March 25 meeting, short-term interest rates have ch;lnged very little. As of April 29, the three-month Tre;lsu~-y constz~nt-maturity yielcl hacl fallen five Imsis points 01.p.) from its March 28 level, while the yield on hacl declinecl one-year rllat~~rities two h.p. Long-term interest rates ~ver-ealso rclativel). constant over this periocl. In contrast, the month leacling up slightly hy driving LIP interest rates to the FOMC's March meeting ~ 2 s to head o f f future inflation. However, cliaracterizecl by a notable increase ~ i ~ clurmovements in s l l ~ r t - t e r rates in interest rates. From Febr~rary21 ing the past few months suggest anto bIarcli 21, the yields on threeother interpret:ltion. If one accepts xnonth :inel one-year Treasury conthat interest Kites are influenced by a stanl rliaturities rose 20 ancl 34 b.p., v:lriety of factors apart horn the acrespectively. while the yielcl o n the tions of the Fecleml Iieserve, then ~ h.p. 30-year long bond irioved L I 37 the recent funcls rate increase may A common interpretation of the he viewecl :IS :In effort to keep it in 170MC's 1;ltest policy move is that line with other market interest rates, the 1:ederal Iieserve sought to r:lther than to tighten ~nonetai-ypolicy. tighten money rnarlcet conclitions ( c o t ~ l i t / ~otz l e ~1 zext / 11qqej http://clevelandfed.org/research/trends May 1997 Best available copy Monetary Policy (cont.) Percent change Absolute change 15 I l1 FEDERAL FUNDS RATEAND REAL GDP Chanoe in real GDP '" 9 IFEDERAL FUNDS RATE VERSUS REAL GDP, 1983-97a 1 10 Efiect~vei ~ n d srate 7 05 5 00 3 -0 5 1 -1 0 -1 -1 5 -3 -2 0 -5 -7 5 Change in iunds rate Percent change 9 iibsolute change 3 Change in employment 6 5 7 2 4 5 1 3 3 0 2 1 1 -1 0 -1 -2 -1 -3 1983 1985 1987 1989 1991 1993 1995 -3 1997 -2 -2.5 -2 0 -1.5 -1 0 -0.5 0.0 Change in iunds rate 05 1.0 1.5 a. Points show the relationship between a quarterly change in the federal funds rate and the percent change in GDP over the next four quarters. b. Points show the relat~onshipbetween a quarterly change in the federal funds rate and the percent change in employment over the next four quarters NOTE: All data are seasonally adjusted. SOURCES: U.S. Department of Commerce, Bureau of Economic Analysis; and U.S. Department of Labor, Bureau of Labor Statistics. O n e coulcl even argue that a constant filncls rate over this period would have representeel a slight easing of policy. Irnpliecl yields on federal funcls futures, which reflect expectations of future policy. suggest that ~llarket participants anticipate further increases in the funcls rate over the next several months. Expectations of future policy seem to have changed little over the past snonth. Another wiclespread interpretation of the March policy- nlove is that the Feel is sacrificing output and employment growth to attain its goal of price stability. While there is little doubt that a large and sudden increase in the funds rate can have substantial negative effects on these two measures (as witnesseel by the experience of the early 1 9 8 0 ~ it) ~is much less clear that relatively moderate changes in the funds rate leacl t o opposite lilovements in output ancl e~uployment. Consider the past 14 years, a periocl largely without sudclen and substantial movements in the federal fi~nclsrate. During these years, there has Iwen no clear relationship between changes in the funds rate, employme~lt.and output. In particuillcreases in the lar, qu;llTer-tO-~L1i~rtef filncls late have not been associated with declines in either output or employ~nentover the followitlg year. Although this fact does not imply that moder;lte changes in the filncls sate have no impact, it does suggest that the relationship between these varialjles is less obvious than some Icotrtir~zledon ne"xtpcige) http://clevelandfed.org/research/trends May 1997 Best available copy Monetary Policy (coat.) Billions of dollars 4,050 ITHE M2 AGGREGATE I Billions oi dollars 5'250 ITHE M3 AGGREGATE Bill~onsof dollars 1,325 1,275 1,225 1,175 1,125 1,075 1,025 1995 a. Growth rates are percentage rates calculated on a fourth-quarter over fourth-quarter basis. Annualized growth rate for 1997 is calculated on an estimated April over 1996:lVQ basis. b. Adjusted for sweep accounts. NOTE: All data are seasonally adjusted. Last plot is estimated for April 1997. For M I and the monetary base, dotled lines lepresent growth ranges and are for reference only. All other dotted lines are FOMC-determined provisional ranges. SOURCE: Board of Governors of the Federal Reserve System. reports have statecl. Over the last 14 years, fluct~~ations in o u t p ~ ~ancl t enlployment likely resulteel in 1:lrge part frorn klctors other than monetary ~x)licy,inclueling changes in fiscal policy. legal reg~rlations.anel technology. Turning to gro~vthin the money stoclr, the hroader aggregates