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Confidential (FR) Class III FOMC

Part 2

January 26, 2005

CURRENT ECONOMIC
AND FINANCIAL CONDITIONS
Recent Developments

Prepared for the Federal Open Market Committee
by the staff of the Board of Governors of the Federal Reserve System

Confidential (FR) Class III FOMC

January 26, 2005

Recent Developments

Prepared for the Federal Open Market Committee
by the staff of the Board of Governors of the Federal Reserve System

Domestic Nonfinancial
Developments

Domestic Nonfinancial Developments
Overview
The economy appears to have expanded at a solid pace in the final quarter of 2004.
Household spending rose at a brisk pace, and residential construction activity remained
at a high level. Growth of demand in the business sector was strong as well: Outlays
for equipment and software posted another robust increase, and inventory accumulation
appears to have been rapid. The industrial sector registered broad-based increases in
production. At the same time, private payrolls have expanded at a moderate rate, and
slack in the labor market appears to be dissipating only slowly. Core consumer prices
have increased at a steady but modest pace in recent months. The overall CPI, however,
has been buffeted by sizable movements in energy prices.
Labor Market Developments
Private nonfarm payroll employment rose 181,000 per month, on average, in the fourth
quarter, a significant step-up from 93,000 in the third quarter and on par with average
monthly increases for 2004 as a whole. Boosted by these employment gains, aggregate
hours of production or nonsupervisory workers increased at an annual rate of
2.1 percent last quarter. Meanwhile, measures of labor market slack were little
changed.
In December, private nonfarm payrolls rose 128,000, a gain similar to November’s. By
industry, manufacturing employment edged up 3,000 last month, and the related
industries of wholesale trade (17,000) and temporary help services (9,000) added jobs
as well. Seasonally adjusted employment fell in retail trade (-20,000), as holiday hiring
was below the seasonal norm. But job gains elsewhere in the services-producing sector
were widespread, with solid advances in health care services (36,000), professional and
technical services (29,000), and financial activities (14,000). Average weekly hours of
production or nonsupervisory workers bounced back 0.1 hour last month to their
October level of 33.8 hours.
In the household survey, the unemployment rate held steady at 5.4 percent in December,
and the labor force participation rate ticked down to 66.0 percent after having increased
in October and November.1 The employment-population ratio, which combines these
two measures, was 62.4 percent in December, equal to its third-quarter average and still
1

With December’s employment report, the BLS revised seasonal factors for labor force series going
back to January 2000. The resulting revisions to the unemployment rate and the labor force participation
rate were small.

II-2

Changes in Employment
(Thousands of employees; seasonally adjusted)
2004
Measure and sector

2004

Oct.

Average monthly change
Nonfarm payroll employment
(establishment survey)
Private
Previous
Manufacturing
Construction
Wholesale trade
Retail trade
Transportation and utilities
Information
Financial activities
Professional and business services
Temporary help services
Nonbusiness services1
Total government
Total employment (household survey)
Memo:
Aggregate hours of private production
workers (percent change)2
Average workweek (hours)3
Manufacturing (hours)

Nov.

Dec.

Monthly change

186
172
...
6
22
8
14
9
-1
12
46
17
55
14
146

209
218
218
16
19
5
14
8
4
15
73
23
60
-8
250

134
93
93
5
16
8
-8
9
-8
10
30
17
30
41
123

202
181
...
-2
25
11
5
4
1
14
52
20
70
21
210

312
289
279
-1
60
8
25
8
4
14
95
53
78
23
300

137
125
104
-9
7
8
9
1
1
15
21
-3
69
12
466

157
128
...
3
7
17
-20
3
-3
14
41
9
63
29
-137

2.4
33.8
40.8

2.2
33.7
40.9

3.1
33.8
40.8

2.1
33.8
40.5

.3
33.8
40.6

-.2
33.7
40.5

.4
33.8
40.5

1. Nonbusiness services comprises education and health, leisure and hospitality, and "other."
2. Establishment survey. Annual data are percent changes from Q4 to Q4. Quarterly data are percent changes from preceding
quarter at an annual rate. Monthly data are percent changes from preceding month.
3. Establishment survey.
... Not applicable.

Changes in Private
Payroll Employment

106

2002 = 100
106

104

500

Thousands
500

Aggregate Hours of Production or
Nonsupervisory Workers

104

3-month moving average
400

400

300

300
Dec.

200

100

102

100

Dec.

102

100

-100

-200

-300

-400

1997 1998 1999 2000 2001 2002 2003 2004

-400

1997 1998 1999 2000 2001 2002 2003 2004

II-3
Selected Unemployment and Labor Force Participation Rates
(Percent; seasonally adjusted)
2004
Rate and group

2004

Oct.

Nov.

Dec.

Civilian unemployment rate
16 years and older
Teenagers
20-24 years old
Men, 25 years and older
Women, 25 years and older

5.5
17.0
9.4
4.4
4.4

5.6
16.9
9.6
4.5
4.5

5.4
17.1
9.3
4.3
4.2

5.5
17.2
9.8
4.3
4.2

5.4
16.5
9.2
4.3
4.3

5.4
17.6
8.9
4.4
4.2

Labor force participation rate
Total
Teenagers
20-24 years old
Men, 25 years and older
Women, 25 years and older

66.0
43.8
75.0
75.3
59.3

66.0
43.7
74.9
75.3
59.2

66.0
44.1
75.3
75.3
59.2

66.0
43.9
75.8
75.2
59.1

66.1
44.3
75.1
75.4
59.3

66.0
44.1
75.0
75.2
59.3

Labor Force Participation Rate
and Unemployment Rate

Percent
67.4

Percent
7.0

67.2

6.5

67.0

6.0
Participation rate (left scale)

66.8

5.5
66.6

Dec.

5.0

66.4
4.5

66.2

65.8

4.0

Unemployment rate (right scale)

66.0
1994

1995

1996

1997

1998

1999

2000

65.0
64.5

64.0

63.5

2003

3.5

2004

Percent
4.0

64.5

64.0

2002

Persons Working Part-Time
for Economic Reasons

Employment-Population Ratio
Percent
65.0

2001

63.5

63.0

Dec.

63.0

62.5

62.0

61.5

Dec.

3.5

3.0

2.5

62.5

62.0

(Percent of household employment)

4.0

61.5

61.0

1994

1996

1998

2000

2002

2004

61.0

2.0

1994

1996

1998

2000

2002

2004

2.0

II-4

Labor Market Indicators
Layoffs and Hires
Unemployment Insurance

Job Openings and Hires

Millions
4.5
4-week moving average

Thousands
550

Percent of private employment
3.6

Percent of private employment
4.2

3.4

4.0

500
Jan. 8
Insured unemployment
(left scale)

3.5

Hires
(right scale)

3.2
450

3.8

3.0

3.6
Nov.

2.8

3.0

3.4

400
2.6

2.5

350

1.5

1990

1992

1994

1996

2.2

1998

2000

2002

3.0

2.0

Jan. 15

Initial claims
(right scale)

2.0

3.2

Openings
(left scale)

2.4

2.8

300

2004

250

1.8

2001

2002

2003

2.6

2004

Source. Job Openings and Labor Turnover Survey.

Expectations
Net Hiring Plans

Expected Labor Market Conditions
Percent
30

Index
140

Michigan SRC
(right scale)

Manpower, Inc.
25

25
Q1

Jan.(p)

120

100

Index
120

100

Dec.
10

1990

1992

1994

1996

1998

2000

2002

60
Conference Board
(left scale)

National Federation of
Independent Businesses
(3-month moving average)

80
Jan.

2004

1990

1992

1994

1996

1998

2000

2002

2004

Note. The proportion of households expecting labor
market conditions to improve, minus the proportion
expecting conditions to worsen, plus 100.

Note. Percent planning an increase in employment
minus percent planning a reduction.

Labor Market Tightness
Positions Hard to Fill

Job Availability
Percent
40

150

Index
150

130

3-month moving average
35

30
Dec.

110

Jan.

1990

1992

1994

1996

1998

2000

2002

2004

Note. Percent of firms surveyed with at least one
"hard to fill" job opening.
Source. National Federation of Independent Businesses.

1990

1992

1994

1996

1998

2000

2002

2004

Note. The proportion of households believing jobs
are plentiful, minus the proportion believing jobs are
hard to get, plus 100.
Source. Conference Board.

II-5

only a bit above the lows reached in the middle of 2003. Mirroring this pattern, the
percent of employed individuals working part-time for economic reasons (an alternative
indicator of labor market slack) has only edged down from its 2003 highs.

Other labor market indicators point to continued moderate gains in employment early
this year. The four-week moving average of initial claims for unemployment insurance
was 341,000 for the week ending January 15 and has fluctuated within a narrow range
centered on 340,000 since last spring. According to the Job Openings and Labor
Turnover Survey, the rate of hires in the private sector jumped in November to its
highest level since January 2001, and, despite moving down in November, the rate of
job openings remained above the average level seen in the first half of 2004.
Employers’ net hiring plans are approaching pre-recession peaks, according to indexes
from both Manpower Inc. and the National Federation of Independent Businesses
(NFIB). Although individuals’ expectations of future labor market conditions as
gauged by the Conference Board and the Michigan Survey have changed little, on net,
over the past year, they remain well above their cyclical lows.
Recent surveys also show that, to date, firms and workers have noticed only a moderate
amount of tightening in the labor market. Although the share of small businesses
finding positions to be hard to fill ticked up last month according to the NFIB, it has
increased only modestly from the low point reached in 2003 and remains below levels
prevailing in the mid-1990s. The view from the opposite end of the labor market is
similar, according to the Conference Board, as individuals believe that jobs are still
relatively difficult to find.
Industrial Production
The pace of expansion in the industrial sector picked up in the fourth quarter, and gains
were broadly based across industries. Total IP rose at an annual rate of 4.1 percent, a
step-up from the more subdued third-quarter rate and just a bit less than the average
quarterly increase for 2004. Manufacturing output also rose at a 4.1 percent rate in the
fourth quarter—which was about the same pace as that of the previous quarter, and the
5 percent increase for the year as a whole was the largest increase since 1999. Output at
mines declined in the fourth quarter, largely the result of a drop in natural gas
extraction, while utilities output rose at a rapid clip. The rate of capacity utilization

II-6

Selected Components of Industrial Production
(Percent change from preceding comparable period)
Proportion
2004

Component

2004

20041

(percent)

2004
Q4

Oct.

Annual rate
Total
Previous

Nov.

Dec.

Monthly rate

100.0
100.0

4.2
...

2.7
3.2

4.1
...

.8
.6

.2
.3

.8
...

82.5
75.0
70.3

5.0
5.2
4.3

4.0
4.5
3.8

4.1
3.2
2.5

.9
.7
.7

.1
.1
.0

.7
.7
.6

Mining
Utilities

7.6
9.9

-1.5
2.3

-2.0
-4.7

-1.3
8.7

.0
-.2

2.2
-.1

.4
2.7

Selected industries
High technology
Computers
Communications equipment
Semiconductors2

4.8
1.2
1.3
2.3

18.6
7.6
9.6
29.2

15.6
-1.0
22.3
20.0

14.0
17.2
13.3
12.9

.8
1.6
1.3
.2

1.7
1.5
2.3
1.5

1.7
1.4
.3
2.6

Motor vehicles and parts

7.5

2.5

-1.1

14.4

3.5

-.8

Market groups excluding
energy and selected industries
Consumer goods
Durables
Nondurables

22.3
4.4
17.9

3.5
1.9
3.9

1.4
-2.9
2.5

2.5
1.2
2.8

.8
.7
.8

-.1
.2
-.1

.4
.9
.3

Business equipment
Defense and space equipment

7.5
1.9

9.4
6.9

11.7
9.1

2.5
8.0

.9
.3

-.6
1.0

1.2
1.4

Construction supplies
Business supplies

4.2
8.3

4.2
3.1

3.6
1.6

1.6
.6

.7
.4

-.1
-.1

.3
.6

25.1
13.6
11.5

3.8
4.7
2.6

4.3
5.5
2.9

2.6
4.4
.3

.5
.7
.2

.3
.4
.1

.5
.5
.4

Manufacturing
Ex. motor veh. and parts
Ex. high-tech industries

Materials
Durables
Nondurables

1. From fourth quarter of preceding year to fourth quarter of year shown.
2. Includes related electronic components.
... Not applicable.

Capacity Utilization
(Percent of capacity)
19722003
average

1982
low

19901991
low

Nov.

Dec.

Total industry

81.1

70.8

78.6

77.9

78.2

78.8

78.6

79.2

Manufacturing
High-tech industries
Excluding high-tech industries

79.9
78.6
80.0

68.5
74.1
68.2

77.2
74.3
77.3

76.5
69.7
77.2

77.0
69.9
77.8

77.6
69.7
78.4

77.4
69.7
78.3

77.8
70.1
78.7

Mining
Utilities

87.1
86.9

78.6
77.7

83.5
84.2

86.6
85.1

86.3
83.7

86.1
85.1

86.6
84.3

87.0
86.5

Sector

2004

II-7

climbed to 79.2 percent at the end of the 2004, 2.4 percentage points above its year-ago
level but still 1.9 percentage points below its 1972-2003 average.2
Overall, the production of high-tech goods rose at an annual rate of 14 percent in the
fourth quarter, a pace somewhat slower than that seen earlier in the year.
Semiconductor manufacturers posted strong gains in December. Moreover, strongerthan-expected sales in the fourth quarter have helped Intel eliminate much of its excess
inventories, and the company’s strong earnings forecast for the first quarter, coupled
with its plans to press ahead with the release of next-generation chips for both laptops
and high-end servers, suggests solid gains in real semiconductor output in the near term.
The production of computers also moved up respectably in December, and output of
communications equipment edged up following larger increases in October and
November.
Forward-looking indicators of activity for the high-tech industries are mostly consistent
with moderate production gains in coming months. Industry contacts were notably
optimistic about the outlook for servers, and they cited several factors that suggest
sustained production increases in 2005, including a shift in demand toward
more-expensive models, the arrival of new high-end products from IBM, and the onset
of a server-replacement cycle. Reinforcing this outlook, Gartner reported that PC sales
rose in the fourth quarter. CIO Magazine diffusion indexes for future spending on
computer hardware and on networking equipment edged down in December for the
second consecutive month, but the levels of these indexes remain elevated.
In transportation equipment, motor vehicle assemblies rose 200,000 units in the fourth
quarter of 2004 to an annual rate of 12.0 million units; the increase contributed to a
jump of 14½ percent in the output of motor vehicles and parts. Over the four quarters
of 2004, motor vehicles and parts rose 2½ percent. The output of military aircraft and

In the annual revision of industrial production, capacity, and capacity utilization that was published in
December, the rate of capacity utilization was revised up nearly 1 percentage point in recent quarters. The
higher utilization rates were concentrated among electric and gas utilities, mining, and high-technology
industries. Overall changes to total IP were small; the rise in output in 2002 is now shown to have been
slightly stronger than previously reported, and the increases in 2003 and 2004 are somewhat smaller.
Recent production increases for high-technology industries are now estimated to have been lower than
previously estimated.

II-8

Indicators of High-Tech Manufacturing Activity

Industrial Production in the High-Tech Sector

High-Tech Capacity Utilization Rates

1997 = 100, ratio scale

Percent
1000
800

Semiconductors

100

Computers and peripherals

600
80
Dec.

Computers
200

Dec. 70

400

Communications equipment
40
1999

2000

2001

2002

2003

100

2004

Microprocessor Unit (MPU) Shipments
and Intel Revenue

Communications equipment
1998

1999

2000

2001

2002

2003

2004

Intel Inventories-to-Shipments Ratio

Billions of dollars, ratio scale

Ratio

Intel revenue

9.5
9.0

0.45

8.5

0.40

0.35

8.0
7.5
7.0

0.30

6.5
0.25

0.25

5.5

0.20

5.0

0.15

6.0
Worldwide MPU shipments
1999
2000
2001
2002
2003
2004
2005
Note. Q1 is the range of Intel’s guidance as of Jan. 11, 2005.
FRB seasonals.
Source. Intel and Semiconductor Industry Association.

Millions of units, ratio scale

0.66
0.60

Millions of units, ratio scale
17
Q4
16
Q1

PCs (right scale)

0.54

2003

2004

2005

0.15

15
14

Index
75

Dec.

0.48

0.42
0.36

2002

CIO Magazine Future Spending
Diffusion Indexes

U.S. Personal Computer and Server Sales
0.78
0.72

1999
2000
2001
Note. FRB seasonals.

55
Data networking equipment

Servers (left scale)

50
Computer hardware

0.30

1999
2000
2001
2002
2003
2004
2005
Note. FRB seasonals. Values for Q4 servers and Q1 PCs are
Gartner forecasts.
Source. Gartner.

45
2001
2002
2003
2004
Note. The diffusion index equals the percentage of respondents planning to increase future spending plus one-half the
percentage of respondents planning to leave future spending
unchanged.
Source. CIO Magazine.

II-9

Indicators of Manufacturing Activity

Industrial Production Diffusion Index

Motor Vehicle Assemblies
Index

75
70

3-month change

Annual rate

70
Dec.

Millions of units
15

1999
2000
2001
2002
2003
2004
2005
Note. The diffusion index equals the percentage of
series that increased over 3 months plus one-half the
percentage that were unchanged.

13
+Jan.

1999
2000
2001
2002
2003
2004
2005
Note. January value is based on Ward’s latest production
schedules.

Industrial Production: Military and
Civilian Aircraft

New Orders: ISM and
FRB Philadelphia Surveys
1997=100

Diffusion index
150

80
75

130

Military aircraft

70
FRB Philadelphia survey

Dec.

65
Dec.

110

Jan.
90

60
55
50
45

Civilian aircraft

ISM

40
35

1999

2000

2001

2002

2003

2004

2005

1999
2000
2001
2002
2003
2004
2005
Note. The diffusion index equals the percentage of
respondents reporting greater levels of new orders plus
one-half the percentage of respondents reporting that
new orders were unchanged.

Manufacturing Investment
Index
90

Percent change
40

Investment (right scale)

-10
ISM capital spending plans (left scale)

1970

1972

1974

1976

1978

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

Note. Manufacturing investment data are from the Annual Survey of Manufacturers; figures for 2002 and 2003 are staff estimates.
The ISM series is a diffusion index that equals the percentage of respondents reporting plans to increase investment plus one-half the
percentage reporting no plans to change investment.

-20

II-10

equipment, which continued to climb briskly, was up more than 12 percent in 2004. In
contrast, commercial aircraft production was up only slightly from its year-ago level.
Excluding high-tech, transportation, and energy, production of business equipment rose
noticeably less in the fourth quarter than it did in the third, as the production of
industrial and other equipment flattened after sharp increases earlier in the year.
Production of both construction and business supplies as well as of materials also
decelerated somewhat in the fourth quarter. In contrast, production of consumer goods
accelerated a bit—though to a still-moderate rate—with most of the greater strength in
the production of durables.
Most of the forward-looking indicators of production, as well as reports from the staff’s
industry contacts, suggest that activity in the industrial sector will expand at a moderate
pace in coming months. For example, the ISM diffusion index of new orders moved up
in December. The various regional diffusion indexes of new orders, some of which
now extend through January, moved down but were still at levels suggestive of further
gains in production. Finally, the limited weekly data we have in hand suggest that
manufacturing IP will increase moderately in January.
In the ISM’s Semiannual Economic forecast that was released in December, the number
of manufacturing purchasing managers indicating that their companies plan to increase
capital expenditures in 2005 exceeded the number indicating a planned decrease. If
historical norms hold true, this diffusion index—coupled with the still-low
manufacturing operating rate of 77.8 percent in December—would be consistent with
an increase in nominal capital spending by manufacturers in 2005 of about 5½ percent,
a shade higher than the forecast for 2004. As a result, we now estimate that
manufacturing capacity in 2005 will increase around 1½ percent, a rate slightly faster
than the 1¼ percent pace seen in 2004.
Motor Vehicles
Sales of light vehicles surged 2 million units in December to an annual rate of 18.3
million units, the highest monthly sales rate since October 2001. For the fourth quarter
as a whole, light-vehicle sales were up about 100,000 units. The December jump in
sales occurred even though the average value of incentives declined for a fourth
consecutive month; indeed, from September through December, the average value fell
more than $450. According to industry reports, sales were boosted by a pickup in
advertising and other inducements that do not show up in our incentive series. Also,

II-11
Sales of Light Vehicles
(Millions of units at an annual rate; FRB seasonals)
2004
Category

2003

Total

2004

Oct.