continue to exceecl the upper houncl of the FOMC's provisional ranges for 1977. From March 1995 to ivI:lrch 1997, hl:! ancl b13 grew :it :lnnu;ll rates of 5.2'H) and 7.1%. respectively. The monet:try base, a narrower 1ne:lsure of money that co~nprises currency held by the public plus bank reserves, increasecl 5.7%)cluring the first elllaster, up slightly from the roughly 4?41 pace of 1995 ancl 1996. Flowever, all of this growth rr2s clue to a n increase in currency holclings. as total reserves continued its cloxvnwarcl trerlcl ancl fell at an 8.1%)annual mte. M I , wl~ichconsists primarily of cu~-rencyancl checliable cleposits. lias contin~~ecl to fall in recent r~eelts ~tfterleveling off in late 1996 and early 1997. The cleclines in both M 1 and total reserves over the past few years have generally Ixen attributeel to the clevelopment of sweep accounts. (7'hese ;iccounts allow banks to lower their recluirecl reserves Ily short-term "s~veeping"of deposits froill accounts that recl~~ire reserves to those that clo not.) When the M1 ciata are acljustecl to account for sweep activity, the clownrvarcl trencl in the nonacljusted clata clisappears. Monetary Policy: A Long-Term Perspective Peicenl 14 http://clevelandfed.org/research/trends May 1997 Best available copy Peiceni I 10-YEAR TREASURY AND THE FEDERAL FUNDS RATE 1983 Percent chanqe, annual rate 1985 1987 1989 1991 1993 1995 1997 Percent a. Core inflation is measured as the 15% trimmed mean of the Consumer Price Index. Green lines represent trends. b. Data are from the Federal Reserve Bank of Philadelphia's Survey of Professional Forecasters and reflect year-ahead expectations. SOURCES: Board of Governors of the Federal Reserve System; the Federal Reserve Bank of Ph~ladelphia;and the Federal Reserve Bank of Cleveland The financial press has given m ~ i c h attention to the 25-basis-poilit increase in the fedelxl f~indssate on March 25. The reports have tencled to concentsate on how near-tern? economic gro.ivtli might be affectecl by the latest rise :~ndhy possible filture increases. It is constructive, however. to consicler the Fed's recent action in a longer-rc~ncontext. Since 1982. there have heen three episodes \then the funcls sate was increaseel over s~lstainedperiocls: 1983:IQ t o 1985:IIIQ, 1988:IIQ to 1989:IIQ, ancl 1994:IQ to 1995:IQ. 13etwcen April 29 and Octol>er 8, 1987, the rate was pushed from 6% to 7- 3/80/0. Ilowever, this course was reversed sharply in October in the face of dramatically declining stock prices. A series of increases resumecl in April 1988, but not in t i ~ n eto heacl off a somewhat discrete jump in the trend of core inflation. Thus, the policy increases that occurred over the course of the following year were largely directed at seversing an acceleration in the price level. A recession (beginning in 1990) follo\ved the 1988-89 funds rate increases, suggesting that once inflationary imbalances are in place, their elirnin:ltion may entail a risk of o u t p ~ i tdeclines. Moreover, a series of funds mte clecreases just months prior to the recession coulcl not head it off. Neither the first nor the third episocle 1x1s associated v~ithoutput declines; thus, both are ex;uli~plesof preemptive clisinflation policies. Incfeecl, the last episocle has been followed by robust economic contlitions. Since 1983, preemptive policy actions 11;lve l>een associatee\ with a clecline in inflation expectations and hence a lower level of interest rates. 0 . e e . . http://clevelandfed.org/research/trends May 1997 Best available copy e Interest Rates Percent, weekly averages Percent, weeklv averaoes Number of changes 200 CHANGE IN 3-MONTH AND 10-YEAR TREASURY YIELDS~ Number oi chanoes / -2.00 -1.00 Perceniage po~nls 0.00 1 00 Perceniage poinis 2.00 3.00 a. All instruments are constant-maturity series. b. Estimate of the yield on a recently offered, A-rated utility bond with a maturity of 30 years and call protection of five years. c. Bond Buyer Index, general obl~gation,20 years to maturity, mixed quality. d. Change is the difference between the security's yield and the same security's yield one month prior. e. Spread is the 10-year Treasury constant-maturity yield less the 3-month yield. The change in the spread is relative to one month prior. SOURCE: Board of Governors of the Federal Reserve System. The yielcl curve has steepened slightly since 1:~stmonth, with short rates fillling ancl long I-ates rising. Yielcl spre:tcls have corresponclingly openecl up. The 3- ye:^, 3-month spreacl tviclened f r o n ~113 to 130 basis points (b.p.). ancl the 10-yeas. 3-month spreacl grew fro111 140 to . -1 2 3 I>.[>. Re1atix.e to kist year, the yielcl curve is alwut 25 1 1 . 1 ~ higher, hut h:ts approxim:ttely the s:lme slope. T h e 30-year long honcl sate has eclgecl LIPto 7.1(%1,:a shift that is reflecteel in other capit:tl rn:trl<ei rates. Since the end of FeI>rllary,'l'seasur-y I,oncls, m~inicipalbonds, ancl utility bonds h;tve all increased (by 35, 22, ;lncl 30 I,.p., respectively). Mortgage rates moved up 43 b.p. over the same period, partially closing the gap with utility rates. A central feature of interest rate movements is their ranclomness. Next niont1~'s yield curve is ~ 1 1 1 known toclay, anel a major goal of researchers ancl speculators is to better unclerstancl that uncert:linty. One xxT:ly to characterize this ranclornness is to look at the (unconclitional) distril>ution of interest late changes. I\lontlily moven~entstend to be re1:ltively small, with the majority of changes falling between 25 I>.p.LIPor doxvn. Some differences between maturities also appe;tr. Ten-year rates are more centrally lie clustered: 72% of all ol~se~vations between -0.25 ancl 0.25, ancl none fall o~itsiclethe -1.85 to 1.75 range. Three-month rates show a wicler clispersion, ranging from -4.6 to 2.6, ancl only 66(%lie bet~xreen-0.2j ancl 0.25. Since estrenie 3-month ancl 10year changes often clo not affect their spread. the clistribution shows an even tighter clustering arouncl the mean. http://clevelandfed.org/research/trends May 1997 Best available copy Ratio NOTE: Ail precioi~smetals prlces are in dollars per troy ounce. SOURCE: DRItMcGraw-Hill. Although the Ij.S. is n o longer on a gc)ld or silver stancl:u.cl. the prices of these precious commoclities still comm:~ncl ~videspreacl attention. O n e reason is that the price of golcl is often consiclerecl an indicator of st inflation. Over the ~ ~ 1 decade. however, golcl prices have held steacly or clecli~ieclin the face of a slowly rising price le\.el. ils the pattern of the e;uly 1980s tlernonstrates. golcl prices c:ln s h o sub~ stantial fluctuations i~nrel:[ted to m o v e ~ n e n t sin [he Consumer I'rice Incles. In part. golcl reacts t o int1:~- tionary expectations: incl~rstrialclemancl and supply, ancl fears of political instability overseas. Silver-. another precious metal often ~lsecl in monetary systems, should respond t o liyany of the sarne ge~ieralinfluences as golcl. Surprisingly. though, gold has become relatively niore \raluable in recent times. Between 1980 and 1991, the t.:ltio of golcl to silver prices s~lrgeclfrom [>elow30 to above 90; since then. it has stabilitecl at around 70. I'recious nletals can also be traciecl on f~rtureseschanges. where investors agree to purchase (or cleliver) meials on a given date someprice time in the flture. 71le f~lt~ires clepencls on investors' expectations of Fut~irespot prices. their attiti~cte toward I-islc,:lnd the cost of stol-ing the commoclity. Thus. tile price of six-month golcl futllres provicles :III estimate of the spot price six montl~s from no\%*. The fi~turesprice generally follo\vs the spot (current) price cpite closely. but the numbers are rarely iclentical, and the gap (formally Itnown as the I7asis) sho\vs some variation over time. . . Inflation . . . .and. Prices http://clevelandfed.org/research/trends May 1997 Best available copy March Price Statistics Annualized percent change, last: I mo. 3 mo. 12 mo. 5yr. 1996 avg. All items 0.8 1.8 2.8 2.8 3.3 Less food and energy 2.9 2.4 2.5 2.9 2.6 Mediana 2.1 2.9 2.6 2.9 2.7 Finished goods -0.9 -3.0 1.5 1.6 2.9 4.3 0.8 0.8 1.4 0.6 Commodity futures pricesb 31.5 4.6 -1.2 3.0 -0.7 Consumer Prices Producer Prices Less food and energy Percent change, iourth quarter over iourth quarter 28 12-month percent change 3.0 2.7 2.6 2.5 2.4 PPI less iood and energy 2.3 2.2 1 ,,,,,,: ,,,, v 2.1 ,,,,,,,,,,' ,,- 2.0 1993 1994 1995 1996 1997 a. Calculated by the Federal Reserve Bank of Cleveland. b. As measured by the KR-CRB composite futures index, all commodities. Data reprinted w ~ t hpermission of the Commodity Research Bureau, a Knight-Ridder Business Information Service. c. Upper and lower bounds for CPI inflation path as implied by the central tendency growth ranges issued by the FOMC and nonvoting Reserve Bank presidents. SOURCES: U.S. Department of Labor, Bureau of Labor Statistics; the Federal Reserve Bank of Cleveland; the Commodity Research Bureau; and U.S. Department of Commerce, Bureau of Economic Analysis. The monthly inflation inclicators rnoder-atecl consiclerahly in h,larch. The Consumer I'rice Inclex (CI'I) rose a mere 0.8%1(xnn~ializedrate) during the month. ancl the I'roclucer Price index for finisheel goocls (1'1'1) cleclinecl an annualizecl O.C)(%. Tlie media^^ CI'I, a measure of core infl;ttion, aclvanced at a faster p t c e (2.10/0),but also fell below its recent 12-month tretld (2.6%). Incleecl, the current inflation trencl, as rneasiu-eel hy retail prices. :ippe;ws to be run- ning near (or slightly below) the Fecler:il Open Market Committee's 2'/1% to 3% ce~ltraltendency projection for 1997. Other nleasures of aggregate ["ice behavior have been equally subduecl. The 