Nov.

Dec.

16.6

16.5

17.1

17.2

16.9

16.3

18.3

7.6
9.0

7.5
9.1

7.3
9.7

7.7
9.5

7.5
9.4

7.3
9.0

8.3
10.0

North American1
Autos
Light trucks

13.3
5.5
7.8

13.1
5.3
7.9

13.8
5.3
8.5

13.6
5.4
8.2

13.1
5.1
8.1

12.9
5.1
7.8

14.6
5.9
8.7

Foreign-produced
Autos
Light trucks

3.3
2.1
1.2

3.4
2.2
1.2

3.3
2.0
1.2

3.6
2.3
1.3

3.8
2.5
1.3

3.5
2.2
1.2

3.7
2.3
1.4

.33

.40

.44

.48

.45

.46

.52

Autos
Light trucks

Memo:
Medium and heavy trucks

Note. Components may not sum to totals because of rounding. Data on sales of trucks and imported autos for the most
recent month are preliminary and subject to revision.
1. Excludes some vehicles produced in Canada that are classified as imports by the industry.

Sales of Light Vehicles

Michigan Survey Index of Car-Buying Attitudes

Millions of units, annual rate

Index
19.0

Dec.

165

18.5

160

18.0

155

17.5

Jan.

150

17.0

135

15.5
2003

140

16.0

2002

145

16.5

130

15.0

2004

2000

2001

2002

2003

Note. FRB seasonals. Adjusted for shifts in reporting
periods.

Average Value of Light Vehicle Incentives
(Current dollars per vehicle; n.s.a.)

2004 model year

2005 model year

Incentives,
all models

Incentives

Sales
share1

Incentives

Sales
share1

2004: Sept.
Oct.
Nov.
Dec.

2356
2208
1936
1905

2801
2890
2789
2660

74
55
32
23

1126
1323
1508
1680

25
45
67
77

2005: Jan.2

1889

2355

1794

Period

Note. Incentives include cash rebates and average values of interest subvention.
1. Percent of total sales. Shares may not add to 100 percent because of other model-year
vehicles that are still being sold.
2. Based on data through January 16.
Source. J.D. Power and Associates.

2004

2005

125

II-12

Production of Domestic Autos and Trucks
(Millions of units at an annual rate except as noted; FRB seasonals)
2004
Item
U.S. production
Autos
Trucks
Days’ supply2
Autos
Trucks
Inventories3
Autos
Trucks

2005
Q11

2004
Oct.

Nov.

Dec.

12.1
4.3
7.8

11.8
4.3
7.6

12.0
4.1
7.9

12.4
4.6
7.9

12.1
4.1
8.0

11.9
4.1
7.8

12.1
4.3
7.7

77
62
88

72
62
79

73
58
82

n.a.
n.a.
n.a.

76
66
83

78
64
87

67
53
77

3.33
1.09
2.24

3.26
1.08
2.18

3.21
1.02
2.19

n.a.
n.a.
n.a.

3.27
1.09
2.18

3.26
1.06
2.20

3.21
1.02
2.19

Note. Components may not sum to totals because of rounding.
1. Production rates for the first quarter reflect the latest schedules from Ward’s Communications.
2. Quarterly and semiannual values are calculated with end-of-period stocks and average reported sales; excludes medium
and heavy trucks.
3. End-of-period stocks; excludes medium and heavy trucks.
n.a. Not available.

much of the decline in the average value of incentives appears to reflect a shift in sales
from more heavily discounted 2004 model-year vehicles to new 2005 models, rather
than reductions in effective prices on individual vehicles.3
Over the first half of January, the overall average value of incentives per vehicle has
changed little: Incentives on 2005 models have increased, but with lower inventories of
2004 models, incentives have been cut back for these vehicles. 4 The Michigan SRC
index of car-buying attitudes dipped in early January, in part a result of less-favorable
views on interest rates.
In December, total motor vehicle production was 12.1 million units (annual rate), up
from a rate of 11.9 million units in November. Despite the surge in sales in December
and the modest increase in production last month, inventories held by domestic
producers remained high through year-end, especially for light trucks. Days’ supply of
total light vehicles last quarter was about unchanged from the third-quarter level and
stood at about 73 days. Nevertheless, manufacturers’ assembly plans for January call
for a further step-up in total motor vehicle production to a pace of 12.5 million units.

Seasonal adjustment is able to mitigate only a small part of this mix shift because of irregularities in
the series’ seasonal pattern.
4
Incentives on 2004 models still remained above those on 2005 models over the first half of January.

II-13

Retail and Food Services Sales
(Percent change from preceding period; seasonally adjusted current dollars)
2004
Category

Oct.

Nov.

Dec.

4.2
4.2
4.2
4.2
2.9
14.5
3.9
3.2

Total sales
Previous estimate
Retail control1
Previous estimate
GAF2
Gasoline stations
Food services
Other retailers3

Q3
1.4
1.4
1.4
1.4
1.0
2.2
1.5
1.5

2.5
...
2.4
...
1.7
6.1
2.0
1.9

1.0
.8
1.4
1.3
1.1
5.5
1.3
.5

.1
.1
.4
.4
.0
1.2
.1
.6

1.2
...
.3
...
.5
-2.0
.5
.4

1. Total retail trade and food services less sales at building material and supply stores and automobile
and other motor vehicle dealers.
2. Furniture and home furnishing stores; electronics and home appliance stores; clothing and
accessories stores; sporting goods, hobby, book, and music stores; and general merchandise stores.
3. Health and personal care stores, food and beverage stores, electronic shopping and mail-order
houses, and miscellaneous other retailers.
... Not applicable.
Real PCE Goods Excl. Motor Vehicles

Real PCE Services

Billions of chained (2000) dollars
2940
Dec.

4418

2885

4380

2830

4342

2775

4304

2720

4266

2665

4228

2610

4190

2940
2885

2610

Quarterly average
Staff estimate

2003

2004

Quarterly average

Billions of chained (2000) dollars
4418
Nov.

2003

4190

2004

Note. December value is a staff estimate.

Change in Real Wages and Salaries, Other Real DPI, and Real Personal Consumption
Percent, annual rate
12

12
10

Real wage and salary disbursements
Other components of real DPI
Real personal consumption

-2

-2
H1

H2
2003

Q3
2004

Oct. Nov.

II-14

For the first quarter as a whole, production schedules are at an annual rate of 12.4
million units.
Consumer Spending
Consumer spending expanded briskly last quarter, supported by rising wealth, solid
increases in income, and an upbeat mood among consumers. In the retail control
category of goods—which excludes auto dealers and building material and supply
stores—nominal spending increased 0.3 percent in December after having risen
0.4 percent in November. Factoring in the relevant measure of prices, which declined
in both November and December as gasoline prices dropped, we estimate that real
spending in the control category advanced at a rapid clip at the end of the year—enough
to bring the quarterly increase in real PCE for goods excluding motor vehicles and parts
to an estimated 4¾ percent. Real outlays on consumer services rose 0.3 percent in
November, close to the strong gains posted in September and October.
Real disposable personal income moved up at an average annual rate of about
2½ percent in the first three quarters of the year and continued that pace of advance in
October and November. (Although complete income data for December are not yet
available, wages and salaries apparently posted a moderate increase last month.5) Still,
the increase in consumer spending outstripped income gains through November, and the
personal saving rate slid to ¼ percent, down ¼ percentage point from the third quarter
and a full percentage point from a year earlier. Meanwhile, the ratio of household net
wealth to income was boosted significantly last year by increasing housing and equity
values.
According to surveys by both the Michigan SRC and the Conference Board, consumer
sentiment remained favorable in January. The levels of both indexes are consistent with
continuing solid gains in consumer spending early this year.
Housing Markets
Starts of single-family homes rebounded in December to an annual rate of 1.68 million
units, an increase that more than reversed a sharp decline in November. For the fourth

The BEA’s advance estimate of the increase in real disposable income in December, which will be
published next week, is likely to be boosted 3.3 percentage points (on a monthly, not annual, basis) by
Microsoft’s dividend payout. However, the accompanying decline in the company’s stock price seems to
have had a largely offsetting effect on household financial resources. Thus, the net effect on personal
consumption should be small.

II-15

Household Indicators

Household Net Worth and Wilshire 5000
Index
15000

Ratio
7.0

13000

6.5

Dec.
Wilshire 5000
(left scale)

11000

6.0
Q3

9000

5.5

7000

5.0

Ratio of household net worth to DPI
(right scale)

5000
3000

4.5

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

4.0

Personal Saving Rate
7

Percent
7

1
Nov.

0
-1

0
1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

-1

Consumer Confidence
1985 = 100
160

1966 = 100
120
Michigan SRC
(right scale)

140

110

120

100
Jan. (p)
Jan.

100
80

60
40

Conference Board (left scale)
1994

1995

p Preliminary.

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

II-16

quarter as a whole, single-family starts averaged 1.61 million units, about the same as
the average during the first three quarters of the year. Moreover, because the backlog of
permits for single-family homes remained high in December, starts likely have
remained at a high level in January.6 Multifamily starts in December came in at an
annual rate of 326,000 units, about the same as in November. The average reading in
those two months was about 7 percent lower than the average during the first ten
months of 2004. However, the rise in the backlog of permits for multifamily homes in
both November and December points to a rebound in starts in January.
The most recent data on home sales weakened some. Sales of existing homes slipped
3¼ percent in December to an annual rate of 6.69 million units; still, this sales pace was
slightly more than the average pace during the January-November period. New home
sales fell 12 percent in November (the most recent observation) to an annual rate of 1.13
million units, about 6 percent lower than the average pace during the first ten months of
2004. However, key indicators of demand have remained favorable. The thirty-year
fixed-rate mortgage rate has changed little, on balance, since August, averaging about
5¾ percent. Similarly, the one-year adjustable mortgage rate has changed little since
last May, averaging about 4.1 percent over that period. The four-week moving average
of the Mortgage Bankers Association index of mortgage applications for home purchase
has declined during the past few weeks, and the most recent reading is near the low end
of the range seen during the past year. The Michigan Survey’s index of homebuying
sentiment in December and early January was somewhat higher than the levels seen last
fall.
Home prices have continued to rise rapidly. The average price of existing homes was
up 8.2 percent in December from a year earlier. The twelve-month change in the
average price of new homes has fluctuated widely of late, but the average for October
and November (the most recent observations) was about 8 percent higher than in the
same period in the previous year.7 The repeat-transactions price index for existing
homes, which measures the value of the same units over time, rose 13 percent in the

By definition, the change in the backlog equals permits minus starts minus permit cancellations. The
level of permits—after adjusting for activity in areas where permits are not required—was lower than the
level of starts last month; in itself, this figure pulled down the permit backlog. However, permit
cancellations in December were negative, which boosted the backlog. Negative cancellations may result
from errors in the data.
7
The twelve-month change in the average price of new homes was 16½ percent in October and close
to zero in November.

II-17

Private Housing Activity
(Millions of units; seasonally adjusted annual rate except where noted)
2004
Sector

2004

Oct.

Nov.

Dec.

1.95
2.02

1.92
2.02

1.97
2.01

1.96
2.02

2.07
2.02

1.81
2.03

2.00
2.02

1.61
1.57
1.58
.148
n.a.
6.68

1.60
1.57
1.60
.136
1.21
6.79

1.63
1.57
1.60
.142
1.16
6.68

1.61
1.56
1.59
.148
n.a.
6.79

1.66
1.56
1.59
.136
1.28
6.76

1.48
1.55
1.57
.146
1.13
6.92

1.68
1.56
1.60
.148
n.a.
6.69

.35
.45
.075

.32
.45
.058

.34
.44
.067

.35
.47
.075

.40
.46
.063

.32
.48
.072

.33
.46
.075

n.a.

All units
Starts
Permits
Single-family units
Starts
Permits
Adjusted permits1
Permit backlog2
New home sales
Existing home sales
Multifamily units
Starts
Permits
Permit backlog2
Mobile homes
Shipments

.127

.128

n.a.

.141

.139

n.a.

1. Adjusted permits equal permit issuance plus total starts outside of permit-issuing areas.
2. Number outstanding at end of period. Seasonally adjusted by Board staff. Excludes permits that have
been canceled, abandoned, expired, or revoked. Not at an annual rate.
n.a. Not available.

Private Housing Starts
(Seasonally adjusted annual rate)
Millions of units
2.2

2.2

Dec.

2.0

1.8

2.0

1.8

Total
Dec.

1.6

1.4

1.2

Single-family

1.0

Multifamily

.4
Dec.

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

II-18

Indicators of Single-Family Housing
Existing Home Sales

New Home Sales

7000

1500

Thousands of units
1500

1300

Thousands of units
7500

7500

1300

7000
Dec.

6500

6000

5500

5000

Nov.

1100

900

4500

1998

1999

2000

2001

2002

2003

2004

2005

4500

700

1100

900

1998

1999

2000

2001

2002

2003

2004

2005

700

Source. Census Bureau.

Source. National Association of Realtors.

Mortgage Rates

Homebuying Indicators
Percent
9

9
Fixed rate

Diffusion index
120
MBA purchase index (right scale)
Michigan homebuying attitudes (left scale)
100

Index
550
500

Jan. 21

Jan. (p)

450
400

Jan.

350
300

Adjustable rate
Jan.

4
3

1998

1999

2000

2001

2002

2003

2004

2005

Note. The January readings are based on data
through Jan. 19.
Source. Freddie Mac.

200

Prices of New Homes

Percent change from year earlier
14
Q3
12

Repeat transactions
Average price of homes sold

1998 1999 2000 2001 2002 2003 2004 2005

Note. MBA index is a 4-week moving average. Michigan
Survey data are not seasonally adjusted.
p Preliminary.
Source. Mortgage Bankers Association and Michigan Survey.

Prices of Existing Homes
14

250

Percent change from year earlier
25

Constant quality
Average price of homes sold

Dec.

-5

1998

1999

2000

2001

2002

2003

2004

Source. For repeat transactions, OFHEO; for
average price, National Association of Realtors.

2005

Nov.
1998

1999

2000

2001

Source. Census Bureau.

2002

2003

2004

2005

5
0
-5

II-19

Equipment and Software Investment Fundamentals

Real Business Output
Percent change from year earlier
8

6
Q3

-2

-4

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

-4

Real Corporate Cash Flow
Percent change from year earlier
30

10
Q3

-10

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

-10

User Cost of Capital

(Includes the effects of the partial-expensing tax incentive)
250

High-Tech

2000 = 100, ratio scale

250

108

Non-High-Tech

2000 = 100, ratio scale

108

158

122

104

100

100
96

194

104

194

122

Q3
50

1990

1992

1994

1996

1998

2000

2002

2004

1990

1992

1994

1996

1998

2000

2002

2004

84
80

II-20

third quarter from a year earlier.8 The constant-quality price index for new homes—
which controls for changes in the geographic composition of sales, home size, and a few
other readily measurable attributes—was up 6¼ percent in the third quarter from a year
earlier.
Equipment and Software
Business outlays for equipment and software look to have increased at a solid pace last
quarter, though not as briskly as the 18 percent (annual rate) gain recorded in the third
quarter. It appears that stronger growth in business purchases of high-tech gear in the
fourth quarter was more than offset by a significant deceleration in spending on
transportation and other equipment. Nevertheless, underlying fundamentals remain
consistent with robust growth in investment demand: Business output continues to
expand, firms remain flush with cash, and although the partial-expensing tax provision
has now expired, the cost of capital remains favorable because of low interest rates.
Furthermore, anecdotal reports, business surveys, and our business contacts offer an
optimistic reading on near-term capital spending plans.
In the high-tech sector, nominal shipments of computing equipment dropped 4 percent
in November (not at an annual rate), but this decline reversed only a fraction of the
sizable gain posted in the previous month, and orders for computers moved up in
November. Coupled with ongoing steep declines in computer prices, real outlays for
computing equipment are poised for an appreciable increase in the fourth quarter.
Shipments of communications equipment, which have been inching up since last spring,
increased further in November, and the backlog of orders fell. Coupled with higher net
imports of communications gear through November and falling prices, the latest data
suggest that real spending on communications equipment also increased modestly in the
fourth quarter.
Business spending on light motor vehicles likely fell in the fourth quarter despite an
estimated uptick in December.9 In contrast, sales of medium and heavy trucks rose in
the fourth quarter, and purchases in December were up more than 14 percent. Orders
8

A version of the index that excludes the appraised values of refinanced properties—which are not
sales prices—was up 10 percent in the third quarter from a year earlier and shows a smoother acceleration
in recent years.
9
Staff estimates suggest that light-vehicle fleet sales to businesses jumped ½ million units at an annual
rate in December. The BEA splits light-vehicle sales between businesses and consumers on the basis of
data on vehicle registrations, which it obtains from R.L. Polk with a lag. Thus, at this juncture, it is
impossible to determine for certain the strength of business light-vehicle demand in December.

II-21

Orders and Shipments of Nondefense Capital Goods
(Percent change; seasonally adjusted current dollars)
2004
Indicators

Sept.

Annual rate

Oct.

Nov.

Monthly rate

Shipments
Excluding aircraft
Computers and peripherals
Communications equipment
All other categories

9.0
9.2
8.9
8.7
9.4

14.1
15.0
10.9
11.8
16.2

-.3
-.3
2.8
-8.4
.3

2.2
2.4
8.5
-.4
1.6

-2.5
-1.8
-4.0
2.3
-1.9

Orders
Excluding aircraft
Computers and peripherals
Communications equipment
All other categories

15.1
7.8
36.9
13.5
2.4

25.5
14.1
5.6
-10.9
19.7

3.2
5.4
17.4
-8.2
5.2

-3.2
-4.0
-9.8
.8
-3.4

7.1
.8
4.0
-1.9
.5

Memo:
Shipments of complete aircraft1

25.7

27.8

27.2

30.3

23.8

1. From Census Bureau, Current Industrial Reports; billions of dollars, annual rate.

Computers and Peripherals

Communications Equipment

Billions of dollars, ratio scale

12
Shipments
Orders

12
11

10
Nov.

Billions of dollars, ratio scale

21
18

Shipments
Orders

21
18
15

12
9

1999

2000

2001

2002

2003

2004

2005

Nov.

1999

2000

Medium and Heavy Trucks
890
740
650
560

2002

2003

2004

2005

Other Equipment

Thousands of units, ratio scale
Sales of class 4-8 trucks
Net new orders of class 5-8 trucks

2001

Dec.
Dec.

890
740
650
560

Billions of dollars, ratio scale

51
Shipments
Orders

51
48

Nov.
45

380

290

200

470

380
290

200

1999
2000
2001
2002
2003
2004
2005
Note. Annual rate, FRB seasonals.
Source. For class 4-8 trucks, Ward’s Communications;
for class 5-8 trucks, ACT Research.

1999

2000

2001

2002

2003

2004

2005

II-22

Nonresidential Construction and Indicators
Real Construction
(Seasonally adjusted, annual rate; nominal CPIP deflated by
BEA prices through Q3 and staff projection thereafter)

Total Structures

Office and Commercial

290

Billions of chained (2000) dollars
290

270

250

Billions of chained (2000) dollars
70

250

Commercial
60

60
Nov.

50
230
210

230
210

Office

190
170

Nov.
1997 1998 1999 2000 2001 2002 2003 2004 2005

190
170

30
Nov.

Manufacturing and Power &
Communication

1997 1998 1999 2000 2001 2002 2003 2004 2005

Other
75

Billions of chained (2000) dollars
75

Billions of chained (2000) dollars
60

Power & communication
50

40
Nov.

30
20

Manufacturing

Nov.

20
Nov.

10
0

1997 1998 1999 2000 2001 2002 2003 2004 2005

10
0

1997 1998 1999 2000 2001 2002 2003 2004 2005

Note. Includes religious, educational, lodging, amusement
and recreation, transportation, and health-care facilities.

Indicators
Vacancy Rates

Drilling Rigs in Operation
Percent
18

1200

1000

800

600

Number
1200

400

Jan.
15
12

Office

Q3
Industrial
Q3

9
6

800

Natural gas

600
400
Petroleum

Retail
3

1000

200

200
Jan.

1997 1998 1999 2000 2001 2002 2003 2004 2005
Source. National Council of Real Estate Investment
Fiduciaries.

1997 1998 1999 2000 2001 2002 2003 2004 2005
Note. Jan. values are averages through Jan. 21.
Source. DOE/Baker Hughes.

II-23

for heavy (class 8) trucks have been particularly strong. Backlogs for these vehicles
climbed steadily throughout 2004 and in December were at their highest level since late
1999. Business purchases of aircraft likely increased moderately in the fourth quarter.
Smoothing through the lumpiness in the monthly data, shipments of aircraft by
domestic producers in October and November were about unchanged from the previous
quarter, but imports of jets strengthened.
Outside of high-tech and transportation, nominal shipments of nondefense capital goods
fell in November, retracing the gains posted in September and October. Orders in this
category ticked up after having seesawed in the preceding two months. As noted in
previous Greenbooks, the partial-expensing tax provision provided an especially strong
incentive to purchase the types of equipment included in this category because such
equipment is treated as depreciating slowly. We had originally expected investment in
this sector to surge most dramatically just before year-end, but the available data
suggest that the surge may have occurred somewhat earlier. However, distinguishing
the effect of the tax provision from the influence of other factors and the inherent
volatility in the data is quite difficult.
Nonresidential Construction
Real outlays for nonresidential structures have edged down, on balance, in recent
months. Spending on commercial structures posted robust gains through August of last
year but has slipped since then. Real construction of office buildings has been declining
since last spring, and the vacancy rate, although down some recently, remains high.
Real construction of manufacturing structures has been essentially flat—at a very low
level—since the latter part of 2002, and the recent data show no evidence of an upturn.
Investment in drilling and mining structures trended up through the first three quarters
of last year in response to higher prices for natural gas, and the further rise in the
number of rigs drilling for natural gas through year-end points to another increase in
this sector’s investment in the fourth quarter.
Business Inventories
The book value of manufacturing and trade inventories excluding motor vehicles surged
in October and November. Given the observed changes in prices, these data imply a
sizable contribution from real non-auto inventory investment to the fourth-quarter
increase in real GDP. Inventory accumulation was widespread among manufacturers,
wholesalers, and retailers, as well as across stages of production. Inventory-sales ratios
have been about flat since the middle of last year after having fallen considerably over

II-24

Changes in Manufacturing and Trade Inventories
(Billions of dollars; seasonally adjusted book value; annual rate)
2004
Sector

Sept.

Oct.

Nov.

82.0

120.4

84.1

-.3

66.3

147.3

55.6

94.1

75.9

35.3

115.1

114.1

Manufacturing
Ex. aircraft

24.0
25.6

38.9
39.0

32.3
33.9

4.8
15.1

48.1
47.4

39.5
31.6

Wholesale trade
Motor vehicles and parts
Ex. motor vehicles and parts

23.5
3.2
20.3

33.7
1.3
32.4

39.1
3.3
35.7

21.9
-3.2
25.2

43.0
-5.2
48.2

44.0
1.6
42.4

Retail trade
Motor vehicles and parts
Ex. motor vehicles and parts

34.5
23.1
11.4

47.7
25.0
22.7

12.8
4.9
7.9

-27.1
-32.4
5.3

-24.8
-43.6
18.8

63.9
31.7
32.2

Manufacturing and trade
Ex. wholesale and retail
motor vehicles and parts

Book-Value Inventories Relative to Shipments and Sales
Ratio
1.700

1.700
Retail trade ex. motor vehicles and parts

1.525

1.525
Manufacturing

1.350

1.350
Nov.

1.175

1.000

1.175

Wholesale trade ex. motor vehicles and parts

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

1.000
2005

Inventory-Consumption Ratios, Flow-of-Goods System
Days’ supply
64

62
Total

56
Total ex. motor vehicles and parts

Dec.

48
46

50
48

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

46
2005

II-25

the previous three years. But even with the recent spurt of stockbuilding, the fraction of
purchasing managers in the ISM survey who viewed customers’ inventories as too high
in December was only a bit above the third-quarter reading and well below the fraction
who viewed those inventories as too low.
Data from the staff’s flow-of-goods inventory system indicate that inventories fell back
in December after having moved up in the previous two months. Inventories are
estimated to have remained elevated relative to consumption for a few products,
including motor vehicles, semiconductors, paper, leather and allied products, and
chemicals excluding pharmaceuticals. Nonetheless, the aggregate days’ supply of
inventories continued to edge down in December.
Federal Government Sector
Recent data point to some improvement in the budget outlook. According to the
Monthly Treasury Statement, the federal government recorded a $3 billion deficit in
December, down considerably from the $18 billion deficit posted in December 2003.
The budget deficit over the twelve months ending in December was $401 billion,
similar to the level recorded over the comparable period a year earlier but below the
levels recorded last spring.
Although outlays have been increasing strongly, receipts have been rising even more
rapidly. Receipts in December jumped 15½ percent above the level posted a year
earlier: Corporate income tax collections surged, and individual income and payroll
taxes rose despite the damping effects of last year=s tax cuts.
Outlays, adjusted for financial transactions and payment timing shifts, rose 7½ percent
in December over year-earlier levels, similar to the pace seen over the past two years.
Defense spending was 10 percent higher in December than a year ago, while growth in
Medicare and Medicaid last year was subdued. Other spending has been relatively
strong over the past few months, with large increases posted in education grants,
disaster relief, and international affairs.
CBO’s just-released Economic and Budget Outlook report shows a baseline deficit for
fiscal 2005 of $368 billion, falling to $295 billion in fiscal 2006. Because of scoring
conventions, these baseline figures exclude the budget effects of future appropriations
for the war in Iraq and future extensions of expiring tax provisions. CBO estimates that
the budget deficit including these programs would be nearly $400 billion in both fiscal

II-26

Federal Government Outlays and Receipts
(Unified basis; billions of dollars except as noted)
12 months ending
in December

December
Function or source

2003

2004

Outlays
Financial transactions1
Payment timing2
Adjusted outlays

204.4
.1
12.1
192.2

219.2
.4
12.4
206.3

Receipts
Payment timing
Adjusted receipts

186.7
.0
186.7

Surplus or deficit (-)
Selected components
of adjusted outlays
and receipts
Adjusted outlays
Net interest
Non-interest
National defense
Social Security
Medicare
Medicaid
Income security
Agriculture
Other
Adjusted receipts
Individual income and
payroll taxes
Withheld + FICA
Nonwithheld + SECA
Less: Refunds
Corporate
Gross
Less: Refunds
Other
Adjusted surplus or deficit (-)

Percent
change

2003

2004

7.2
...
...
7.4

2194.6
-1.0
.4
2195.1

2327.0
-1.7
.2
2328.4

6.0
...
...
6.1

215.7
.0
215.7

15.5
...
15.5

1795.5
.0
1795.5

1926.2
.0
1926.2

7.3
...
7.3

-17.6

-3.4

...

-399.1

-400.7

...

192.2
13.6
178.6
38.3
40.4
23.6
15.4
26.7
3.3
30.8

206.3
13.6
192.7
42.1
42.5
24.0
15.7
27.1
4.1
37.3

7.4
.4
7.9
9.8
5.0
1.6
1.9
1.4
25.5
21.1

2195.1
153.5
2041.7
418.0
479.1
251.7
164.6
335.7
25.5
367.0

2328.4
163.1
2165.3
464.3
501.7
275.6
178.0
334.0
20.4
391.3

6.1
6.3
6.1
11.1
4.7
9.5
8.2
-.5
-20.2
6.6

186.7

215.7

15.5

1795.5

1926.2

7.3

134.0
129.4
6.3
1.7
39.3
44.1
4.8
13.4

152.0
145.4
8.1
1.6
51.9
54.1
2.2
11.8

13.4
12.4
28.2
-9.5
32.2
22.9
-53.6
-11.7

1464.7
1368.6
289.2
193.1
142.0
201.4
59.4
188.8

1521.9
1419.8
289.0
186.9
208.6
243.5
34.9
195.7

3.9
3.7
-.1
-3.2
47.0
20.9
-41.3
3.6

-5.4

9.4

...

-399.6

-402.2

...

Note. Components may not sum to totals because of rounding.
1. Financial transactions consist of deposit insurance, spectrum auctions, and sales of major assets.
2. A shift in payment timing occurs when the first of the month falls on a weekend or holiday, or
when the first three days of a month are nonworking days. Outlays for defense, Social Security,
Medicare, income security, and "other" have been adjusted to account for these shifts.
... Not applicable.

II-27

CBO Budget Projections and Economic Assumptions

2005

2006

2007

2008

Baseline
budget projections1
(fiscal years)
Total surplus
On-budget
Off-budget

2009

2010

2011

2012

2013

2014

2015

Billions of dollars

-368
-541
173

-295
-484
190

-261
-471
210

-235
-464
229

-207
-454
246

-189
-451
262

-80
-357
277

71
-217
289

85
-212
298

115
-190
305

141
-169
310

-398
-30
-30
0
0

-384
-89
-70
-16
-3

-390
-129
-75
-45
-9

-381
-146
-65
-65
-16

-362
-155
-45
-86
-24

-346
-157
-30
-95
-32

-397
-317
-25
-248
-44

-376
-447
-26
-358
-63

-404
-489
-27
-378
-84

-421
-536
-27
-401
-108

-443
-584
-28
-422
-134

4.5
2.7
2.2

4.4
2.6
2.2

4.4
2.5
2.2

Adjusted budget
(fiscal years)
Adjusted surplus
Total adjustments
Iraq
Expiring taxes
Debt service

Economic assumptions
(calendar years)
Nominal GDP
Real GDP
CPI-U

Percent change, year over year
5.7
3.8
2.4

5.3
3.7
1.9

5.4
3.7
2.1

5.2
3.4
2.2

5.0
3.1
2.2

4.8
2.9
2.2

4.6
2.8
2.2

Percent, annual average
Unemployment rate

5.2

Treasury yields
Three-month
Ten-year

2.8
4.8

4.0
5.4

4.6
5.5

1. The on-budget surplus excludes the Social Security surplus and the Postal Service (which are off-budget).
The baseline assumes that budget authority for discretionary programs grows with inflation after fiscal 2005.
In addition, it assumes that no new mandatory spending or tax legislation is enacted.
Source. Congressional Budget Office, The Budget and Economic Outlook (January 2005).

II-28

State and Local Employment and Construction
Employment
Thousands
60

60
Quarterly average of monthly changes

-15

2000

2001

2002

2003

-15

2004

Construction Put in Place
Billions of dollars
230

230
Monthly

Nov.

210

190

170

150

130

110

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

II-29

2005 and 2006, essentially the same as the $412 billion deficit recorded in fiscal 2004.
Both the baseline and adjusted baseline deficits improve over the 2007-2015 period as
outlays are projected to decline as a share of GDP over time.
State and Local Governments
Spending by state and local governments appears to be rising. Employment in this
sector has now increased for six consecutive months, and the quarterly gains during the
second half of 2004 were the largest since the end of 2001. While much of the recent
strength has been at educational establishments, steady increases were reported outside
of education as well. Following a large drop in August, state and local outlays for
construction rose steadily through November to bring the level of spending back near
the elevated range seen earlier last year.
Most legislatures reconvene in January, and governors are making their state-of-thestate speeches and introducing budget proposals for fiscal 2006 (which begins July 1 for
all but four states). Revenue growth has strengthened over the past year in most states.
However, even with tax bases expected to remain strong, some states will still have to
deal with lingering fiscal difficulties, such as depleted reserve funds, the expiration of
temporary tax hikes, and rising Medicaid costs. In addition, with anti-tax sentiment still
strong, legislatures are unlikely to enact significant tax increase during the upcoming
legislative cycle. A number of key states still have severely strained budgetary
situations. One example is California, where the governor continues to promise that
taxes will not be raised; the state is likely once again to borrow in financial markets and
to restrain some spending programs. Meanwhile, the situation in New York is not as
grim as once expected: A $1 billion surplus is now being forecast for fiscal 2005,
which ends March 31 for that state, and receipts in fiscal 2006 are expected to be higher
than previously thought.
Prices
The overall consumer price index declined 0.1 percent in December—following a
0.2 percent increase in November—as consumer prices for oil products fell and prices
for food held steady. Over the twelve months ending in December, the CPI increased
3.3 percent, up nearly 1½ percentage points from the year-earlier period. About half of
the past year’s CPI acceleration was the direct result of a sharp increase in consumer
energy prices, but core consumer price inflation also picked up 1 percentage point.
Following October’s sharp increase, the CPI for energy edged up only a bit in

II-30

Measures of Inflation
(Percent)
12-month change

3-month change

1-month change

Annual rate

Monthly rate

Dec.
2003

Dec.
2004

Sept.
2004

Dec.
2004

CPI
Total
Food
Energy
Ex. food and energy
Ex. tobacco
Core commodities
Core services
Chained CPI (n.s.a.) 1
Ex. food and energy 1

1.9
3.6
6.9
1.1
1.1
-2.5
2.6
1.5
.7

3.3
2.7
16.6
2.2
2.3
.6
2.8
2.9
1.9

.6
1.3
-9.8
1.8
1.8
-.9
3.0
...
...

PCE prices 2
Total
Food
Energy
Ex. food and energy
Ex. tobacco
Core commodities
Core services
Core market-based
Core non-market-based

1.6
2.9
6.7
1.1
1.1
-2.3
2.5
1.0
1.3

2.3
2.6
17.3
1.4
1.4
.1
2.0
n.a.
n.a.

PPI
Total finished goods
Food
Energy
Ex. food and energy
Ex. tobacco
Core consumer goods
Capital equipment
Intermediate materials
Ex. food and energy
Crude materials
Ex. food and energy

4.0
7.7
11.4
1.0
1.1
1.1
.8
3.9
2.1
19.5
21.6

4.1
2.8
13.4
2.2
2.3
2.0
2.4
9.1
8.3
18.0
20.1

Measures

Nov.
2004

Dec.
2004

3.0
3.0
10.4
2.0
2.0
1.4
2.1
...
...

.2
.2
.2
.2
.2
.1
.2
...
...

-.1
.0
-1.8
.2
.1
-.1
.2
...
...

.5
1.6
-9.2
.9
.9
-2.1
2.2
.7
2.0

2.0
2.7
10.8
1.3
1.3
.6
1.6
n.a.
n.a.

.1
.2
.2
.1
.1
.0
.2
.2
.0

.0
.0
-2.0
.1
.1
-.1
.2
n.a.
n.a.

.5
-8.0
7.1
1.6
1.6
1.3
2.0
7.5
9.6
-20.4
51.3

6.3
8.7
18.2
2.6
2.7
2.3
3.1
5.3
4.6
46.7
27.5

.5
.4
1.8
.2
.2
.2
.2
.8
.4
8.7
2.5

-.7
.1
-4.0
.1
.1
.1
.1
-.3
.5
-2.9
-1.7

1. Higher-frequency figures are not applicable for data that are not seasonally adjusted.
2. PCE prices in December are staff estimates.
... Not applicable.
n.a. Not available.

II-31

November and fell 1.8 percent in December. Consumer prices of motor fuel fell
markedly last month, as spot prices for crude oil declined about $5 per barrel in
December and plentiful inventories restrained markups of retail gasoline prices over
crude oil costs. Retail gasoline prices continued to decline through mid-January in
response to December’s drop in crude oil costs. However, with crude oil prices moving
back up in January, retail gasoline prices began to rise again around mid-month. The
CPI for natural gas moved up somewhat further in December after November’s large
increase despite an ample level of inventories.
Consumer food prices increased 0.2 percent in November and were unchanged in
December. The deceleration in December reflected a decline in the CPI for fresh fruits
and vegetables following the earlier massive price increases caused by the hurricane
damage to crops in Florida. Over the twelve months ending in December, overall food
prices rose 2.7 percent, nearly 1 percentage point less than over the preceding year.
Excluding food and energy, the CPI rose 0.2 percent in both November and December.
The twelve-month change in core consumer prices was 2.2 percent in December, up
from the extraordinarily low 1.1 percent rate posted in December 2003. The increase in
core consumer price inflation over the past year was concentrated in goods prices,
which moved up 0.6 percent in 2004 after dropping 2½ percent in 2003 and 1½ percent
in 2002. Although much of the pickup in core goods inflation occurred as higher costs
for imports, energy, and core intermediate materials were passed through to consumer
goods prices, some of the pickup appears to reflect transitory factors that are not readily
explainable: In particular, prices of new and especially used motor vehicles accelerated
last year after their plunge in 2003. In contrast, core services prices rose 2.8 percent in
2004, up just ¼ percentage point from the rate posted in 2003 and noticeably lower than
the increases in the three previous years.
The core PCE price index has accelerated by much less than the core CPI over the past
year. In particular, core PCE prices increased 1½ percent over the twelve months
ending in November (the last available observation), an acceleration of only
¼ percentage point from the preceding year.
The difference in the acceleration in the core CPI and the core PCE price index stems
from several factors. Medical services prices accounted for much of the difference. In
November, the twelve-month change in the CPI for medical services was about
1 percentage point higher than the year-earlier increase; in contrast, PCE medical

II-32

Energy Prices and Inventories
(Data from Energy Information Administration except as noted)

Total Gasoline Margin

Gasoline Price Decomposition
Cents per gallon

105

Cents per gallon

105

Retail price less WTI spot price*
100

100

Jan. 24

195

Retail price*

Jan. 24

155

155
Jan. 24

115

WTI spot price

2003

2004

* Average of all grades (DOE) seasonally adjusted,
less West Texas intermediate spot price.

2003

* Average of all grades (DOE) seasonally adjusted.

Gasoline Inventories

Heating Oil Inventories
Millions of barrels

235

235
Average historical range
Current year

230

2004

230

225

220

215

Average historical range
Monthly
Weekly

225

220

Millions of barrels

65
60

215

210

205

200

195

190

190
J

2004
Note. Average historical range calculated by Energy
Information Administration.

Dollars per million BTU

2003

Note. Spot price, Henry Hub.

Natural Gas Inventories

13
12
11
10
9
8
7
6
5
4
3
2
1
2002

2004
Note. Historical range calculated by FRB staff.

Natural Gas Prices

2001

2004

13
12
11
10
9
8
Jan. 24 7
6
5
4
3
2
1
2005

Billions of cubic feet
3500

3500
Historical range, 1999-2003
Present year

3000

2500

2000

1500

1000

500

2004
Note. Historical range calculated by FRB staff.

500

II-33

Core Consumer Price Inflation
(12-month change except where noted)

CPI and PCE excluding Food and Energy

PCE excluding Food and Energy

Percent
3

CPI
Core PCE
2

Dec.
Dec.

PCE
1

CPI
chained

1
Market-based components

1999

2000

2001

2002

2003

2004

2005

1999

2000

2001

2002

2003

2004

2005

Note. December value is a staff estimate.

CPI excluding Food and Energy

CPI Services and Commodities
Percent

Percent
4

3-month change, annual rate
3

Services ex. energy

Dec.

2
Commodities ex. food and energy

Dec.