12-month trend in ~ > ~ ) d u cprices e r is about Y, percentage point lower than at this time last year, ~tnclthe core I-'PI (less Soocl and energy) is roughly two percentage points lo\ver. When we conlbine the price clata from the CI'I and the PPI, a clearer picture of the economy's recent inflation pattern emerges. One such Ine;isure, the GDi' chain-weighted ["ice index, is calculateel using price data from retail, wholesale, ancl a variety of other sources. Over the past year, it has increaseel about 2.20/0-a small uptick from its trencl a quarter before, hut still do\vn a bit from trend sates postecl earlier in the expansion. (colztilzllcd on ti.e.xlpc~gcj http://clevelandfed.org/research/trends May 1997 Best available copy Inflation and Prices (cont.) 12-month oercent chanae I COMPARISON OF CPI WEIGHTS: ELDERLY VERSUS ALL AN CONSUMERS I Percent of expend~tures 12-month percent change 12-month percent change 10.5 6.5 9.5 8.5 5.5 7.5 4.5 6.5 5.5 3.5 4.5 3.5 2.5 2.5 1.5 1.5 0.5 1984 1986 1988 1990 1992 1994 1996 0.5 1984 1986 1988 1990 1992 1994 1996 SOURCE: U.S. Department of Labor, Bureau of Labor Statistics Which price statistic o\vns the right to the title ,'U.S. inflatioll rate" is a subject of heatecl controversy among economists and economic policylix~kers alike. Indeed. e x h nleasilre has its stl-engths-ancl weaknesses. In recent months, the most critical focus has heen on shortcomings in the constri~ctiono f the CPI, although it is :trgilal,ly one of the most carefiilly crafted of all economic statistics. The criticis~n nxty be related largely to thc inclcs's prominence. Among its m:in\; appli- cations, the CPI serves as an escalator for Social Security benefits and has become a focal point in federal I~i~clget debates. Unfortunately. the incles was never designecl to serve :IS an escalator for the cost-of-living changes facecl by older Atnericans. Economists at the Bure:~u of Lal~orStatistics, w h o procluce the CPI. are attempting to improve the incles. To clate, they have constructed several experimental acljustlnents. In o n e case, the CI'I has been re\veighted to better reflect the spending habits of the elderly (cur- rently, it is \veightecl o n the basis of expenditure patterns for all urlxn consumers). In the new inelex, meclical care ancl housing costs are more heavily ernphasizecl, \vhile the im1x)rf"nce of twnsportation ancl foocl expenditures is reclucecl. These appear seemingly snxtll acljustme~~ts to have a significant impact on tho resulting price statistic: Meclical-care cost increases hxve traclitiollally been among the highest in the incles. : ~ n dhousing cost increases have been :tmong the most stable. http://clevelandfed.org/research/trends May 1997 Best available copy EconomicActivity Peicent chanue from orecedino ouarter Real GDP and Components, 1997:lQa (Advance estimate) change, billions of 1992 $ Real GDP Consumer spending Durables Nondurables Services Business fixed ~nvestment Equipment Structures Residential investment Government spending National defense Net exports Exports Imports Change in business ~nventories Percent change, last: Four Quarter quarters 96.1 73.5 28.8 22.3 23.4 5.6 6.4 19.9 6.3 3.6 4.0 3.4 8.1 2.4 2.8 22.6 18.2 4.6 3.7 -1.8 -8.1 -31.9 17.0 48.8 11.9 12.8 9.5 5.5 -0.6 -10.1 9.6 9.6 9.5 3.4 1.3 -3.4 8.1 21.9 9.1 10.9 - - 29.0 - Percent change irom corresponding month of previous year 7 REAL PERSONAL INCOME AND SPENDING I - TRENDS^ I a. Chain-weighteddata in billions of 1992 dollars. NOTE: Al data are seasonally adjusted. SOURCES: U.S. Department of Commerce. Bureau of the Census and Bureau of Economic Analys~s;and Blue Chip Economic Indicators,April 10,1997 Aclvance estim:~tesreleaseel I)y the gests that the reesti~nate of the Com111erce 1)epartlnent in late April first-cluarter growth rate (to 13e reshow real CIII' rising 5.6(K1in t l ~ e leasecl in May ancl June) will not fill1 first qi~arter-the largest gain in 1)elow j.O(W,. nearlj- 10 !.e:irs ancl one that suhConsumer spending, inventory stantially esceeclecl expectations. acc~lm~llation, ancl business fisecl Economists participating in April's investment led the first-c1uarter 131ue Chip sur\.ey n-el-e anticil3:lting aclv:ince. Although exports rose ~t 3.1(!