1999

2000

2001

2002

2003

2004

2005

-1

-2

-3

1999

2000

2001

2002

2003

2004

2005

-3

II-34

Broad Measures of Inflation
(Percent change, Q3 to Q3)
Measure

2001

2002

2003

2004

Product prices
GDP price index
Less food and energy

2.4
2.1

1.5
1.9

1.8
1.5

2.3
2.1

Nonfarm business chain price index

1.9

1.0

1.1

1.8

Expenditure prices
Gross domestic purchases price index
Less food and energy

1.9
1.9

1.5
1.8

1.9
1.5

2.6
2.1

PCE price index
Less food and energy

2.0
2.0

1.6
1.9

1.7
1.1

2.2
1.5

PCE price index, market-based components
Less food and energy

1.9
1.8

1.2
1.5

1.8
1.1

2.3
1.4

CPI
Less food and energy

2.7
2.7

1.6
2.2

2.2
1.3

2.7
1.8

Chained CPI
Less food and energy

2.1
2.1

1.3
1.8

1.9
1.0

2.2
1.4

Median CPI
Trimmed mean CPI

3.7
2.7

3.3
2.1

2.0
1.8

2.5
2.1

Surveys of Inflation Expectations
(Percent)
University of Michigan
1 year 2

5 to 10 years 3

Actual
CPI
inflation 1

Mean

Median

Mean

Median

Professional
forecasters
(10-year) 4

2003:Q1
Q2
Q3
Q4

2.9
2.1
2.2
1.9

3.2
2.6
2.8
3.0

2.8
2.2
2.3
2.6

3.0
3.1
3.1
3.1

2.7
2.7
2.7
2.8

2.5
2.5
2.5
2.5

2004:Q1
Q2
Q3
Q4

1.8
2.9
2.7
3.3

3.1
4.0
3.3
3.4

2.7
3.3
2.9
3.0

3.4
3.3
3.1
3.1

2.9
2.8
2.8
2.8

2.5
2.5
2.5
2.5

2004:July
Aug.
Sept.
Oct.
Nov.
Dec.
2005:Jan.

3.0
2.7
2.5
3.2
3.5
3.3
n.a.

3.5
3.1
3.2
3.6
3.3
3.4
3.5

3.0
2.8
2.8
3.1
2.8
3.0
2.9

3.1
3.1
3.1
3.2
3.1
3.1
3.2

2.8
2.7
2.8
2.8
2.7
2.8
2.8

...
...
2.5
...
...
2.5
...

Period

1. Percent change from the same period in the preceding year.
2. Responses to the question: By about what percent do you expect prices to go up, on
average, during the next 12 months?
3. Responses to the question: By about what percent per year do you expect prices to go up,
on average, during the next 5 to 10 years?
4. Quarterly CPI projections compiled by the Federal Reserve Bank of Philadelphia.
... Not applicable.
n.a. Not available.

II-35

services decelerated nearly 1 percentage point over this period. Some of this divergence
likely reflects the narrower scope of CPI medical services: PCE medical services
include some components (for example, Medicare and Medicaid reimbursements and
non-market prices) that are not covered in the CPI.10 In addition, the PCE medical
services prices are mostly derived from source data other the CPIs—in particular, the
PCE medical services prices depend heavily on the producer price indexes.
Another part of the differential acceleration in the core CPI and core PCE price index
arises from the inclusion of non-market prices (other than those in medical services) in
the PCE price index. In particular, the non-market category for imputed financial
service charges declined sharply over the twelve months ending in November after
having changed little over the preceding twelve-month period. Excluding all nonmarket-based components, the core PCE price index moved more closely in line with
the core CPI (accelerating ¾ percentage point to a 1.7 percent increase over the twelve
months ending in November).
According to this month’s preliminary release of the Michigan Survey, median
expectations for inflation over the coming year edged down to 2.9 percent in early
January. Median expectations for inflation over the next five to ten years—at
2.8 percent—were unchanged and remained within the narrow range reported over the
past several years.
The PPI for capital equipment edged up 0.1 percent in December, the smallest monthly
increase since July. Over the twelve months ending in December, however, prices of
capital equipment rose 2½ percent, compared with an increase of only ¾ percent over
2003 and a decline in 2002.
The PPI for core intermediate materials rose 0.5 percent in December, following
slightly smaller increases in October and November. Although these figures are down
from the outsized increases in the first three quarters, core intermediate prices stood
8¼ percent above their year-earlier level in December, compared with a 2 percent rise
over the twelve months of 2003. The pickup in these prices reflects rising capacity
utilization, higher prices for imported industrial materials, and the continued passthrough of the earlier increases in energy prices.

Because of this difference in scope, medical care has a much larger weight in the PCE index than in
the CPI.

II-36

Commodity Price Measures
Total

Journal of Commerce Index
Ratio scale, 1996=100

120
116

120
Metals

130

112

Jan.
110

Dec
2004

108
Jan
2005

100
Metals

136

132

Total

128

124
70

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

60
2006

120
Dec
2004

116
Jan
2005

CRB Spot Industrials
Ratio scale, 1967=100

360

CRB Industrials
Jan.

320

330

320
280
Dec
2004

310
Jan
2005

240

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

200
2006

CRB Futures
Ratio scale, 1967=100

290

Jan.
270

CRB Futures

250

290
280

230
210

300

Dec
2004

270
Jan
2005

190

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

170
2006

Note. Larger panels show monthly average of weekly data through last available week. Smaller panels show weekly data, Tuesdays. Vertical
lines on small panels indicate week of last Greenbook. The Journal of Commerce index is based almost entirely on industrial commodities, with
a small weight given to energy commodities, and the Commodity Research Board (CRB) spot industrials index consists entirely of industrial commodities,
excluding energy. The CRB futures index gives about a 60 percent weight to food commodities and splits the remaining weight roughly equally
among energy commodities, industrial commodities, and precious metals. Copyright for Journal of Commerce data is held by CIBCR, 1994.

II-37
Spot Prices of Selected Commodities
(Percent change except as noted)

Commodity

Current
price
(dollars)

2002 1

2003 1

12/30/03
to
12/7/04 2

12/7/04 2
to
1/25/05

Memo:
52-week
change to
1/25/05

Metals
Copper (lb.)
Steel scrap (ton)
Aluminum, London (lb.)

1.628
202.667
.821

5.6
49.2
2.8

47.9
66.8
16.7

39.8
34.1
16.8

7.8
-6.6
-1.3

41.6
12.8
12.3

Precious metals
Gold (oz.)
Silver (oz.)

424.500
6.710

24.3
3.8

20.7
24.6

8.5
32.2

-6.0
-15.0

4.6
3.2

Forest products 3
Lumber (m. bdft.)
Plywood (m. sqft.)

365.000
397.000

-8.9
.7

44.5
36.7

18.3
3.8

6.7
-3.2

6.1
-11.4

Petroleum
Crude oil (barrel)
Gasoline (gal.)
Fuel oil (gal.)

46.080
1.326
1.424

66.9
69.2
63.8

-7.4
12.5
6.3

26.3
6.7
29.9

23.2
30.4
19.3

50.2
34.2
43.6

Livestock
Steers (cwt.)
Hogs (cwt.)
Broilers (lb.)

89.680
52.000
.748

16.5
-13.2
6.5

4.1
18.3
10.9

18.0
54.9
2.1

1.3
-5.5
10.5

6.8
20.9
-5.1

Farm crops
Corn (bu.)
Wheat (bu.)
Soybeans (bu.)
Cotton (lb.)

1.860
3.948
5.300
.436

18.1
37.7
32.2
52.1

1.7
-2.1
37.1
42.5

-20.8
3.3
-32.9
-38.9

.5
-6.0
2.8
4.7

-28.3
-5.8
-35.6
-35.8

Other foodstuffs
Coffee (lb.)

.988

1.1

23.1

59.7

12.9

42.1

111.500
121.800
286.520
321.160

16.8
9.7
24.4
13.7

22.3
38.1
9.1
24.0

9.8
17.8
9.9
5.2

-1.1
-1.2
1.9
-1.0

2.6
14.8
7.3
3.5

Memo:
JOC Industrials
JOC Metals
CRB Futures
CRB Spot Industrials

1. Changes are from the last week of the preceding year to the last week of the year indicated.
2. December 7, 2004, is the Tuesday preceding publication of the December Greenbook.
3. Prices shown apply to the Friday before the date indicated.
n.a. Not available.

II-38

Prices of core crude materials fell 1.7 percent in December, on the heels of large
increases in October and November. December’s drop in crude materials prices partly
owed to a sharp decline in the index for iron and steel scrap. Spot prices of steel scrap
continued to decline through late January, although at a somewhat more modest pace.
Since the December Greenbook, the Journal of Commerce metals index has declined
1¼ percent. Over the same period, the CRB spot industrials index (which excludes
energy) has declined 1 percent, and the JOC industrial index (which includes energy
products) also has declined about 1 percent.

Domestic Financial
Developments

III-T-1

Selected Financial Market Quotations
(One-day quotes in percent except as noted)
2003

2004

2005

Instrument

Change to Jan. 25 from
selected dates (percentage points)

Dec. 31

June 28

Dec. 13

Jan. 25

2003
Dec. 31

2004
June 28

2004
Dec. 13

Short-term
FOMC intended federal funds rate

1.00

2.00

2.25

1.25

.25

Treasury bills 1
3-month
6-month

.93
1.00

1.36
1.74

2.21
2.44

2.36
2.63

1.43
1.63

1.00
.89

.15
.19

Commercial paper (A1/P1 rates)2
1-month
3-month

1.00
1.05

1.28
1.45

2.29
2.39

2.42
2.61

1.42
1.56

1.14
1.16

.13
.22

Large negotiable CDs 1
1-month
3-month
6-month

1.06
1.09
1.16

1.30
1.53
1.82

2.36
2.45
2.65

2.49
2.66
2.88

1.43
1.57
1.72

1.19
1.13
1.06

.13
.21
.23

Eurodollar deposits 3
1-month
3-month

1.04
1.07

1.29
1.51

2.33
2.42

2.48
2.63

1.44
1.56

1.19
1.12

.15
.21

Bank prime rate

4.00

5.00

5.25

1.25

.25

Intermediate- and long-term
U.S. Treasury4
2-year
10-year
30-year

1.83
4.40
5.22

2.88
4.90
5.55

2.98
4.27
4.87

3.24
4.30
4.70

1.41
-.10
-.52

.36
-.60
-.85

.26
.03
-.17

U.S. Treasury 10-year indexed note

2.00

2.23

1.65

1.74

-.26

-.49

.09

Municipal revenue (Bond Buyer) 5

5.04

5.37

4.99

4.89

-.15

-.48

-.10

Private instruments
10-year swap
10-year FNMA6
10-year AA 7
10-year BBB 7
5-year high yield 7

4.66
4.72
5.05
5.74
7.94

5.21
5.30
5.59
6.18
8.30

4.55
4.53
4.87
5.34
7.29

4.55
4.53
4.93
5.35
7.51

-.11
-.19
-.12
-.39
-.43

-.66
-.77
-.66
-.83
-.79

.00
.00
.06
.01
.22

Home mortgages (FHLMC survey rate) 8
30-year fixed
1-year adjustable

5.85
3.72

6.21
4.19

5.68
4.18

5.67
4.11

-.18
.39

-.54
-.08

-.01
-.07

Record high

2004

2005

Stock exchange index

Change to Jan. 25
from selected dates (percent)

Level
Dow Jones Industrial
S&P 500 Composite
Nasdaq
Russell 2000
Wilshire 5000

Date

June 28

Dec. 13

Jan. 25

Record
high

2004
June 28

2004
Dec. 13

11,723
1,527
5,049
655
14,752

1-14-00
3-24-00
3-10-00
12-28-04
3-24-00

10,357
1,133
2,020
584
11,056

10,638
1,199
2,149
638
11,790

10,462
1,168
2,020
607
11,484

-1.76
-23.51
-59.99
-7.34
-22.15

1.01
3.09
.01
3.83
3.87

-1.66
-2.53
-5.98
-4.94
-2.60

1. Secondary market.
2. Financial commercial paper.
3. Bid rates for Eurodollar deposits collected around 9:30 a.m. eastern time.
4. Derived from a smoothed Treasury yield curve estimated using off-the-run securities.
5. Most recent Thursday quote.
6. Constant maturity yields estimated from Fannie Mae domestic noncallable coupon securities.
7. Derived from smoothed corporate yield curves estimated using Merrill Lynch bond data.
8. Home mortgage data for Jan. 25, 2005, is from Jan. 20, 2005.
_______________________________________________________________________
NOTES:
June 28, 2004, is the day before the beginning of the current tightening period.
December 13, 2004, is the day before the most recent FOMC meeting.
_______________________________________________________________________

III-C-1

Policy Expectations and Treasury Yields
Futures Contract Rates
3.8

Percent
December
FOMC

Percent

December Employment
minutes
report

3.0

December 2005 Eurodollar (left scale)

3.7

2.9

3.6

2.8

3.5

2.7

3.4

2.6

April 2005 federal funds (right scale)

3.3

2.5
Dec. 13

Dec. 16

Dec. 21

Dec. 27

Dec. 30

Jan. 5

Jan. 10

Jan. 13

Jan. 19

Jan. 24

Note. 5-minute intervals.

Implied Federal Funds Futures Rate Percent
4.5
January 25, 2005
December 13, 2004

4.0

Implied Distribution of Federal Funds Rate
about 6 Months Ahead
Percent
40

January 25, 2005 (bars)
December 13, 2004 (dashed line)

35
30

3.5
25

3.0

20
15

2.5

2.0

5
0

1.5
Jan.

May
Oct.
2005

Mar.

Aug.
2006

Jan.
2007

2.25

2.75

3.25

3.75

4.25

Target Rate

Note. Estimates from federal funds and Eurodollar futures,
with an allowance for term premia and other adjustments.

Note. Based on the distribution of the 3-month Eurodollar
rate 5 months ahead (adjusted for a risk premium), implied
by options on Eurodollar futures contracts.

Treasury Yields

Policy Uncertainty

Percent

Daily

FOMC

Basis points

400

Daily

FOMC

350

12 months ahead

300

10-year

250

2-year

200

Jan.
25

150
100

2
6 months ahead

1
Jan.

Apr.

July
2004

Oct.

Jan.

Note. Estimates from smoothed Treasury yield curve based
on off-the-run securities.

Jan.

May Sept.
2003

Feb.

June Oct.
2004

Note. Width of a 90 percent confidence interval for the
federal funds rate computed from the term structures for both
the expected federal funds rate and implied volatility.

Domestic Financial Developments
Overview
The market’s anticipated path for the federal funds rate shifted up over the intermeeting
period, prompted by the December FOMC minutes—which suggested greater-thanexpected concern about inflation on the part of policymakers—and by economic data
releases and statements by Federal Reserve officials that were viewed as consistent with
continued gradual policy tightening. Short- and intermediate-term Treasury yields
moved up in line with the revision to policy expectations, but yields on 10-year
Treasuries were about unchanged. Stock prices declined over the intermeeting period
against the backdrop of increases in oil prices, lackluster earnings reports, and
expectations of more-rapid policy tightening. Indicators of corporate credit quality
continued to be strong, and corporate risk spreads stayed quite narrow. As of late last
year, borrowing by households remained robust and that of businesses quickened.
Policy Expectations and Interest Rates
The decision at the December FOMC meeting to hike the funds rate target 25 basis points
was largely anticipated, and the response in financial markets that day was limited.
However, market participants reportedly read the minutes of the December meeting,
released on January 4, as expressing more widespread concern among FOMC members
about inflation risks than had previously been anticipated. This reinterpretation led to an
upward revision in the anticipated pace of monetary policy tightening. Incoming data on
economic activity, on balance, did not dent these expectations of firmer monetary policy.
Interest rate futures contracts almost fully price in an increase of 25 basis points in the
target rate at the upcoming FOMC meeting and place very high odds on quarter-point
hikes at each of the two subsequent meetings. The expected federal funds rate at the end
of this year rose about 20 basis points, to 3.4 percent, consistent with quarter-point
firmings at half of the FOMC meetings over the year. Uncertainty about the future path
of policy, judging from implied volatilities on Eurodollars and swaps, has edged down.
Consistent with these revisions to short-term policy expectations, the yield on two-year
Treasury securities rose about ¼ percentage point over the intermeeting period, with the
largest daily move coming on the heels of the release of the minutes. In contrast, the tenyear Treasury yield was little changed, on net, implying that longer-horizon one-year
forward rates declined. A large portion of the drop in forward rates was apparently
attributable to decreases in real rates, as inflation compensation—measured by the
difference between the yields on nominal and inflation-indexed Treasury securities and
adjusted for the effect of the TIPS indexation lag—was about unchanged, on net, at both
the five-year and five-year-ahead horizons. Longer-term yields may have been held

III-2

Corporate Yields, Risk Spreads, and Stock Prices
Yields for BBB and High-Yield Corporate Bonds
Percent
15

Corporate Bond Spreads to Similar Maturity Treasury

Percent

Basis points
10 1100

Daily
FOMC
meeting

Basis points
450

Daily

900

5-year high yield
(left scale)

350

5-year high yield
(left scale)

8
700

250
500
6

10-year BBB
(right scale)

300
Jan.
25

4
2002

2003

2004

Jan.
25

100

150

2005

1995

1997

1999

2001

2003

2005

Note. Yields from smoothed yield curves based on Merrill Lynch bond data.

Commercial Paper Quality Spread
(30-Day A2/P2 less A1/P1)

S&P 500 and Oil Futures Price 24 Months Ahead
Basis points

Ratio scale, Dec. 14, 2004=100
105

Weekly Friday*

150

Dollars per barrel
50

Daily

FOMC
meeting

120 100
S&P 500
(left scale)

Oil futures price
(right scale)

Jan.
25

95
60

Jan.
25

35
90
30

0
85
1999

2001

2003

2005

25
Jan.

Mar.

May

* Latest observation is for most recent business day.

12-Month Forward Earnings-Price Ratio
for S&P 500 and Long-Run Treasury

Sept.

Nov.

Jan.

Implied Volatility on Nasdaq 100 (VXN) and
S&P 500 (VIX)
Percent

Percent

Monthly

July
2004

Weekly Friday*

FOMC
meeting

Nasdaq

10
8

12-month forward
E/P ratio

+
Jan.
25

Long-run real Treasury yield*

1985

1989

1993

1997

2001

50
40

20
S&P 500

Jan.
25

2
2005

* Yield on synthetic Treasury perpetuity minus Philadelphia Fed 10-year
expected inflation.
+ Denotes the latest observation using daily interest rates and stock prices
and latest earnings data from I/B/E/S.

10
2002

2003

2004

* Latest observation is for most recent business day.

2005

III-3

down by several factors, including some reduction in market participants’ expectations of
longer-run economic growth, owing to higher oil futures prices; a decline in term
premiums that may have stemmed from subdued interest rate volatility; and speculation
about foreign official purchases of Treasuries prompted by the dollar’s depreciation
against some Asian currencies.
Corporate Rates and Spreads
Yields on corporate bonds moved roughly in line with those on comparable-maturity
Treasuries over the intermeeting period, leaving spreads near the bottom end of their
range over the past fifteen years. These spreads are at about the same levels as in 1995
and 1996, a period—similar to the current one—that followed a sharp improvement in
corporate credit quality and profitability. The yield spread between thirty-day A2/P2 and
A1/P1 commercial paper, which rose in late December on year-end pressures and light
trading, has since reversed some of its decline.
Stock Prices, Earnings, and Credit Quality
Broad stock price indexes were down 2½ percent, on net, over the intermeeting period,
with steeper declines recorded for the shares of technology companies and small firms.
Share prices, which had continued to climb after the December FOMC meeting, fell on
net in early January because of increases in oil prices and expectations of more-rapid
monetary policy tightening. Share prices slid further on the initial wave of fourth-quarter
earnings reports and the accompanying cautious guidance provided by some firms that
left investors somewhat disappointed. With stock prices lower, the forward earningsprice ratio ticked higher over the period. The gap between the earnings-price ratio and
the long-run real Treasury yield is now at about its average level over the past two
decades. Actual and implied volatilities on both the Nasdaq 100 and the S&P 500
remained near their ten-year lows.
With reports from about 150 companies in the S&P 500 now in hand, and on the basis of
analysts’ latest estimates for the rest, earnings per share in the fourth quarter are
estimated to have increased about 16 percent from a year earlier, down from the even
larger four-quarter gains experienced in the first half of the year. Reflecting the softer
earnings outlook contained in fourth-quarter reports, analysts’ forecasts of year-ahead
earnings for S&P 500 firms were marked down in mid-January, a divergence from the
recent pattern.

III-4
Corporate Earnings and Credit Quality
S&P 500 Revisions Index

Corporate Earnings Growth

Percent

Quarterly*

Percent, monthly rate
30

Monthly

2
e

1
10

MidJan.

-1

-10

-2

-20

S&P 500 EPS
NIPA, economic
profits before tax

-3

-30
1990

1993

1996

1999

2002

* Change from four quarters earlier.
Source. I/B/E/S for S&P 500 EPS.
e Staff estimate.

2003

2004

2005

Note. Index is a weighted average of the percent change in the consensus
forecasts of current-year and following-year EPS.

Bond Ratings Changes of
Nonfinancial Companies

Cash and Equivalents
Ratio
0.12

-4
2002

2005

Ratio

Percent of outstandings
30

Nonfinancial corporations

2.5

Upgrades

Q3
H1 Q4

2.0

0.09

10
0

1.5

Over fixed investment
(right scale)

10
20

0.06

1.0
30
Over assets
(left scale)

0.5

Downgrades

0.03

50
1989

1992

1995

1998

2001

2004

1990 1992 1994 1996 1998 2000 2002

Note. Computstat data, annual through 1999 and quarterly thereafter; fixed
investment is at an annual rate.

Bond Defaults and
C&I Loan Delinquency Rates

2004

Note. Data are at an annual rate.
Source. Moody’s Investors Service.

Expected Year-Ahead Defaults
Percent of outstandings

Percent of liabilities
7

2.0

Monthly

6
1.5

5
4

C&I loan delinquency rate
(Call Report)

1.0

3
Q3

0.5
Dec.

Bond default rate*
Dec.

0.0

0
1990

1993

1996

1999

2002

* 6-month moving average, from Moody’s Investors Service.

2005

1993

1996

1999

2002

2005

Note. Firm-level estimates of default weighted by firm liabilities as a
percent of total liabilities, excluding defaulted firms.
Source. KMV Corporation.

III-5

Business Finance
Gross Issuance of Securities by U.S. Corporations
(Billions of dollars; monthly rates, not seasonally adjusted)

2001

2004
Q4

Dec.

2005
Jan. e

5.2
0.7
4.4

3.7
0.4
3.2

5.7
0.8
4.9

4.7
2.0
2.6

5.2
2.6
2.6

6.6
3.8
2.9

3.0
n.a.
n.a.

24.8
15.7
4.8
4.2

31.6
16.0
11.3
4.3

22.7
8.2
10.5
4.0

18.9
9.2
6.3
3.5

23.7
7.7
10.8
5.3

20.7
3.1
13.7
3.9

17.0
n.a.
n.a.
n.a.

-6.3

-3.8

2.8

1.9

-2.1

-11.0

9.0

-5.2

-7.9

-0.4

4.7

7.0

11.2

n.a.

4.2
80.2

Financial corporations
Stocks 1
Bonds 2

-5.8

Memo
Net issuance of commercial paper 3
Change in C&I loans at
commercial banks 3,4

-8.0

Bonds 2
Investment grade
Speculative grade
Other (sold abroad/unrated)

2003

39.8
27.5
8.9
3.4

Nonfinancial corporations
Stocks 1
Initial public offerings
Seasoned offerings

2002

6.5
2.1
4.4

Type of security

4.0
87.0

6.9
111.1

8.3
130.9

4.3
154.7

5.6
136.4

5.1
126.2

n.a.
n.a.

Note. Components may not sum to totals because of rounding.
1. Excludes private placements and equity-for-equity swaps that occur in restructurings.
2. Data include regular and 144a private placements. Bond totals reflect gross proceeds rather than par value of
original discount bonds. Bonds are categorized according to Moody’s bond ratings, or to Standard & Poor’s if
unrated by Moody’s.
3. End-of-period basis, seasonally adjusted.
4. Adjusted for FIN 46 effects.
e Staff estimate.

Selected Components of Net Debt Financing

Components of Net Equity Issuance

Billions of dollars

50
Monthly rate, nonfinancial firms

60
Monthly rate, nonfinancial firms

Commercial paper*
C&I loans*
Bonds

Public issuance
Private issuance
Repurchases
Cash mergers

Total

50
40

Total

30
20

20
H1

10
0
0

-10
-20

-10

-30
-20
-40
-30
2000

2001

2002

* Seasonally adjusted, period-end basis.

2003

2004

-50
2000
e Staff estimate.

2001

2002

2003

2004

III-6

Commercial Real Estate
Growth of Commercial Mortgage Debt

Gross Issuance of CMBS
Percent

Billions of dollars
18

Quarterly, s.a.a.r.

Quarterly

14
25

12
10

e
Q4

4
5

2
0
1996

1998

2000

2002

2004

0
1996
1998
2000
2002
Source. Commercial Mortgage Alert.

e Staff estimate.

10-Year Commercial Mortgage Rates

2004

Investment-Grade CMBS Yields
Percent

Percent
10

Monthly

Weekly

9
9
8
BBB
8

7
6

7
AAA

Jan. 19

Dec.
5
2000

2001

2002

2003

2004

2005

2000
2001
2002
Source. Morgan Stanley.

Source. Barron’s/Levy.

Investment-Grade CMBS
Spreads over 10-Year Treasuries

Basis points
300

Weekly

2003

3
2005

2004

Delinquency Rates on Commercial
Mortgages and CMBS

Percent
4

250
3
200

BBB

At commercial banks
2

150
AAA

Jan. 19

Dec.
Q3

100

CMBS
At life
insurance
companies

0
2000
2001
2002
Source. Morgan Stanley.

2003

2004

2005

1996

1998

2000

2002

2004

Source. Call Report, ACLI, Morgan Stanley.

III-7

Measures of business credit quality continue to show that nonfinancial firms are in good
shape. These firms retain hefty cash reserves, according to balance sheet data for the
third quarter. Although the value of bond downgrades rose in the fourth quarter and
swamped the value of upgrades, about half of the value of the downgrades resulted from
idiosyncratic factors related to two mergers rather than broad industry or macroeconomic
trends. The six-month trailing bond default rate ticked up in December but remained at a
low level, and the aggregate expected default rate based on KMV data continued to edge
down, reaching a level not seen since mid-1998.
Business Finance
Gross issuance of bonds by nonfinancial corporations in December and January to date
came in just a bit below the strong pace of October and November. Issuance of
speculative-grade bonds remained robust in December, with reports indicating that the
proceeds increasingly went to finance mergers, but offering of these bonds have dropped
back a bit so far this year. C&I loan growth strengthened in December and moved up
further in the first half of January, consistent with reports of stronger demand and lessrestrictive lending standards and terms in the Senior Loan Officer Opinion Survey.
Commercial paper dropped a bit, on net, in December and January, as some large firms
paid down their outstandings at year-end. Overall, net debt financing by nonfinancial
firms from C&I loans, commercial paper, and bonds moved up in the fourth quarter to its
highest quarterly rate in 2004 and appears to have remained strong early this year.
Equity issuance by nonfinancial firms increased in December as initial public offerings
picked up, but it has slowed in January. Share repurchases, fueled by strong profits and
liquid balance sheets, are estimated to have risen to a record pace in the fourth quarter.
At the same time, cash-financed mergers jumped to their highest pace in more than seven
years, with Cingular’s cash acquisition of AT&T Wireless accounting for half the total.
The anticipated repatriation of profits earned overseas could keep equity retirements
elevated over the coming year. The Treasury Department announced in mid-January that
repatriated profits could not be used directly for share repurchases, but it noted that the
use of funds freed up by repatriated profits would not be restricted.
Commercial Real Estate
Commercial mortgage debt appears to have risen at a strong 9½ percent annual rate in the
fourth quarter, and respondents to the Senior Loan Officer Opinion Survey indicated that
demand for these loans has increased, on net, over the past three months. The CMBS
calendar suggests that issuance will slow in the current quarter from its record pace in the

III-8

Household Liabilities
Freddie Mac Mortgage Rates

Debt Growth
Percent

Percent change from year earlier
9

Weekly

16
Mortgage

30-year
FRM

12
10

7
8
6

Consumer credit

4
Jan. 19

Nov.
5

1996

1998

2000

2002

2004

2
1996
1998
e Staff estimate.

2000

2002

2004

Home Equity Loan Growth

Cash-outs from Mortgage Refinancing
Billions of dollars

Percent change from year earlier
100

Quarterly

Q3
25

80
70

60
50

40
10

30
20
Q4

10
0

1991
1994
1997
Source. MBA, HMDA.

2000

2003

1998

2000

2002

2004

Household Bankruptcies

Delinquency Rates
Percent
Monthly

0
1996

Filings per 100,000 persons
6.0

650

8-week moving average, s.a.a.r.

Credit cards in
securitized pools

5.5

600

5.0
550

4.5
Nov.

3.5
Auto loans at
captive finance companies

500

4.0
Jan. 15

450

3.0
400
2.5
350

2.0
Nov.
1.5
1996
1998
2000
2002
Source. Moody’s, Federal Reserve.

2004

300
1996
1998
2000
2002
2004
Source. Visa Bankruptcy Notification Service.

III-9

fourth quarter, but it will remain solid. Despite abundant supply, CMBS spreads over the
ten-year Treasury yield are still narrow. Delinquency rates on loans backing CMBS have
fallen almost 1 percentage point on net since their peak in late 2003, and delinquency
rates on commercial mortgages on the books of banks and life insurance companies
remain quite low.
Household Finance
Thirty-year fixed-rate mortgage rates changed little, on net, over the intermeeting period
and have stayed in a narrow range around 5¾ percent since last fall. Low mortgage rates
in the fourth quarter likely contributed to strong growth in home mortgage debt. In
contrast, the growth rate of consumer credit is estimated to have remained subdued, held
down perhaps by the funding of household expenditures with equity extracted from
homes: Although cash-out mortgage refinancing has recently been running well below
the spectacular rates seen in 2002 and 2003, home equity loans from all types of lenders
increased at a record rate of 27 percent over the year ending in the third quarter.
Measures of household credit quality have continued to improve. Delinquencies on
credit card loans in securitized pools declined again in November, while those on auto
loans at captive finance companies remained low. Household bankruptcy filings have
continued to trend lower.
The ratio of net worth to disposable personal income is estimated to have increased in the
fourth quarter, reflecting the solid rise in stock prices and the staff’s estimate of a further
increase in home prices based on data on the average prices of existing homes sold
through November. Inflows into equity mutual funds picked up in the fourth quarter,
consistent with the rise in stock returns that quarter.
Treasury and Agency Finance
The Treasury conducted auctions of two- and five-year notes and ten- and twenty-year
TIPS over the intermeeting period. Indirect bidding, which partly reflects demand from
foreign official institutions, took up a bit less than 40 percent of the issues, slightly below
the average share over the past year. Treasury securities held on behalf of foreign official
institutions at the FRBNY continued to grow robustly.
Early in the intermeeting period, the SEC announced that it had determined that Fannie
Mae had violated accounting rules. The CEO and CFO subsequently announced that they
would leave the firm. In late December, Fannie Mae placed $5 billion in preferred stock

III-10

Household Assets

Asset Prices

1993:Q1 = 100
350

Quarterly, n.s.a.
Stock prices (Wilshire 5000)
Q4

250
e

150

House prices*

1990

1992

1994

1996

1998

2000

2002

2004

e Staff estimate based on Census Bureau data on prices of new homes sold and National Association of Realtors data on prices
of existing homes sold.
* Source. Office of Federal Housing Enterprise Oversight (OFHEO).

Net Worth Relative to Disposable Income

Ratio
7

Quarterly, period-end, s.a.

6
Q4

1990

1992

1994

1996

1998

2000

2002

2004

e Staff estimate.

Net Flows into Long-Term Mutual Funds
(Billions of dollars, monthly rate)
Fund Type

Q2
Total long-term funds
Equity funds
Domestic
International
Hybrid funds
Bond funds
High-yield
Other taxable
Municipals

2003

18.0
12.7
10.7
2.0
2.7
2.6
2.2
1.0
-0.6

2004

18.4
15.1
9.5
5.7
3.6
-0.3
-0.8
1.6
-1.1

Note. Excludes reinvested dividends.
e Staff estimates based on confidential ICI weekly data.
Source. Investment Company Institute.

2004
Q4e

Nov.

Dec.e

Assets
Nov.

3.8
11.3
7.6
3.7
3.1
-10.5
-2.7
-4.0
-3.9

11.7
6.9
3.8
3.1
2.8
2.0
0.5
2.0
-0.5

21.8
14.0
6.7
7.3
3.3
4.5
0.6
4.0
-0.2

27.5
21.3
12.9
8.5
4.1
2.0
1.0
1.0
-0.0

23.6
13.4
4.9
8.6
2.4
7.8
0.2
8.1
-0.5

6,003
4,222
3,568
654
504
1,277
154
797
325

III-11

GSE Market Developments
GSE Stock Prices
85

Daily

Ten-Year GSE Yield Spreads
to Treasury

Basis points
45

Daily

Fannie Mae
Freddie Mac

Fannie Mae
Freddie Mac
80

Dec.
FOMC

Jan. 25
Jan. 25

60
Aug.

Sept.

Oct.
2004

Nov.

Dec.

Jan.

20
Aug.

Sept.

Oct.
2004

Nov.

Dec.

Jan.

III-12

State and Local Government Finance
Gross Offerings of Municipal Securities
(Billions of dollars; monthly rate, not seasonally adjusted)

2004
Type of security

2001

2002

2003

29.0
24.3
7.6
16.7
4.7

36.3
30.3
10.1
20.2
6.0

1.4

1.7

Total
Long-term 1
Refundings 2
New capital
Short-term
Memo: Long-term taxable

Dec.

37.8
32.0
10.0
22.1
5.8

36.1
32.0
11.4
20.6
4.2

34.2
25.9
9.8
16.1
8.3

32.5
29.8
9.9
19.9
2.7

35.0
32.8
8.0
24.8
2.2

3.5

2.5

1.1

2.1

2.5

1. Includes issues for public and private purposes.
2. All issues that include any refunding bonds.

Bond Rating Changes
Number of rating actions
2000
Annual rate

Upgrades

1500
1000

500
0
500

Downgrades

1000
1500

1990

1992

1994

1996

1998

2000

2002

2000

2004

Source. S&P’s Credit Week Municipal and Ratings Direct.

Municipal Bond Yields
AA1 General Obligation

Municipal Bond Yield Ratio
Percent

AA1 General Obligation over Treasury
7

Weekly

Ratio
1.1

Weekly

20-year

1.0

20-year
Jan.
25

4
Jan.
25

1-year

0.9

3
2

0.8

1
1996

1999

Source. Bloomberg.

2002

2005

1996

1999

Source. Bloomberg.

2002

2005

0.7

III-13

and, in mid-January, cut its dividend on common stock in half, in response to the
OFHEO’s determination that it was “significantly undercapitalized.” Fannie Mae’s
stock price fell sharply on news of the dividend cut. In contrast to the hit to stock prices,
agency debt spreads declined slightly, apparently reflecting reduced issuance and, as
indicated by custody holdings at the FRBNY over the period, continued strong demand
for agency securities from foreign official institutions.
State and Local Government Finance
Gross issuance of long-term municipal bonds in December about matched the robust pace
for last year as a whole. Roughly three-quarters of the issuance was for new capital
projects, most of which were related to education, housing, and transportation. Advance
refundings also continued to be robust, as states and municipalities continued to take
advantage of low long-term interest rates. The volume of short-term issuance was
comparatively light in December, a development consistent with the improved budget
situations in many states. Credit quality has also showed improvement in recent months,
with upgrades of municipal bonds far outpacing downgrades. The ratio of municipal
bond yields to comparable Treasury yields was little changed over the intermeeting
period.
Money and Bank Credit
Based on partial data for January, M2 growth appears to have remained moderate in
recent months, owing primarily to rising opportunity costs associated with monetary
policy tightening. Growth of liquid deposits has been much slower than it was in the first
half of 2004, likely as a result of higher short-term interest rates. By contrast, increasing
rates have contributed to a pickup in the growth of small time deposits, whose yields
closely track market rates. Currency was about flat in December, depressed in part by
significant reflows of currency from overseas.
Although growth of total bank credit slowed in December, most loan categories still
expanded smartly. C&I loans posted their sixth consecutive month of positive growth in
December. Real estate loans continued to expand at a solid pace, although home equity
lending at banks decelerated sharply in December, perhaps owing in part to the effects of
higher short-term interest rates. Data for early January suggest further gains in most loan
categories.

III-14

Monetary Aggregates
(Based on seasonally adjusted data*)
2004

Aggregate or component
Aggregate
1. M22
2. M33
Components of M24
3. Currency
4. Liquid deposits5
5. Small time deposits
6. Retail money market funds
Components of M3
7. M3 minus M26
8. Large time deposits, net7
9. Institutional money
market funds
10. RPs
11. Eurodollars
Memo
12. Monetary base

2003

5.3
4.7

2004

2005

Dec.

Percent change (annual rate)1
5.2
3.6
5.5
4.3
5.7
4.2
3.3
5.3

Jan.
(e)

Level
(billions of
dollars),
Jan.
(e)

5.7
7.2

6,448
9,484

5.9
13.9
-9.3
-11.6

5.5
10.0
-.5
-12.0

7.5
6.1
1.8
-11.4

5.1
8.5
4.8
-9.6

.3
6.3
5.0
-3.9

7.6
5.5
12.7
-2.9

702
4,205
822
711

3.5
4.2
-5.6

7.0
21.3
-5.8

5.7
17.5
-6.4

-1.3
12.0
-12.5

7.3
26.4
-.6

10.3
70.7
-14.3

3,036
1,135
1,054

14.1
27.7

1.3
24.4

-.3
21.6

-17.9
21.2

-16.9
9.7

-58.4
.3

485
362

6.0

5.6

8.8

5.2

-.9

4.4

763

Average monthly change (billions of dollars)8
Selected managed liabilities
at commercial banks
13. Large time deposits, gross
14. Net due to related foreign
institutions
15. U.S. government deposits
at commercial banks

-1.1

14.7

16.9

9.6

19.5

57.0

1,256

3.1

-10.6

-9.8

-4.1

20.1

25.0

-.3

-2.8

1.9

-.8

7.6

1. For the years shown, Q4-to-Q4 percent change. For the quarters shown, based on quarterly averages.
2. Sum of currency, liquid deposits (demand, other checkable, savings), small time deposits, retail
money market funds, and nonbank traveler's checks.
3. Sum of M2, net large time deposits, institutional money market funds, RP liabilities of depository
institutions, and Eurodollars held by U.S. addressees.
4. Nonbank traveler's checks not listed.
5. Sum of demand deposits, other checkable deposits, and savings deposits.
6. Sum of large time deposits, institutional money market funds, RP liabilities of depository
institutions, and Eurodollars held by U.S. addressees.
7. Net of holdings of depository institutions, money market funds, U.S. government, and foreign
banks and official institutions.
8. For the years shown, "average monthly change" is the Q4-to-Q4 dollar change divided by 12.
For the quarters shown, it is the quarter-to-quarter dollar change divided by 3.
e Estimated.

* These data also reflect the effects of the annual seasonal factor review and are confidential
until their release, which is planned for February 3, 2005.

III-15

Commercial Bank Credit
(Percent change, annual rate, except as noted; seasonally adjusted)
Type of credit
Total
1. Adjusted1
2. Reported
3.
4.
5.
6.

Securities
Adjusted1
Reported
Treasury and agency
Other2

7.
8.
9.
10.
11.
12.
13.
14.