/;1gro\\.th rate. i\ltIio~~gh the sharply, imports increasecl at a n e w n Cornmerce 1)epartrnent's acl\.ance L'lstel rate, ~tncl the trade cleficit estim;ites are constructccl \\.ith pre\\.iclenerl. Government spencling lill~i~l:lry;lncl incomplete clata. a11 continuccl to contract. analysis o f past GIII) re\.isions s ~ ~ g - I.ooliing aheacl, most 21n;~lysts non- espect the economy's gro\\~th rate to slon. to 2.0% by the entl of the year. Forecasts tenel to revert to th;lt rate t>ec:iilse Inany eco~lomists believe it is consistent with p:ltterns o f li.S. labor force participation, capital accl~rniil:ttion,ancl procluctivity p i n s over the past clecacle or so. Solne ol~ser\.ers,ho\\iever. are beginning to qc~cstion\vliether these c.stinl:ltes o f the economy's growth potential ~ ~ too r clo~v. ((.ot?tit7uc~~/ O ~ III L J . . X . ~ ~ C I ~ C ~ ) http://clevelandfed.org/research/trends May 1997 Best available copy Economic Activity (cont.) Percent change from previous quarter "n , Percent rising 70 65 60 55 50 45 40 35 1991 1992 1993 1994 1995 1996 1997 a. Chain-weighted data in bill~onsof 1992 dollars. NOTE: All data are seasonally adjusted. SOURCES: U.S. Department of Commerce, Bureau of the Census and Bureau of Economic Analysis; Board of Governors of the Federal Reserve System; and the National Association of Purchasing Management. Consi~meroutla\-s accounteel for tliost of the first-c~u:~rtersurge. Real personal clisposxhle income increasecl at a he;llthy year-over-year clip cluring the .i\.inter months. t'~1e1ing strong expenclitilre growth as well as some improvement in tiouseholcl balance sheets. New home sales declined slightly in March. but remain at high levels ancl continue to shon. strong ).ear-overyear p i n s (9.4%)). Housing starts ancl 1,~lilclingpermits also remain at health!. levels. Another major component o f the first qi~arter'sfavorable growth performance xvas inventor); a c c ~ ~ m u l a tion. February's inver~tory-to-sales ratios (the latest available clata) appeared low :lt the manufacturing, \vholesale, and retail levels. Any si~hsecli~ent buildup is likely to have Ixen intended and shoulcl not h~uiiper near-term growth. 13usiness fixecl investment I~oi~ncleel z~he~icl in the first cluarter at twice the rate of total GDP, contill~lingthe investment boom that startecl in 1991. Computersaalld relateel proclucts ;~ccounteclfor ~ilostof this p i n . Iiesiclential investment reversecl a t\vo-c~i~~"rer clecline. Intlc~strialproduction jumpecl approxirn;~tely 0.9% in April. with gains in every component. The indi~strialsector, which has elemonstratecl particularly strong growth since earl). 1996, is operating :it S:i.l?h of capacity. a two-year high. I he l;ttest p~~rchasing man:lgers' suralso confirms the strength of the nation's inclustries. More than j4% of the responclents reportecl higher O L I I I X Iand ~ ostlers growth in April, nlarking the eleventh consecutive monthly reacling above jOo/ii. r . http://clevelandfed.org/research/trends May 1997 Best available copy Labor Markets Change, lhousands of workers FCO ( AVERAGE MONTHLY NONFARM EMPLOYMENT GROWTHa [ Labor Market Conditionsa Average monthly change (thousands of employees) 1996 Year Payrollemployment Goods-producrng Manufacturing Construction Servrce-producrng Services Retall trade Government Household employment 216 16 -8 25 199 100 50 15 232 IQ 1997 Feb. Mar. 237 314 48 109 15 3 31 104 190 205 103 86 21 18 9 33 440 -150 139 -9 17 -25 148 72 53 -27 745 Apr. 142 -57 -14 -44 199 93 32 32 209 Average for period Civfl~anunemployment rate (%) Manufacturing workweek (hourslb Manufactur~ng overtrme (hourslb 5.4 41.5 4.5 5.3 5.3 5.2 4.9 41.9 41.9 42 1 42.2 4.9 5.0 4.8 4.7 *-- 10 Feb Mar Apr. 1997 1991 1992 1993 1994 1995 1996 1997 to dale Percent Percent 85 Percent change, year over year 80 75 70 65 60 55 50 45 1990 1991 1992 1993 1994 1995 1996 1997 40 a. Seasonally adjusted. b. Production and nonsupervisory workers. c. Vertical line indicates break in data serles due to survey redesign. SOURCE: U.S. Department of Labor, Bureau of Labor Statistics. Lalmr marlict groxvth in April rnatchccl ivlarch's slow pace. \\;it11 nonklrm payroll employment rising 142,000. Althoi~ghthis figure \\.as weaker than expecteel, overall inclicators continue to s h o ~ vstrength. .rlle . unemployment rate fell from 5.2% to 4.90/ir-its lo\vest level in the more tl1:ln 23 years-\vliile en~ploynient-tc)-~~o~>c1l~ttio11 ratio \vas ~inc.h;ingecl from March's recorcl high. Tlle large clrop in the gooclsprocl~~cing sector (-57,000 jol~s) last ~ n o n t hcan be accountecl for by cteclines in the construction inclustry (-4't.000) clue to baci n.eather ancl in the motor vehicles inclustry (-13,000) I~ecauseof layoffs and strikes. Ilespite an overall downtil1.11 in ~ ~ l a n ~ ~ f i l ~ j017s, t ~ ~ r ithe llg length of' the worltn~eekanel 01-ertime I1ot11 increased slightly (0.1 lioc~r).Inclueel, rnan~lfacturingoverlime in April reachecl a recorcl high of' 5.0 Ilo~lrs. Of' tlie total jobs createcl last month, 199,000 were in the s e n k e - procl~~cin:,:sector. Much of this grolvth stemlnecl from employment in Ix~sincssancl l~calthservices (up 53.000) and eating ancl clrinliing es~ ~ t l ~ l i s l i ~ n(up e n t s46.000), t\vo ilsu:tIIy rol>~lstincl~~stries. In addition, go\~ernnient rehounded from its i\/I;~rchclo\v-nticli,aclcling 32.000 net nen. jol~slast month. t\vel.age Iioi~rlypay fell slightly in April. cloivn I cent to $12.14, for :tn ;tnnilal incrc:lsc of 3.6%. 