Loans3
Total
Business
Real estate
Home equity
Other
Consumer
Adjusted4
Other5

Level,
Dec. 2004
($ billions)

2003

2004

Q3
2004

Q4
2004

Nov.
2004

Dec.
2004

5.9
5.6

8.8
8.3

4.9
5.4

6.4
6.2

9.2
7.3

3.8
4.1

6,514
6,680

8.6
7.3
8.8
5.0

6.7
5.1
5.0
5.2

-7.7
-4.8
-4.0
-6.2

2.2
2.1
-10.7
23.4

11.2
4.2
-2.8
14.9

2.6
3.7
3.3
4.5

1,739
1,905
1,150
756

4.9
-9.4
11.1
30.8
8.8
5.4
5.8
6.7

9.6
.7
13.6
43.3
9.5
8.6
6.0
9.0

9.8
5.8
8.0
37.1
3.4
19.6
12.4
11.7

7.9
4.9
12.8
37.3
8.6
-1.7
3.0
3.6

8.5
6.4
11.6
30.7
8.2
-9.3
.3
17.1

4.2
11.2
10.6
16.2
9.6
14.8
11.5
-37.6

4,775
889
2,538
398
2,139
673
1,051
675

Note. Data are adjusted to remove estimated effects of consolidation related to FIN 46 and for breaks caused by
reclassifications. Monthly levels are pro rata averages of weekly (Wednesday) levels. Quarterly levels (not shown)
are simple averages of monthly levels. Annual levels (not shown) are levels for the fourth quarter. Growth rates are
percentage changes in consecutive levels, annualized but not compounded.
1. Adjusted to remove effects of mark-to-market accounting rules (FIN 39 and FAS 115).
2. Includes private mortgage-backed securities, securities of corporations, state and local governments, foreign
governments, and any trading account assets that are not Treasury or agency securities, including revaluation gains
on derivative contracts.
3. Excludes interbank loans.
4. Includes an estimate of outstanding loans securitized by commercial banks.
5. Includes security loans and loans to farmers, state and local governments, and all others not elsewhere classified.
Also includes lease financing receivables.

Appendix
Senior Loan Officer Opinion Survey on Bank Lending Practices
The January 2005 Senior Loan Officer Opinion Survey on Bank Lending Practices addressed
changes in the supply of, and demand for, bank loans to businesses and households over the past
three months. The survey contained a special question on the reasons why nonbank investors
have increased their participation in the commercial and industrial (C&I) loan market recently.
In addition, the survey asked banks about changes over the past year in their terms on commercial
real estate loans. Finally, banks were asked why the share of industry assets accounted for by
residential real estate loans has increased over the past three years. This appendix is based on
responses from fifty-five domestic banks and twenty foreign institutions.
As was the case throughout 2004, domestic and foreign banks reported in the January 2005
survey that they had eased lending standards and terms for C&I loans and commercial real estate
loans. Demand for C&I loans increased, on net, at domestic banks but was unchanged at foreign
institutions. Demand for commercial real estate loans rose, on net, at both domestic and foreign
banks in recent months. A small number of domestic banks eased standards on residential
mortgages over the past three months, while standards and terms for consumer loans were about
unchanged, on balance. Relatively large fractions of domestic banks reported weaker demand for
both residential mortgages and consumer loans.
C&I Lending
In the January survey, domestic banks reported a further net easing of lending standards on C&I
loans. One-fourth of domestic banks, on net, reported having eased their standards for large and
middle-market firms over the past three months, about the same fraction as in recent surveys.
Thirteen percent of these institutions also indicated that they had eased their lending standards for
small firms, down from nearly 20 percent in the October survey. The share of U.S. branches and
agencies of foreign banks that reported easier lending standards for C&I loans was 20 percent, a
noticeable decline from the 35 percent net easing in the previous survey.
Both domestic and foreign institutions indicated that they had continued easing lending terms on
C&I loans over the past three months. On net, almost 50 percent of domestic banks trimmed
spreads of loan rates over their cost of funds for large and middle-market borrowers, about the
same fraction as in the previous survey. About one-fourth did so for small firms, down from
nearly 40 percent in the October survey. More than half of foreign institutions reported having
reduced spreads on their C&I loans in the January survey. In addition, large fractions of domestic
and foreign respondents indicated that they had eased other terms by increasing the maximum
size of loans, loosening covenant restrictions, or reducing the costs of credit lines. One bank
commented that loan maturities had lengthened markedly, a claim consistent with both the Survey
of Terms of Business Lending and data from LoanPricing Corporation.

III-A-2
Almost all domestic and foreign respondents that had eased their lending standards and terms
over the past three months cited more aggressive competition from other banks or nonbank
lenders as the most important reason. Large fractions of domestic banks also pointed to a more
favorable or less uncertain economic outlook and a higher tolerance for risk as reasons for their
move toward a less stringent lending posture. More than half of foreign respondents cited
increased liquidity in the secondary market for these loans as a reason for easing.
In recent surveys, respondent banks have reported that they had eased standards or terms in
response to increased competition from other sources of business credit. This survey included a
special question on why nonbank lenders have become more aggressive competitors. The most
important reason, according to domestic banks, was that nonbanks have become more attracted to
the senior status of loans in bankruptcy and restructuring proceedings. Increased liquidity in the
secondary market was the main reason cited by foreign institutions and a close second among the
reasons given by domestic banks. Domestic banks also pointed to the trend toward market-based
pricing as a reason they considered important.
On net, about 45 percent of domestic institutions reported an increase in demand for C&I loans
from large and middle-market firms, up from about 25 percent in the October survey. Almost
30 percent, on net, indicated that demand from small firms had increased, about the same as in the
previous survey. In addition, nearly 50 percent of domestic banks, on net, reported an increase in
the number of inquiries from potential business borrowers, a larger fraction than in the October
survey. In contrast, foreign institutions reported that demand for C&I loans was unchanged over
the past three months, although the number of inquiries from potential business borrowers at
these institutions rose, on net.
Consistent with the growth of inventories seen late in 2004, greater need for inventory financing
was the most-often-cited reason for increased demand for C&I loans at domestic banks. The
second most important reason for increased demand noted in the January survey was an increase
in merger and acquisition activity. As was the case in previous surveys, large fractions of the
respondents experiencing stronger loan demand also pointed to their borrowers= increased
financing needs for accounts receivable and for investment in plant and equipment.
Commercial Real Estate Lending
About one-fourth of domestic banks reported a net easing of lending standards on commercial
real estate loans over the past three months, a slightly larger fraction than in the October survey.
The net percentage of domestic banks that reported increased demand for such loans was
16 percent, a modest decline from the 23 percent in the previous survey. Of the thirteen foreign
institutions in the survey that are active in the commercial real estate market, one indicated that it
had eased standards, and two indicated that demand had increased.

III-A-3
For several years, the January survey has asked banks to report the changes over the past twelve
months in various commercial real estate loan terms. Almost half of the domestic and foreign
respondents indicated that they had reduced spreads on loans over the past year, compared with a
small fraction that reported having tightened spreads in the January 2004 survey. About
25 percent of domestic banks also indicated that they had increased the maximum size of loan
that they were willing to extend last year, a bit more than had done so during 2003. In addition, a
modest fraction of domestic banks had eased limits on loan maturity over the past twelve months.
By contrast, most foreign institutions reported that they had kept non-price loan terms unchanged,
but one indicated that it had tightened several terms considerably. Domestic banks that had eased
terms on commercial real estate loans gave reasons very similar to those provided by banks that
had eased terms on C&I loans: more competition from other lenders (both bank and nonbank),
improved conditions in the commercial real estate market, and a more favorable economic
outlook.
Lending to Households
A few domestic banks, on net, eased credit standards on residential mortgage loans over the past
three months. Nearly 30 percent of banks, on net, reported weaker demand for mortgages to
purchase homes, about the same as in the October survey. Nevertheless, over the past three years
the share of residential real estate loans in banks’ portfolios has risen noticeably. In response to a
special question asking for the reasons behind this growth, about 75 percent of the banks noted
that the share of new originations that were adjustable-rate loans, which are better suited to
holding in banks’ portfolios, increased over this period. About two-thirds of the banks said that
strong demand for residential mortgages had supported returns on them, thereby making such
loans more profitable to hold. Half of the banks indicated that a widening of the spread between
yields on residential mortgages and those on mortgage-backed securities had increased the
attractiveness of the underlying loans. About one-quarter of the banks said their mortgage
holdings had increased because a larger share of their originations did not conform to the
standards set by the housing-related government-sponsored enterprises (GSEs). However, threequarters of the banks that had reduced sales of mortgages to GSEs claimed that their capital was
sufficient to support that growth, while a few banks reported limiting acquisitions of other assets
as a result of the retained mortgages.
Although standards and terms on credit card and other consumer loans were about unchanged,
12 percent of the respondents indicated that their willingness to make consumer installment loans
had increased. On net, 27 percent of domestic respondents reported weaker demand for consumer
loans in the January survey, about the same as in the previous survey.

III-A-4

Measures of Supply and Demand for C&I Loans,
by Size of Firm Seeking Loan

Net Percentage of Domestic Respondents Tightening Standards for C&I Loans
Percent
80
60
Large and medium
Small

40
20
0
-20

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

Net Percentage of Domestic Respondents Increasing Spreads of Loan Rates over Banks’ Costs of Funds
Percent
80
60
40
20
0
-20
-40
-60
1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

Net Percentage of Domestic Respondents Reporting Stronger Demand for C&I Loans
Percent
60
40
20
0
-20
-40
-60
1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

III-A-5

Measures of Supply and Demand for Loans to Households

Net Percentage of Domestic Respondents Tightening Standards on Consumer Loans
Percent
60
Credit cards

50
40
30
20
10

Other consumer loans

0
1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

Net Percentage of Domestic Respondents Reporting Stronger Demand for Loans to Households
Percent
80
60

Residential mortgages

40
20
0
-20
-40

Consumer loans

-60
-80
1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

Net Percentage of Domestic Respondents Tightening Standards for Mortgages to Individuals
Percent
40
30
20
10
0
-10
1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

International Developments

International Developments
U.S. International Transactions
Trade in Goods and Services
The U.S. international trade deficit widened to $60.3 billion in November from
$56.0 billion in October (revised).
Net Trade in Goods and Services
(Billions of dollars, seasonally adjusted)
2003

Annual rate
2004
Q2
Q3
Q4e

Monthly rate
2004
Sept.
Oct.
Nov.

Real NIPA1
Net exports of G&S

-518.5

-580.3

-583.2

n.a.

...

Nominal BOP
Net exports of G&S
Goods, net
Services, net

-496.5
-547.6
51.0

-604.3
-654.3
50.0

-621.4
-666.9
45.6

-697.8
-745.5
47.7

-50.9
-55.0
4.1

-56.0
-60.1
4.1

-60.3
-64.1
3.8

1. Billions of chained (2000) dollars.
e. BOP data are two months at an annual rate.
Source. U.S. Department of Commerce, Bureaus of Economic Analysis and Census.
n.a. Not available. ... Not applicable.

In November, the value of exports of goods and services plunged 2.3 percent, the first
monthly decline since June. Exports of goods fell 3.8 percent in a broadly based retreat.
Exports of capital goods fell particularly steeply, in part due to a decline in the volatile
category of aircraft, but also due to falls in exports of computers, semiconductors,
telecommunications products, and other capital goods. Services exports rose 1.4 percent,
largely due to an increase in travel-related services. At an annual rate, the average value
of exported goods and services in October and November was about ½ percent above the
third-quarter level. Declines in exports of capital goods and automotive products were
offset by increases in services, agricultural goods, industrial supplies, and consumer
goods.
The value of imported goods and services rose 1.3 percent in November, a pace less than
half that recorded in October. Imports of goods rose just over 1 percent, with the gain
more than accounted for by an increase in the value of imported oil, as non-oil imports
edged down. A fall in industrial supplies led the overall decline in non-oil imports,
although auto imports also fell steeply. Imports in the broad category of capital goods
fell a bit, but the aggregate number masked strong gains in other capital goods and
telecommunications products, which were offset by a steep decline in imports of aircraft,

IV-2

U.S. International Trade in Goods and Services
Net Exports

Bil$, s.a.a.r.

Nominal
BOP basis

Contribution of Net Exports to Real GDP Growth
-50

Percentage points, s.a.a.r.

-100
-150
-200
-250
-300

Real
NIPA basis
(2000$)

1997

1999

2001

2003

2005

3
2
1
0
-1
-2
-3
-4

-350
-400

Bil$, s.a.a.r.
Net trade in computers
and semiconductors

-450

20
0

-500

-20

-550

-40
Net automotive trade
with Canada and Mexico
1997
1999
2001

-600
-650

-60
2003

2005

-80

-700

1997

1999

2001

2003

2005

-750

400

Selected Imports

Bil$, s.a.a.r.

380

Selected Exports

Bil$, s.a.a.r.

220
200

Machinery 2/

270

360
340

250
Consumer goods
230

320
180

210

300
160

280

140
Industrial
supplies 1/
Consumer goods

290

260

120

240

100

220

190
Industrial
supplies 1/

170
150

Machinery 2/

130

200
80
Aircraft

110
180

60
40

1997
1999
2001
2003
2005
1. Excludes agriculture and gold.
2. Excludes computers and semiconductors.

160
140

120

Automotive 3/
(overseas)

1997
1999
2001
2003
2005
1. Excludes oil and gold.
2. Excludes computers and semiconductors.
3. Excludes Canada and Mexico.

70
50

IV-3

U.S. Exports and Imports of Goods and Services
(Billions of dollars, s.a.a.r., BOP basis)

Exports of G&S
Goods exports
Gold
Other goods

Levels
2004
2004
Q3
Q4e
Oct.
Nov.
1158.5 1160.1 1173.5 1146.6

Change1
2004
2004
Q3
Q4e
Oct.
Nov.
22.3
1.6
3.6 -26.9

818.4
5.0
813.5

814.4
4.9
809.5

830.2
5.1
825.0

798.6
4.6
794.0

21.2
1.5
19.7

-4.1
-0.1
56.5

0.5
-1.1
1.6

-31.6
-0.5
-31.1

51.9
43.1
46.3
192.9

51.8
42.0
46.3
188.2

53.5
42.8
46.5
194.0

50.0
41.3
46.1
182.4

4.2
1.3
-2.8
2.5

-0.1
-1.1
0.0
-4.7

1.7
-0.7
-1.0
0.4

-3.5
-1.5
-0.4
-11.6

92.4
52.3
14.6
25.5

89.8
47.9
17.6
24.3

91.9
50.0
17.7
24.2

87.7
45.8
17.5
24.4

6.8
5.2
-1.4
3.1

-2.6
-4.5
3.0
-1.1

-0.7
-2.1
1.6
-0.3

-4.2
-4.2
-0.2
0.2

60.5
190.2
102.6
33.6

61.7
194.6
104.4
30.6

62.7
198.6
105.8
29.3

60.8
190.7
103.0
32.0

-2.2
6.6
0.4
2.8

1.2
4.5
1.8
-3.0

-0.8
5.9
0.0
3.9

-1.9
-7.9
-2.8
2.7

340.0

345.7

343.4

348.1

1.1

5.7

3.1

4.7

Imports of G&S

1779.8 1857.9 1845.6 1870.2

39.3

78.0

64.6

24.6

Goods imports
Petroleum
Gold
Other goods

1485.4 1559.8 1551.5 1568.1
179.5 220.2 208.0 232.5
4.0
4.5
4.9
4.1
1301.8 1335.1 1338.6 1331.5

33.8
15.3
0.7
17.7

74.5
40.7
0.5
33.2

62.0
28.8
0.6
32.6

16.6
24.5
-0.8
-7.1

Aircraft & parts
Computers & accessories
Semiconductors
Other capital goods
Automotive
to Canada
to Mexico
to ROW
Agricultural
Ind supplies (ex. ag, gold)
Consumer goods
All other goods
Services exports

Aircraft & parts
Computers & accessories
Semiconductors
Other capital goods

24.2
91.3
27.5
207.9

28.7
90.6
26.2
211.2

32.3
91.1
27.1
206.9

25.1
90.1
25.2
215.6

-0.2
3.6
0.2
6.7

4.5
-0.7
-1.3
3.3

5.9
0.8
0.1
-3.3

-7.2
-1.0
-1.9
8.7

Automotive
from Canada
from Mexico
from ROW

231.3
69.1
42.1
120.1

230.0
70.7
46.4
112.8

232.6
73.4
49.3
109.9

227.4
68.1
43.5
115.7

2.9
1.4
-2.7
4.1

-1.3
1.6
4.4
-7.3

-1.0
5.5
3.2
-9.8

-5.2
-5.2
-5.8
5.8

Ind supplies (ex. oil, gold)
Consumer goods
Foods, feeds, bev.
All other goods

240.6
364.7
60.9
53.5

243.6
386.1
63.9
54.7

248.2
383.9
62.8
53.6

239.1
388.2
65.0
55.8

16.6
-9.9
-1.6
-0.4

3.1
21.3
3.1
1.2

5.7
20.0
3.2
1.2

-9.1
4.3
2.1
2.1

294.5

298.1

294.1

302.1

5.5

3.6

2.5

8.0

13.09
37.57

14.25
42.41

13.05
43.64

15.46
41.18

0.08
3.04

1.17
4.82

0.59
4.27

2.41
-2.46

Services imports
Memo:
Oil quantity (mb/d)
Oil import price ($/bbl)

1. Change from previous quarter or month. e. Average of two months.
Source. U.S. Department of Commerce, Bureaus of Economic Analysis and Census.

IV-4

Prices of U.S. Imports and Exports
(Percentage change from previous period)

Annual rate
2004
Q2
Q3
Q4

Monthly rate
2004
Oct.
Nov.
Dec.

----------------------- BLS prices --------------------7.4
7.9
7.7
1.6
-0.2
-1.3
43.2
57.1
37.3
11.3
-5.7
-11.5
3.0
1.5
3.4
-0.1
0.9
0.5

Merchandise imports
Oil
Non-oil
Core goods*
Cap. goods ex comp & semi
Automotive products
Consumer goods
Foods, feeds, beverages
Industrial supplies ex oil

4.3
0.0
1.4
-0.5
7.8
18.7

2.4
1.6
1.7
-0.4
3.3
8.3

4.5
2.2
3.2
0.5
10.3
12.4

0.0
0.1
0.4
0.0
1.2
-0.7

1.1
0.3
0.2
0.1
0.2
4.0

0.6
0.5
0.2
0.3
1.0
1.3

Computers
Semiconductors

-8.6
-7.0

-9.0
-4.4

-8.5
-3.7

-1.2
-0.9

-0.3
0.2

-0.3
-0.1

6.0

-0.1

3.8

0.6

0.3

0.2

6.6
0.8
1.3
1.1
17.5
14.4

0.6
1.3
0.9
2.3
-31.0
14.5

4.9
3.2
1.2
0.7
-10.7
16.8

0.7
0.5
0.2
0.0
-1.2
2.5

0.4
0.2
0.1
0.1
0.2
0.9

0.2
0.2
0.1
0.3
0.2
0.0

0.3
2.1

-7.6
-3.9

-7.0
-2.2

-0.8
-0.3

-0.8
0.0

-0.2
-0.3

Merchandise exports
Core goods*
Cap. goods ex comp & semi
Automotive products
Consumer goods
Agricultural products
Industrial supples ex ag
Computers
Semiconductors
Chain price index
Imports of goods & services
Non-oil merchandise
Core goods*

--------------------6.4
5.1
2.8
1.3
4.0
2.3

Exports of goods & services
Total merchandise
Core goods*

4.6
5.3
5.8

1.6
1.2
1.9

NIPA prices --------------------n.a.
...
...
...
n.a.
...
...
...
n.a.
...
...
...

n.a.
n.a.
n.a.

...
...
...

*/ Excludes computers and semiconductors.
n.a. Not available. ... Not applicable.