9 e . e . e http://clevelandfed.org/research/trends May 1997 Best available copy 9 Employment Costs I Four-quarter percent change Four-quarter percent change 10 INFLATION VERSUS TOTAL COMPENSATION 9 8 7 6 5 4 3 2 - 1 I I I I I I I I I I I l i l 1983 1985 1987 1989 1991 1993 1995 1997 ECI Total Compensation by Occupation and Region Average annual percent change, last: Quartera 1year 3 years White-collar workers 3.4 3.1 3.1 Blue-collar workers 1.2 2.4 2.6 Service occupations 3.5 3.1 2.9 Northeast n.a. 2.6 2.9 South n.a. 3.0 3.0 Midwest n.a. 2.9 2.9 West n.a. 3.5 3.0 Occupation Region a. Seasonally adjusted annualized data. b. F~nance,insurance, and real estate. SOURCE: U.S. De~artmentof Labor, Bureau of Labor Statistics Concerns :il>oi~tinflzitionary pressures in the lalx)r marliet have made the Ilrnployment Cost l~lclex09.3) o n e of the most ;inticip:ltec\ economic inclicators. Ho\vever, the 1997:IQ release showeel little indication of ziny lal>ormarliet overheating. Total co~npcnsationxvas u p just 0.6%)in the first cluarter, Ixinging the total gain over the last year to only 2.')(3/0. \Y;;~ge ancl salary gro\vth continued to increase at a slightly in the last ye:ir), stronger clip (3.3%~ l ~ Ixnefits t rose o n l ~ .2.094. l ' h e benefits inclex llleasures the price of ;I fixed Ixnefits package. When the cost of providing benefits slo\vs. employers can offer the same pacliage ancl higher salaries without r:tising their total labor costs. Although overall compensation gro\vth has been restrainecl, relative gains o r losses are evident for certain groups. Compensation gro\vth \v:;as particularly slow for blue-collar \vorliers in the first quarter (1.2%). :ilthough this was partly clue to a recluction in benefit costs for this g x ~ u pThe . inclustries that typically employ blue-co1l:ir \vorkers (construction ancl manufacturing) also reportecl rninin~alincreases, again in part bec:~useof billing henefit costs. W)rkers in the \vholesale and retail tmcles ;lncl in the finance. insurco11ance, anel real estate i~lcli~stries tinue to enjoy higher-than-a\iesage co~npensationgro\\;th. Regionally, the rein\.igoratecl \vestern states ;ire reporting the highest overall cornpensation g~iins. e . 0 0 0 . http://clevelandfed.org/research/trends May 1997 Best available copy 0 Social Security Insolvency Tr~llionsof dollars Trill~onsof dollars 1 SOCIAL SECURITY OUTGO, INCOME, AND ASSETSC I [SOCIAL SECURITY OUTGO AND NON-INTEREST INCOME^ a. Population age 65 and over d~v~ded by population age 20-64. b. Green lines represent average growth rates. c. Vertical line represents point at which outgo begins to exceed income. SOURCES: 1996 Annual Report of the Board of Trustees of the Federal Old-Age and Survivors Insurance and Disability Insurance Trust Funds; and Economic Report of the President, 1995 and 1997. The surge in L.S. birth rates behveen the micl- 1940s and micl-1960s in~pliesthat ;In increasing share of the popu1;ttion will 11e retirecl in the coming decacles. The so-callecl aged-clepenclency ratio is projectecl to rise 66%)by 2030 ancl to tloul~le between now and 2070. ?'lius. maintaining retirees' living stantlards will r.ec1~1irehigher output per worlier ancl/or reclistril>utio~iof a larger share of oc~tputto\varcl the n~l~\vOrliillg elclerly. Unforti~nz~tel)., l:ll,or procli~cti\~ity has kllle~isince the early 1970s. If c ~ ~ r r etrencls ~ i t contini~e,incre:tses in o ~ ~ t pwill i ~ t not be sufficient to maintain I-etirees' living stanclards ~vithout reclistributing a greater share of output towarcl them. The niajor c11:1nnel for cloing so is the L7.S. Social Security System. Official projections suggest that under current payroll tax and benefit rules. the Social Security trclst fund lvill be !>solie I y the year 2029. Totd Soci:ll Security income will begin to kill short of total outgo in 2019. Thereafter. tri~stfclncl assets will he atAe to rn:iintain benefits at current levels ~rntilthe elate of insolvency. Social Seci~rityassets, hon.ever, are "investeel" escli~si\-elyin goiwnment securities, \vit11 the interest financecl out of non-payroll taxes. Once payroll tax revenue falls stlort of manclatecl I~enefitpayments, nonpz~yrolltax revenue will have to be tapped to cover the clif-ference. I-fence, the date of Social Security's insolvency shonlcl be I>ased o n the elate \\;lien pziyro11 tax revenue can no longer cover current l~enefits,not when trust funel assets are e s hailsteel. Uncles current projections. the former m.il1 o c c ~ l rit1 the year 2012-just foils years after the olclest 11al1y 1x)omers retire. 1 http://clevelandfed.org/research/trends May 1997 Best available copy Medicare Insolvency Bill~onsoi dollars I 400 MEDICARE OUTGO, INCOME, AND ASSETS Thousands of 1991 dollars I Index, 1982-84 = 100 1 250 MEDICAL-CAREAND CONSUMER PRICE INDEXES I Billions oi dollars SOURCES: Health Care Financing Administration; Congressional Budget Office; and Office of Management and Budget T h e Hospital Insurance trilst fund (iMeclic:ue-I'art A). a.hich covers hospit:~l services, home hei~lthcare, hospice stays, anel skillecl nursing services for the elclerly, is in much deeper troul~lethan Social Security. Like Social Secl~rity,the Medicare t ~ u s fi111d t holcls government securities in its portfolio. These "assets" are projecteel to be exhausted hy the yeas 2001. F-Io\vever. the f~lnd's total annual income is alreacly lower t'n:ln annilal outgo. implying that some non-payroll taxation is alreacly being clevotecl to rectemption of government securities held in the trust f~lncl'sportfolio. The shortfall in Medicare's finances has been causecl, in large part. by escalating health care prices. Since 1983, the Medical-Care Price Index has increasecl much faster than the general price level. One factor that helps to explain this trend is higher denland for medical services: Real per capita spending on these services has risen dramati- cally over the last two clecacles. The Clinton administmtion's budget for fiscal year 1998 proposes lowering rein~bursementsfor health care provitlers ancl reforming the paynlent system for home healtl~ care ancl sltilletl nursing services. Aclministsation officials project that this would save $100 I~illionover five years, extentling illedicare's solvency until 2007. &lore than 85% of the recluctions, however. :ire scheduleel to o c c ~ in ~ rthe year 2000 or later. 6- 2 e . . . . O http://clevelandfed.org/research/trends May 1997 Best available copy Q Banking Conditions Percent Percent 3.5 3.0 2.5 2.0 1.5 1.0 Percent Percent Percent 10 Percent Percent 1995 Percent AII lnstttutlons Less than $100 mlllton ~nassets $1 btlllon to $10 b~lllonIn assets More than $1 0 b~lltonIn assets $100 mtlllon to $1 b~lllon~nassets SOURCE Federal Deposit Insurance Corporation The latest statistics on insured IJ.S. commercial hanks confirrll the inciustry's strength. In 1996, 1)anks' $52.4 billion earnings proclucecl a 1.19% return on assets (IiOA), the second-highest annual posting ever and just below 1993's record high 1.20(%.In 1995, banks e2irnecl S48.8 hillion. \ ~ h i c hresultecl in a 1.17% ROA. The improvement in banl<s' profitabilit-);can be tr;lcecl m:linly to non-interest i~lcome.Hetween 1995 ancl 1996, the ratio of non-interest inconle to total assets incre;~sed from 2.29% to 2.45%. Banks' profits were affecteci only slightly by the lower yield 011 earning assets hecause their cost of funding fell by nearly an equal amount. The i~~lproved profitability statistics, however, hicle two potential problems-the first in the small hzlnlt community and the seconcl in the indust~y'sasset quality. Frorll 1995 to 1996. the lumber of ~lnprofitzlble banks rose significantly-the result of a deteriorating performance by the nation's sr~lallhanks (those with assets below $100 million). Of the 6,659 small banlts in existence in 1995. 4.0% were iinprofitable. By 1996. the number of these institutions hacl fallen to 6.205. but the unprofitable share had ballooned to 5.3%. (co~tiuzlec/on 12e.xtpclge) e 0 . e B e http://clevelandfed.org/research/trends May 1997 Best available copy e Banking Conditions (cont.) Percent of loans charaed off Percenl of loans charged ofi Percent of loans charged off Percent of loans charaed off C] AII ~nstitut~ons $1 billion to $10 billion in assets Less than $100 rilllion in assets 1$100 m~llionto $1 b~ll~on en assets More than $10 b~llionin assets a. Includes farm loans. SOURCE: Federal Deposit Insurance Corporation The n~uiil,crof ~~nprofit;it)le small institutions \\-as reflectecl in the group'slKOA, xvliicli clroppccl from 1.18%1in 1995 to 1.17'H, in 1996. This recluction, thoi~glinegligible. t>ecotnes more ~iie:lningSul when cornp;~ecI\\-it11 the incre:~sein KOAs postecl 12)- the three c:ltegories of larger I,anlis. Non-interest income :incl the cost of f~lntlinge;lrniny: assets xvere the prirnar); contri1,utors to small Imnks' poorer perti)rmance. Last ve:u ;rlso saw a cleterior-ation loans cliargecl off to total assets in o n e i~nportantindicator of lmlk asset q~~:llity--theratio of net chargeclimbed from 1.73% in 1995 to offs to loans and leases. Net loan 2.29% in 1996. Again. the largest charge-offs were $3.3 billion higher increase was reported by the gr0~1p in 1996 t h m in 1995, growing from of banlis with assets between $1 0.49% to 0.58%. Although all f o ~ ~ r I>illionancl 810 1,illion. banli size groups reported higher ra\Vorsening consumer loan y ~ ~ a l i t y stems mainly from problems with tios, the largest uptick occurrecl in banlis with assets between $1 t~illion credit card loans. Betxveen 1995 ant1 and $10 billion. S~xallbanlis posted 1996, net charge-offs of these 1o:ins grew by $2.7 billion. As a result, the