Oil Prices
Dollars per barrel

Spot West Texas Intermediate

Import unit value
1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

55
50
45
40
35
30
25
20
15
10
5

IV-5

as well as in computers and semiconductors. Imports of consumer goods and foods
increased, and services imports rose about 2 percent. At an annual rate, the average value
of imported goods and services in October and November was almost 19 percent above
the second-quarter level. A surge in oil imports fueled about half of the gain, with the
remainder stemming importantly from gains in consumer goods and, to a lesser extent,
capital goods. Imports of automotive products fell.
Prices of Internationally Traded Goods
Non-oil imports. In December, the prices of U.S. imports of non-oil goods and of core
goods rose 0.5 and 0.6 percent, respectively. Within core goods, prices for every major
category increased. The largest contribution came from industrial supplies, whose prices
rose 1.3 percent, mostly because of higher prices for building materials and metals. For
foods, feeds and beverages, prices increased 1.0 percent. Following a 0.3 percent
increase in November, prices for capital goods (excluding computers and
semiconductors) rose 0.5 percent. Prices for imported consumer goods, which had not
increased from February through October, rose 0.3 percent in December, the second
consecutive monthly increase. Import prices of computers and semiconductors declined
in December.
The average level of prices of imported core goods in the fourth quarter was 4.5 percent
at an annual rate above the third-quarter level. The main contributions to the increase
were from non-oil industrial supplies and foods. Both automotive products and, to a
lesser extent, capital goods (excluding computers and semiconductors) also experienced
price gains.
Oil. The BLS price of imported oil fell 11.5 percent in December. The spot price of
West Texas Intermediate (WTI), a light, low-sulfur crude oil, fell 10.6 percent in
December—averaging about $43.30 per barrel. Since late December, the spot price has
retraced much of the decline, due in part to decreased production by OPEC, supply
disruptions in Norway and Canada, and increased violence in Iraq in the run-up to
elections on January 30. In addition, strong world oil demand continues to provide
upward pressure on prices. The spot price of WTI closed at $49.45 per barrel on
January 25.

IV-6

Exports. In December, the prices of U.S. exports of total goods and of core goods both
increased 0.2 percent. Much of December’s rise was due to higher prices for capital
goods (excluding computers and semiconductors) and consumer goods, which increased
0.2 percent and 0.3 percent, respectively. After climbing 2.5 percent in October and
0.9 percent in November, prices for industrial supplies were unchanged in December.
For both computers and semiconductors, export prices fell.
The average level of prices of exported core goods in the fourth quarter was 4.9 percent
at an annual rate above the third-quarter level. A large increase in prices for industrial
supplies more than offset a large decline in the prices for exported agricultural products.
Additional positive contributions came from both capital goods (excluding computers and
semiconductors) and automotive products. Export prices for consumer goods increased
slightly.
U.S. International Financial Transactions
Private foreign purchases of U.S. securities (line 4 of the Summary of U.S. International
Transactions table) picked up sharply to $58 billion in November of last year, only a bit
below the near-record monthly inflows recorded in April and June and well above the
monthly average registered for the first ten months of 2004. Private inflows into U.S.
securities through November amounted to $435 billion, above the $369 inflows recorded
for all of 2003.
The pickup in private foreign inflows in November was widespread across asset
categories. Foreign private net purchases of U.S. Treasuries (line 4a) and equities (line
4d) recovered following considerable weakness since the summer. Purchases of agency
bonds (line 4b) were strong for the second consecutive month; purchases in October and
November accounted for nearly half of all agency bonds acquired by private foreigners
through the first eleven months of 2004. Private purchases of corporate debt (line 4c)
remained strong.
Net foreign official inflows (line 1) slowed a bit to $20 billion in November, with sizable
inflows recorded for Japan, China, and Korea offset in part by an outflow recorded for
Norway. Foreign official inflows for the year through November amounted to
$331 billion, compared with $245 billion recorded for 2003. Partial data from the
Federal Reserve Bank of New York (FRBNY) indicate moderate further increases in

IV-7

official reserve assets in December and through mid-January, primarily reflecting further
increases in holdings for China. However, the increase in China’s reserves held at
FRBNY in the fourth quarter is well below the estimates that have circulated in financial
markets of the increase in China’s total reserve holdings over this period.
U.S. investors made large net purchases of foreign securities (line 5) in November. For
the second month in row, U.S. investors primarily acquired foreign stocks (line 5a), but
also made modest purchases of foreign bonds (line 5a). A series break in reported net
purchases of foreign bonds makes it difficult to compare current transactions in foreign
bonds with the sales recorded in previous quarters.
The volatile banking sector (line 3) registered a very small net inflow in November and a
cumulative outflow of $10 billion for the first eleven months of 2004.
Balance of payments data indicate roughly offsetting direct investment inflows and
outflows in both the second and third quarters. U.S. direct investment abroad (line 6)
remained strong, in part reflecting retained earnings in advance of the partial tax holiday
in effect this year. Foreign direct investment in the United States (line 7) also picked up
in the third quarter.
The statistical discrepancy was positive in the third quarter and for the first three quarters
of 2004 taken together, indicating some combination of overreporting of the current
account deficit or underreporting of net capital inflows.

IV-8

Summary of U.S. International Transactions
(Billions of dollars, not seasonally adjusted except as noted)
2002
Official financial flows
1. Change in foreign official assets
in the U.S. (increase, +)
a. G-10 countries
b. OPEC countries
c. All other countries
2. Change in U.S. official reserve
assets (decrease, +)
Private financial flows
Banks
3. Change in net foreign positions
of banking offices in the U.S.1
Securities2
4. Foreign net purchases of U.S.
securities (+)
a. Treasury securities
b. Agency bonds
c. Corporate and municipal bonds
d. Corporate stocks3
5. U.S. net acquisitions (-) of foreign
securities
a. Bonds
b. Stock purchases
c. Stock swaps3
Other flows (quarterly data, s.a.)
6. U.S. direct investment (-) abroad
7. Foreign direct investment in U.S.
8. Foreign holdings of U.S. currency
9. Other (inflow, + )4
U.S. current account balance (s.a.)
Capital account balance (s.a.)
Statistical discrepancy (s.a.)

2003

2003
Q4

2004
Q1

Oct.

Nov.

113.0 250.1

87.4 137.0

71.5

72.0

32.1

20.0

116.7 248.6
30.7 114.7
-7.5
6.1
93.5 127.9

85.2 136.4
46.6 96.8
10.9
3.3
27.7 36.4

70.4
46.2
-2.1
26.3

71.5
20.1
3.2
48.2

31.9
1.9
5.1
24.9

20.2
1.4
1.4
17.4

-3.7

1.5

2.2

1.1

-.2

457.2 295.6

81.3

1.6

93.4

81.3

…

64.7 101.8

-39.9

35.6

-27.9

20.7

1.3

94.8 149.6
42.9 63.2
1.9 33.3
44.2 49.5
5.7
3.6

94.1
1.0
5.8
81.8
5.6

38.5
3.7
15.9
14.7
4.2

58.2
8.2
17.4
19.5
13.0

-20.5
-3.2
-16.7
-.6

-18.1
-4.5
-13.6
.0

-19.7
-2.6
-17.1
.0

-134.8 -173.8 -53.7 -47.6 -55.3 -43.5
72.4 39.9 10.7 10.2 32.6 53.1
21.5 16.6
7.5
-1.8
8.8
2.6
-24.4 69.7 -40.1
-7.0 -44.6 23.4
-473.9 -530.7 -127.0 -147.2 -164.4 -164.7

…
…
…
…
…

…

116.8

390.1 369.0
101.5 114.0
84.2 -10.1
145.7 224.7
58.8 40.4
15.5
33.5
-14.8
-3.2

-1.3
-95.0

-90.5
21.9
-95.0
-17.4

-3.1
-12.0

86.2
4.4
1.6
56.6
23.6
-31.1
-3.9
-24.4
-2.8

-.3
-41.4

-7.1
11.9
-19.0
.0

-.4
8.9

-33.3
8.3
-28.9
-12.7

-.3
-.2

-.4
11.8

NOTE. Data in lines 1 through 5 differ in timing and coverage from the balance of payments data published by the Department
of Commerce. Details may not sum to totals because of rounding.
1. Changes in dollar-denominated positions of all depository institutions and bank holding companies plus certain transactions
between broker-dealers and unaffiliated foreigners (particularly borrowing and lending under repurchase agreements). Includes
changes in custody liabilities other than U.S. Treasury bills.
2. Includes commissions on securities transactions and therefore does not match exactly the data on U.S. international transactions
published by the Department of Commerce.
3. Includes (4d) or represents (5c) stocks acquired through mergers.
4. Transactions by nonbanking concerns and other banking and official transactions not shown elsewhere plus amounts resulting
from adjustments made by the Department of Commerce and revisions in lines 1 through 5 since publication of the quarterly data in
the Survey of Current Business
5. Consists of transactions in nonproduced nonfinancial assets and capital transfers.
n.a. Not available. ... Not applicable.

IV-9

Foreign Financial Markets
The exchange value of the dollar against major foreign currencies was volatile during the
intermeeting period, but ended the period little changed on a trade-weighted basis. The
dollar’s bilateral moves were mixed, falling 2¼ and ½ percent against the yen and
Canadian dollar, respectively, but rising 2 to 3 percent against the major European
currencies. The nominal broad index of the dollar declined slightly on net.
Exchange Value of the Dollar
December 14, 2004 = 100
108
Daily
Dec.
FOMC

106

Major currencies
104
Broad
102
Other important
trading partners
100

Oct

Nov

Dec

Jan

After depreciating against a broad range of currencies in the last weeks of December
amid light trading conditions typical for the end of the calendar year, the dollar surprised
many currency analysts in the first week of the new year by appreciating sharply. There
was little consensus among market participants about the factors driving the gains in the
dollar. Following the release of the December FOMC minutes and stronger-thanexpected U.S. factory orders data, discussions centered on expected further increases in
U.S. short-term interest rates and the relative strength of the U.S. economic outlook vis-àvis Europe and Japan as positive factors for the dollar. However, the release of the much
larger-than-expected U.S. trade deficit for November prompted a pause in the reported
dominance of these factors in shaping market sentiment and at least temporarily halted
the prevailing upward trend in the dollar. Comments by Treasury Secretary Snow in
mid-January, which were initially interpreted as signaling an increased willingness by the

IV-10

Administration to engage in intervention operations, prompted the dollar to appreciate
briefly. However the dollar subsequently more than reversed these gains after Secretary
Snow corrected this interpretation and reiterated the government’s belief in the free
market determination of exchange rates. The dollar was supported late in the period, in
part, by comments by Federal Reserve officials which market participants interpreted as
implying a somewhat faster rate of interest rate increases in the United States.
The dollar’s relative weakness against the yen and Canadian dollar were due in part to
currency-specific factors. The yen was supported early and again late in the period by
evidence of strengthening capital expenditures by Japanese firms. The yen was also
marginally supported against the dollar following comments by a high ranking ECB
official who suggested that the euro had already adjusted fully against the dollar and that
any further correction in the latter currency’s exchange value should be borne by Asian
currencies. The Canadian dollar was supported against the dollar by news of strongerthan-expected Canadian job growth and an unexpected increase in the Canadian trade
surplus for November. As had been widely expected, policymakers at the Bank of
Canada decided to leave their policy rate unchanged at 2.5 percent on January 25.

Financial Indicators in Major Industrial Countries

Country
Canada

Three-month rate
Percentage
Jan. 26
point
(Percent)
change

Ten-year yield
Percentage
Jan. 26
point
(Percent)
change

Equities
percent
change

2.54

.02

4.23

-.06

1.28

.08

.00

1.34

-.02

4.12

Euro area

2.14

-.03

3.57

-.04

2.20

United Kingdom

4.79

.01

4.60

.09

2.81

.70

-.02

2.24

.05

2.91

Australia

5.44

.03

5.36

.16

3.04

United States

2.66

.20

4.20

.06

-2.47

Memo:
Weighted-average
foreign

1.94

-.01

3.64

-.05

n.a.

Japan

Switzerland

NOTE. Change is from December 13/14 to January 26 (10 a.m. EDT).
n.a. Not available.

IV-11

Policy makers in the euro area and the United Kingdom also left their respective policy
rates unchanged in decisions this period and Japan did not change its target range for
reserves. Net movements in foreign-currency short-term interest rates were
correspondingly small, as were movements in most foreign industrial economy
benchmark government bond yields. Expectations for future monetary policy in Europe
and Japan changed little on net, and continue to suggest little likelihood of policy
tightening at least through the first half of 2005, and measures of inflation expectations in
these currency regions remain low.
Major equity indexes in Europe saw modest gains while Japanese equity prices
outperformed global markets, led by price gains in shares of machinery and real estate
firms. The rise in oil prices had little reported effect on foreign equity prices and implied
volatilities on equity indexes remain at historical lows.
On balance, the index of the dollar’s value against our other important trading partners
fell about ¾ percent this period. The dollar depreciated a further 2½ and 2 percent,
respectively, against the Korean won and Taiwan dollar despite reports of heightened
dollar purchases by monetary authorities in these countries. The expected amount of
appreciation of the Chinese reminbi against the dollar over the next twelve months
implied by forward contracts fluctuated during the period amid conflicting statements by
Chinese officials regarding the timing of a potential change in China’s currency peg. At
the end of the period, these rates implied a 5 percent appreciation in the currency.
The tsunamis in the Indian Ocean had little discernable effect on asset valuations in
Indonesia and Thailand, where stock markets registered net gains of about 10 percent.
Indeed, the currencies of these countries have appreciated modestly against the dollar
since the December FOMC meeting, supported in part by the inflow of financial aid
following the disaster.
In Latin America, the Brazil real appreciated over 3 percent against the dollar on net.
The central bank of Brazil increased its policy rate a total of 100 basis points in two
decisions on December 15 and January 19. Equity prices in Brazil and Mexico saw their
first substantial declines in several months as U.S. markets declined in early January.
Although the Mexican stock market quickly more than reversed those losses, the
Brazilian equity market did not and ended the intermeeting period 3 percent lower on net.

IV-12

Financial Indicators in Latin America, Asia, and Russia
Currency/
US dollar

Short-term
interest rates1
Percentage
Jan.25/26
point
(Percent)
change

Dollar-denominated
bond spread2
Percentage
Jan.25/26
point
(Percent)
change

Equity
prices

Jan. 26

Percent
change

11.26

-.29

8.70

.06

1.65

-.08

5.15

Brazil

2.68

-3.24

18.20

.77

4.13

.03

-2.76

Argentina

2.92

-1.65

n.a.

51.97

-.56

6.67

Chile

585.05

.35

2.92

.49

.54

-.02

-2.31

China

8.28

.00

n.a.

.58

.03

-5.02

Korea

1031.45

-2.51

3.50

.15

...

9.14

31.87

-1.92

1.38

.03

...

-1.26

Singapore

1.63

-1.04

1.63

.31

...

4.83

Hong Kong

7.80

.29

.63

.21

...

-2.99

Malaysia

3.80

-.01

2.80

-.01

.44

-.02

2.94

Thailand

38.50

-2.61

2.32

.42

.48

-.10

8.76

9145.00

-1.72

7.42

.00

.83

-.15

12.52

Philippines

55.25

-1.65

6.25

-.81

4.35

-.31

10.96

Russia

28.02

.20

n.a.

2.09

-.18

10.88

Economy
Mexico

Taiwan

Indonesia

NOTE. Change is from December 13/14 to January 25/26.
1. One month interbank interest rate, except Chile: 30-day deposit rate; Korea: 1-week call rate.
No reliable short-term interest rates exist for China or Russia.
2. Spread over similar maturity U.S. Treasury security yield. Mexico, Brazil, Argentina, Korea,
the Philippines and Russia: EMBI+ yield. Chile and China: Global bond yield. Malaysia: Eurobond
yield. Thailand and Indonesia: Yankee bond yield. Taiwan, Singapore, and Hong Kong do not have
outstanding sovereign bonds denominated in dollars.
n.a. Not available. ... Not applicable.

Percent
change

IV-13

Developments in Foreign Industrial Countries
Indicators of economic activity in the major foreign industrial economies generally
remained soft in the fourth quarter. While labor conditions continued to improve
gradually in Japan, measures of industrial production, business confidence and household
expenditures have all fallen. Euro-area data on balance remained sluggish: the latest
readings on overall industrial production and retail sales in the euro area have both
declined. Fourth-quarter GDP in the United Kingdom expanded strongly, with a brisk
rise in the service sector. Likewise, indicators of Canadian domestic demand remained
robust, but exports continued to slide, and GDP by industry was unchanged again in
October.
Headline rates of consumer price inflation finished the fourth quarter up a tad in the euro
area and the United Kingdom, but down a bit in Canada. Inflation remains a bit above
the ECB ceiling rate in the euro area. Deflation in Japanese core consumer prices
increased slightly.
In Japan, recent readings on economic activity have been weak. On average, industrial
production for October and November was down 0.6 percent from the third-quarter level,
depressed by weakness in electronics-related sectors. The all-industries index of output
rebounded in November, but remained on track for a decline in the fourth quarter.
Household expenditures were down nearly 2 percent in October and November on
average compared with the third-quarter average, and new car registrations in the fourth
quarter were roughly flat. Real exports were about flat in the fourth quarter, but imports
increased, implying another negative contribution to growth from net exports. In
particular, imports of vegetables rose markedly following a series of typhoons in Japan.
On a more promising note, core machinery orders, a leading indicator of business
investment, surged nearly 20 percent in November from the previous month, following
several months of declines.
The Bank of Japan’s Tankan index of business conditions posted a slight decline in
December, with the level of the aggregate diffusion index for business sentiment among
firms of all sizes and across all industries slipping to 1 from 2 in September. Survey
respondents project a further decline in the index, to -3, for March. The index for large
manufacturers decreased to 22, from 26 in September, marking the first fall in two years.

IV-14

Labor market conditions continued their gradual improvement, but deflation worsened a
little. The unemployment rate declined to 4.5 percent in November, although
employment fell. The job-offers-to-applicants ratio, a leading indicator of employment,
rose to a fresh twelve-year high. Average nominal wages continued to fall through
November, dragged down by an increase in the share of part-time workers in the
workforce. Core consumer goods prices in the Tokyo area (which exclude fresh food but
include energy) ticked down in December from the previous month and were down 0.4
percent from a year earlier. Wholesale price inflation eased a little in December.
Japanese Economic Indicators
(Percent change from previous period except as noted, s.a.)
2004

Indicator
Q2
Industrial production1
All-industries index
Housing starts
Machinery orders2
Machinery shipments3
New car registrations
Unemployment rate4
Job offers ratio5
Business sentiment6
CPI (core, Tokyo area)7
Wholesale prices7

Sep.

Oct.

Nov.

2.7
1.8
-4.4
10.3
4.3
-8.4
4.6
.80
.0
-.1
1.0

-.7
-.2
6.1
-8.4
-1.6
8.6
4.8
.83
2.0
-.1
1.7

n.a.
n.a.
n.a.
n.a.
n.a.
.2
n.a.
n.a.
1.0
-.3
2.0

-.4
.1
7.3
-1.9
.2
2.1
4.6
.84
...
-.1
1.8

-1.3
1.7
-.3
.3
-5.3
-5.3
-3.1 19.9
-.7
1.7
-4.7
5.5
4.7
4.5
.88
.92
...
...
-.3
-.3
2.0
2.0

Dec.
n.a.
n.a.
n.a.
n.a.
n.a.
-.8
n.a.
n.a.
...
-.4
1.9

1. Mining and manufacturing.
2. Private sector, excluding ships and electric power.
3. Excluding ships and railway vehicles.
4. Percent.
5. Level of indicator.
6. Tankan survey, diffusion index.
7. Percent change from year earlier, n.s.a.
n.a. Not available. . . . Not applicable.