lo\vest increase. The cleterioration in loan q~lality they accou~ltedfor 61.1% of all loans was largely co~lcentrateclin loans to charged off last year. indi\.iciu;lls. The ratio of consumer http://clevelandfed.org/research/trends May 1997 Best available copy The Benefits of NAFTA Long-run Effects of NAFTA NAFTA: A Prisoners' Dilemma Gamea (Percent deviation from pre-NAFTA steady state) Canada Mexico Welfare Real GDP Real consumption Labor hours Real wages Capital investment Imports Exports U.S. - Rest of world - 0.01 0.11 0.96 3.26 0.12 0.24 0.01 0.01 0.08 0.07 0.09 2.52 1.99 2.12 0.25 0.14 0.25 0.01 0.00 0.01 0.1 6 0.29 0.37 5.05 12.47 13.87 0.37 1.40 1.46 0.01 0.14 0.02 Mexico Status quo Liberalize trade quo 0, 0 0.4, -2.7 Liberalize trade -0.2,3.5 0.1, 1.o Status U.S. a. Columns and rows list strategies. Payoffs (net welfare gains) are for U.S. on the right and Mexico on the left. SOURCE: Michael A. Kouparitsas. "A Dynamic Macroeconomic Analysis of NAFTA." Federal Reserve Bank of Chicago. Economic Perspectives, January1 February 1997. pp. 14-35. The North America11 Free pI'r-adc Agreement (X!\F1;\), nhich t<)olieffect o n Januaq- 1, 199~t.\\-ill cilrt;iil 11~1stI~:~rriers to tr:lde ; L I I ~ invcstnlent hetween Canada. A/lesico. :tncl the U.S. by the tirile it is fully impletllentecl in 2004. Althoi~gliccono~llistsgenerally espect that the increasecl speci:iliz:ition ant1 t ~ i c l e :tssoci:~tecl n.itli the agreement xvill confer significant 13cncf'its o n all 1';~rticipating coilntries. rnost stilelies have shown these g:lins to he rcl;itively small. Mo\\.ex,er. this researcli cloes not incorporate the irlipact of le on the pace of the t ~ ~ cagreement c:ipital ;~ccumiilation. i\n important new study of NAI:?i\ (by Michael ICouparitsas of the I:cclerc~l Reserve I3anlc of Chicago) adjusts for this cleficiency zinc1 reports output anel consumption gains that are approsim;~tely twice as lai-ge as 11lost previoils estimates. I-Io~vever,it also fincls thxt the o\.erall \velfare gains (the utility associatecl \\~ith consumption ancl leisilre) :Ire comparatively srnall I)ecause NAFrA raises worli effort. I~erhapSf"irt1ierextensions that accomrnoclate popi11:ltion gro\vth ant1 tlxcle-inclucecl procluctivity :~clvances ill uncover 1:irger ~velku-egains. While clemonstrating that free rr-acle \\-ill malie Mesico, the U.S., :tncl Canacla better off, Iioiiparits:ls sh0n.s th:tt IIO c o ~ i n t ~l~enefits y from ilni1:iteral t ~ i c l elil>er:ilization. I:orrnal :igreenients like NAF?'I\ are neccssziry to resolve the prisoners' di1emm:i game inherent in t ~ ~ clible clxlizations ancl to secure tlie benefits o f free tracle. - . . International .. Trade http://clevelandfed.org/research/trends May 1997 Best available copy / 0 . . B~ll~ons of U S. dollars 85 45 1992 1993 1994 1995 1996 1997 -12 -10 -8 -6 -4 B~llions01 U.S. dollars -2 0 2 Index 1973=100 lo8 RELATIVE ECONOMIC GROWTHC 107 - 106 - 105 - 104 - 1970 1975 1980 1985 1990 1995 a. Seasonally adjusted data. b. Year to date. c. Ratio of foreign real GDP or GNP to U.S. real GDP. Foreign countries and trade weights are those used to construct the Federal Reserve Board's tradeweighted dollar index. Projections for 1997 and 1998 are from The Economist, April 26-May 2, 1997. SOURCES: Board of Governors of the Federal Reserve System; U.S. Department of Commerce, Bureau of the Census; International Monetary Fund, International Financial Statistics; and The Economist, April 26-May 2, 1997. T h e U.S.merch:~ndise tsxcle cleficit ~l;~rro\ved to $10.4 l)illi~nin Fehruary, I ~ u thas clearly wiclened over the current business esl~ansion. The U.S. 111ai1lt;lins cleficits with nearly all regions of the globe Trzlcle l~alancesultimately rellect countries' saving r~ncl investment decisions. Ileficit co~lntries consume more resources th:m they procluce ancl pay for these resources 1,y 1,orrowin.g fsom foreigners. 'I'lli~s, economic factors that affect the tl-acle balance 111ust also alter saving ancl investlnent decisions. Although their direct connections to saving and investnlent seer11 remote and tenuous, relative rates of economic growtll and real exchange rates often act as proxir~latet h o ~ ~ gi~~~precise-deterl~lillal~tts h of the tracle balance. Holding other factors constant, estimates suggest that U.S. exports keep pace with imports only when foreign economies expanel at twice the U.S. rate. Over the nest two years, growth patterns will prol~al>lynot meet this condition. Economists expect foreign econolllic activity to expxlcf approxilllately 2.3(%ancl 2.7% respectively, cluring 1997 :inel 1998, \vhile U.S. economic gro\vth is projecteel to rise 2.8% ancl 2.0% over the same years. This year's sharp appreciation of the real trade-weighted clollar (8%) compo~111ds the i~nplicationof these economic growth projections for the 1I.S. tracle deficit.
@FedFRASER