Japan’s Cabinet approved the fiscal budget for FY2005 (April 2005-March 2006) in late
December. Expenditures will rise slightly relative to FY2004’s initial budget. Additional
expenditures on social security and a 5 percent rise in debt-servicing costs will be largely
offset by cuts in most other categories, including public works spending, which is slated
to decline 3.6 percent. Tax revenues are projected to rise 5.4 percent, on the back of a
recovering economy and the phasing out of past tax cuts, marking the first increase in tax
revenues in four years. The budget will require ¥34.2 trillion in new bond issuance for

IV-15

FY2005, about ¥2.2 trillion less than in FY2004. All told, fiscal policy is expected to
have a somewhat contractionary effect on GDP this year.
Incoming data for the euro area appear to signal a limited pickup in growth from the
third quarter. French consumption of manufactured products rose in both October and
November to a level roughly 2 percent above the September level, consistent with a
resurgence in household demand in the fourth quarter after the third quarter’s decline.
German economic activity remained weak: based on an official preliminary estimate of
2004 annual GDP growth, German GDP in the fourth quarter appears to have grown at a
0.6 percent annual rate, only slightly above the 0.4 percent rate in the third quarter. GDP
expenditure components are not yet available, but merchandise export data suggest
renewed German export growth after the third quarter’s decline.
Euro-Area Economic Indicators
(Percent change from previous period except as noted, s.a.)
2004

Indicator
Q2
Industrial production1
Retail sales volume2
Unemployment rate3
Consumer confidence4
Industrial confidence4
Manufacturing orders, Germany
CPI5
Producer prices5
M35

1.0
-.1
8.9
-14.7
-4.7
1.9
2.3
2.0
5.3

.2
-.2
8.9
-13.7
-3.7
-.2
2.2
3.1
6.0

Sep.

Oct.

Nov.

Dec.

n.a.
.7
n.a.
-.1
n.a.
8.9
-13.3 -13.0
-3.3
-3.0
n.a.
.7
2.3
2.1
n.a.
3.3
n.a.
6.0

-.6
.4
8.9
-14.0
-3.0
1.0
2.4
4.0
5.8

-.5
-.0
8.9
-13.0
-3.0
-2.4
2.2
3.6
6.0

n.a.
n.a.
n.a.
-13.0
-4.0
n.a.
2.4
n.a.
n.a.

1. Excludes construction.
2. Excludes motor vehicles.
3. Percent. Euro-area standardized to ILO definition. Includes Eurostat estimates in some cases.
4. Diffusion index based on European Commission surveys in individual countries.
5. Eurostat harmonized definition. Percent change from year earlier.
n.a. Not available.

The preliminary estimate of twelve-month consumer price inflation in the euro area rose
to 2.4 percent in December. The ECB measure of twelve-month core inflation, excluding
energy and unprocessed foods, rose back to 2 percent in December. Labor market
conditions remained weak in the euro area, with the unemployment rate unchanged at 8.9
percent in November. The harmonized unemployment rate in Germany rose to 10
percent in December.

IV-16

Real GDP in the United Kingdom rose a much higher-than-expected 3 percent (s.a.a.r.)
in the fourth quarter, according to the preliminary estimate. In contrast, industrial
production is estimated to have fallen nearly 2½ percent. A fall in oil and gas extraction
was mainly responsible for the contraction in production. The service sector, which
accounts for around 72 percent of the economy, grew more than 3½ percent in the fourth
quarter. Construction expanded just over 3 percent.
Increases in house prices slowed sharply over the last several months of 2004, with house
prices remaining almost flat over the fourth quarter. Household net mortgage borrowing
in November fell about 8 percent from its October level and is now about 20 percent
below its 2003 peak.
U.K. Economic Indicators
(Percent change from previous period except as noted, s.a.)
2004

Indicator
Q2
Real GDP*
Industrial production
Retail sales volume1
Unemployment rate2
Claims-based
Labor force survey3
Business confidence4
Consumer confidence5
Consumer prices6
Producer input prices7
Average earnings7

Sep.

Oct.

Nov.

Dec.

3.5
1.1
2.0

1.8
-1.3
.9

3.0
n.a.
.4

…
-.3
1.0

…
-.2
-.6

…
.2
.6

…
n.a.
-1.0

2.8
4.8
16.3
-4.3
1.4
3.9
4.2

2.7
4.7
12.3
-4.0
1.2
5.6
3.8

2.7
n.a.
4.3
-.7
1.4
6.3
n.a.

2.7
4.7
12.0
-3.0
1.1
7.8
3.9

2.7
4.7
14.0
-2.0
1.2
8.9
4.2

2.7
n.a.
5.0
.0
1.5
6.7
4.4

2.7
n.a.
-6.0
.0
1.6
3.4
n.a.

* Preliminary estimate (s.a.a.r.)
1. Excludes motor vehicles.
2. Percent.
3. Three-month average centered on month shown.
4. Percentage of firms expecting output to increase in the next four months less
percentage expecting output to decrease.
5. Average of the percentage balance from consumers’ expectations of their financial
situation, general economic situation, unemployment, and savings over the next 12 months.
6. Consumer prices index (CPI), percent change from year earlier.
7. Percent change from year earlier.
n.a. Not available. . . . Not applicable.

The labor market continued to be tight; the official-claims-based measure of the
unemployment rate remained near its lowest point since 1975, and the labor-force-survey

IV-17

measure stayed near its all-time low. The twelve-month rate of consumer price inflation
edged up in December, but stayed below the Bank of England’s 2 percent target.
In Canada, external demand continued to weaken in the fourth quarter. In November,
merchandise exports fell for the fifth consecutive month, and import growth paused
following strong gains the previous several months. The manufacturing sector, which is
heavily export-oriented, has seen a mixed performance, with shipments up but new orders
down in November. Weakness in manufacturing was a leading cause of the zero growth
in GDP by industry recorded in October. The sector may have rebounded somewhat in
December, however, as a leading indicator of new orders jumped 1 percent, the largest
rise in this indicator in six months.
Canadian Economic Indicators
(Percent change from previous period except as noted, s.a.)
2004

Indicator
Q2
GDP by industry
Industrial production
New manufacturing orders
Retail sales
Employment
Unemployment rate1
Consumer prices2
Core consumer prices2,3
Consumer attitudes (1991 = 100)
Business confidence (1991 = 100)

1.0
1.0
1.3
1.5
5.1
1.4
.6
1.6
.5
.3
7.3
7.2
2.2
2.0
1.7
1.7
115.5 123.0
145.6 151.4

Q4
n.a.
n.a.
n.a.
n.a.
.5
7.1
2.3
1.5
123.7
n.a.

Sep.
.0
-.3
-.8
.5
.3
7.1
1.8
1.5
...
...

Oct.
.0
-.2
-.3
.7
.2
7.1
2.3
1.5
...
...

Nov.

Dec.

n.a.
n.a.
-.5
-.4
.0
7.3
2.4
1.5
...
...

n.a.
n.a.
n.a.
n.a.
.2
7.0
2.1
1.5
...
...

1. Percent.
2. Percent change from year earlier, n.s.a.
3. Excluding the 8 most volatile components (fruits, vegetables, gasoline, fuel oil, natural gas,
mortgage interest, inter-city transportation and tobacco).
n.a. Not available. . . . Not applicable.

In contrast, domestic demand seems to have remained healthy throughout the fourth
quarter. Housing starts in December continued their year-long vigor, marking 2004 as
the strongest year for new home construction since 1987. Although retail sales slipped a
bit in November, the dip came on the heels of a blistering advance in October, as gains in
personal income supported consumer spending through much of 2004. The composite
index of leading indicators turned up 0.2 percent in December, after being unchanged in
November, which had marked the end of a four-month deceleration in the indicator.

IV-18

The labor market rebounded in December, after a dip in November, as total employment
posted a strong gain, and the unemployment rate fell to 7 percent, its lowest point since
May 2001. In 2004, total employment grew 1.4 percent, with most of the gains in fulltime employment.
In December, the twelve-month rate of headline CPI inflation dipped, as gasoline prices
continued to decline. The twelve-month rate of core inflation, excluding the eight most
volatile components, held steady at 1.5 percent in December.

IV-19

External Balances
(Billions of U.S. dollars, s.a.a.r.)
2004

Country and balance
Q2
Japan
Trade
Current account
Euro area
Trade
Current account
Germany
Trade
Current account
France
Trade
Current account
Italy
Trade
Current account1
United Kingdom
Trade
Current account
Canada
Trade
Current account

Oct.

Nov.

Dec.

116.5 102.7 105.7 93.9 113.3 109.8
171.7 167.9
n.a. 150.2 158.9
n.a.
112.4
73.5

64.4
18.1

199.5 180.2
126.2 40.3

n.a.
n.a.

48.6
21.0

47.3
6.2

n.a.
n.a.

n.a. 186.0 182.6
n.a. 98.9 132.3

n.a.
n.a.

-.8
-.4

-2.5
-1.1

n.a.
n.a.

-4.2
-2.8

-2.6
-.7

n.a.
n.a.

1.2
-30.0

-.1
21.1

n.a. -11.5
n.a. 14.9

-2.7
-31.7

n.a.
n.a.

n.a. -109.3 -102.5
n.a.
...
...

n.a.
...

n.a.
n.a.

n.a.
...

-104.9 -106.8
-42.0 -63.8
55.6
32.9

51.0
28.7

1. Not seasonally adjusted.
n.a. Not available. . . . Not applicable.

50.1
...

73.2
...

IV-20

Consumer Price Inflation in Selected Industrial Countries
(12-month change)
Japan

Germany
Percent

Percent

4
3

-1

1997 1998 1999 2000 2001 2002 2003 2004

-1

-2

France

1997 1998 1999 2000 2001 2002 2003 2004

-2

United Kingdom
Percent

Percent

4
3

-1

1997 1998 1999 2000 2001 2002 2003 2004

-1

-2

Italy

1997 1998 1999 2000 2001 2002 2003 2004

-2

Canada
Percent

Percent

4
3

-1

1997 1998 1999 2000 2001 2002 2003 2004

-1

-2

1997 1998 1999 2000 2001 2002 2003 2004

-2

IV-21

Industrial Production in Selected Industrial Countries
Japan

1997=100

130

Germany

1997=100

130

120

110

100

France

110

100

1997 1998 1999 2000 2001 2002 2003 2004

120

130

1997 1998 1999 2000 2001 2002 2003 2004

United Kingdom

130

120

110

100

Italy

110

100

1997 1998 1999 2000 2001 2002 2003 2004

120

130

1997 1998 1999 2000 2001 2002 2003 2004

Canada

130

120

110

100

1997 1998 1999 2000 2001 2002 2003 2004

120

1997 1998 1999 2000 2001 2002 2003 2004

IV-22

Economic Situation in Other Countries
After having slowed in the past few quarters, incoming data on economic activity in the
fourth quarter suggest that real GDP growth edged up in Latin America and emerging
Asia on average. Consumer price inflation in many emerging market economies rose last
year, partly due to higher oil prices.
The Chinese economy continues to expand at a robust pace. Real GDP grew
11.2 percent (s.a.a.r.) in the fourth quarter, despite a steep fall in investment spending
(staff estimate), as retail sales growth remained strong and the trade surplus widened.
Twelve-month consumer price inflation dropped sharply to 3.2 percent in the fourth
quarter, reflecting continued declines in food prices.
Chinese Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2004
Q3

Real GDP1
Industrial production
Consumer prices1
Trade balance2

10.0
18.6
3.2
25.5

9.5
14.5
2.4
31.9

Oct.

Nov.

Dec.

10.1
2.9
5.3
44.1

11.2
3.6
3.2
67.2

…
1.6
4.3
25.9

…

…
.9
2.4
86.4

.7
2.8
89.4

1. Annual rate. Quarterly data estimated by staff from reported four-quarter growth
rates. Annual data are Q4/Q4.
2. Billions of U.S. dollars, annual rate. Imports are c.i.f.
. . . Not applicable.

Indicators for Hong Kong suggest continued rapid growth, with improvement in both
external and domestic demand. Retail sales were up 3½ percent in October and
November from the third-quarter level, and the trade deficit narrowed sharply over the
same period owing to a surge in exports. The twelve-month change in the CPI remained
slightly positive in December.

IV-23

Hong Kong Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2004
Q3

Real GDP1
Unemployment rate2
Consumer prices3
Trade balance4

4.7
7.9
-1.9
-8.5

n.a.
6.9
-.2
n.a.

7.8
6.8
.8
-13.4

Oct.

Nov.

Dec.

n.a.
6.5
.2
n.a.

…
6.7
.2
-7.5

…
6.7
.2
-6.9

…
6.5
.2
n.a.

1. Annual rate. Annual data are Q4/Q4.
2. Percent. Monthly data are averages of the current and previous two months.
3. Percent change from year-earlier period, except annual data, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate. Imports are c.i.f.
n.a. Not available. . . . Not applicable.

In Taiwan, both production and exports fell in the fourth quarter. However, forwardlooking indicators are more positive, as orders for high-tech exports hit a new high in the
fourth quarter. In addition, strong gains in imports of both consumer and capital goods
suggest that domestic demand remained robust in the fourth quarter. Twelve-month
consumer price inflation stayed around 1½ percent in December.
Taiwan Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2004
Q3

Real GDP1
Unemployment rate2
Industrial production
Consumer prices3
Trade balance4
Current account5

5.5
5.0
7.1
-.1
16.9
29.3

n.a.
4.5
9.8
1.6
6.1
n.a.

Oct.

Nov.

Dec.

4.5
4.4
-.2
2.9
11.5
21.3

n.a.
4.2
-.8
1.8
-7.0
n.a.

…
4.2
-.4
2.4
-2.3
…

…
4.2
-.4
1.5
-2.6
…

…
4.2
-.9
1.6
-16.2
…

1. Annual rate. Annual data are Q4/Q4.
2. Percent.
3. Percent change from year-earlier period, except annual data, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate. Imports are c.i.f.
5. Billions of U.S. dollars, n.s.a., annual rate.
n.a. Not available. . . . Not applicable.

Incoming indicators for economic activity in Korea suggest that growth will remain
subdued in the fourth quarter and heavily dependent on external demand. Both
production and exports were up in October and November relative to the third quarter,
but retail sales fell and both consumer and business sentiment remained weak. Activity

IV-24

in the service sector also has continued to contract. Twelve-month consumer price
inflation dropped to 3 percent in December from November’s 3.3 percent, the lowest rate
since last March, largely as a result of lower fuel price inflation. The Bank of Korea
decided to keep interest rates constant at its meeting on January 13, noting that domestic
demand remains sluggish while export growth is steady.
Korean Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2004
Q3

Real GDP1
Industrial production
Unemployment rate2
Consumer prices3
Trade balance4
Current account5

4.1
5.0
3.4
3.4
22.0
11.9

n.a.
n.a.
3.5
3.0
n.a.
n.a.

Oct.

Nov.

Dec.

2.6
-.1
3.6
4.3
42.4
28.4

n.a.
n.a.
3.5
3.4
n.a.
n.a.

…
-.9
3.5
3.8
27.5
28.8

…
2.2
3.5
3.3
42.6
35.3

…
n.a.
3.6
3.0
n.a.
n.a.

In the ASEAN region, recent performance has been mixed. In Singapore, industrial
production expanded 6.6 percent in the fourth quarter. The strong fourth quarter
performance was driven by a surge in the volatile biomedical production in December. In
Malaysia, where anecdotal evidence suggests that fourth-quarter domestic demand was
relatively strong, industrial production was also up. Elsewhere in the region, average
production fell in the most recent months available. Trade data indicate that the ASEAN
economies as a whole continued to run a trade surplus in the final months of last year,
although country-specific surpluses, with the exception of Singapore, have recently been
declining, as weak global demand for high-tech products appears to have been weighing
down on export growth.
Consumer price inflation remains elevated across the region relative to 2003.
Nonetheless, the monetary authorities have been reluctant to increase interest rates, so as
to avoid dampening domestic demand. The exception is in Thailand where the central
bank increased its benchmark interest rate 25 basis points to 2 percent in December, the
third rate increase since August 2004.

IV-25

On December 26, an earthquake off of the coast of Indonesia generated a massive
tsunami that killed over 200,000 people in the region. While the ultimate economic
effect of this disaster is not yet fully known, it is generally expected that it will have a
small impact for several reasons. First, very few industrial plants in the ASEAN
countries were affected. Second, although the human toll is large in absolute terms, as a
percent of the countries’ aggregate population, it is not particularly large. Third, the
negative effects of the disaster itself will be tempered by reconstruction activity and
disaster financing relief.
ASEAN Economic Indicators: Growth
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2004
Q3

Oct.

Nov.

Dec.

…
…
…
…
…

Real GDP1
Indonesia
Malaysia
Philippines
Singapore
Thailand

4.2
6.6
4.8
4.9
7.7

n.a.
n.a.
n.a.
n.a.
n.a.

5.2
2.5
5.9
-3.0
6.9

n.a.
n.a.
n.a.
n.a.
n.a.

…
…
…
…
…

Industrial
production2
Indonesia3
Malaysia
Philippines
Singapore
Thailand

3.9
9.3
.0
3.0
12.3

n.a.
n.a.
n.a.
13.9
n.a.

-1.5
-.3
1.4
-1.0
.4

n.a.
n.a.
n.a.
6.6
n.a.

11.0
-.9
-3.6
4.2
-.3

1. Annual rate. Annual data are Q4/Q4.
2. Annual data are annual averages.
3. Staff estimate.
n.a. Not available. . . . Not applicable.

-17.6
3.2
1.6
-5.2
-.2

n.a.
n.a.
n.a.
19.5
n.a.

IV-26

ASEAN Economic Indicators: Trade Balance
(Billions of U.S. dollars, s.a.a.r.)
Indicator

2003

2004

2004
Q3

Indonesia
Malaysia
Philippines
Singapore
Thailand

28.5
21.4
-1.3
16.2
3.8

n.a.
n.a.
n.a.
16.1
n.a.

Oct.

26.5
23.8
-.1
16.5
1.2

n.a.
n.a.
n.a.
18.3
n.a.

28.0
24.4
-1.6
14.7
8.7

Nov.
22.2
17.3
1.9
8.1
1.2

Dec.
n.a.
n.a.
n.a.
32.2
n.a.

n.a. Not available.

ASEAN Economic Indicators: CPI Inflation
(Percent change from year earlier, except as noted)
Indicator

2004

20031 20041
Q3

Indonesia
Malaysia
Philippines
Singapore
Thailand

5.2
1.2
3.1
.8
1.8

6.4
2.1
7.9
1.5
2.9

6.7
1.5
6.4
1.7
3.3

Q4
6.3
2.1
7.5
1.7
3.1

Oct.

Nov.

Dec.

6.2
2.1
7.1
2.0
3.5

6.2
2.2
7.6
1.8
3.0

6.4
2.1
7.9
1.5
2.9

1. Dec./Dec.

In Mexico, recent data releases suggest some pickup in economic activity after a soft
performance in the third quarter. Industrial production edged up in November, and
manufacturing exports registered a solid performance in recent months as a result of
growing demand from the United States. Indicators of consumption and investment
spending have continued to be strong, with a boom in consumer credit fueling retail sales.
High oil revenues have continued to allow government spending to provide a significant
stimulus to the economy.
In an unexpected move intended to moderate inflation expectations at a key round of
year-end salary negotiations, in mid-December the Bank of Mexico tightened policy for
the ninth time during 2004. Consumer prices stood at 5.2 percent for year-end 2004,
outside the upper limit of the 2 to 4 percent inflation target, as a result of high food and
energy prices. However, inflation in December edged down compared with November,
and it appears to have begun to trend downwards as some food prices have begun to fall.
In a further effort to cut prices, the government announced in December that it would

IV-27

reduce the price of some regulated goods, such as domestic gas and electricity, and slash
import tariffs on machinery and industrial equipment.
Mexican Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2004
Q3

Real GDP
Overall economic
activity
Industrial production
Unemployment rate2
Consumer prices3
Trade balance4
Imports4
Exports4
Current account5

2.0

n.a.

2.6

1.4
n.a.
.9
-.7
n.a.
.6
3.3
3.8
3.8
4.0
5.2
4.8
-5.6
-8.1
-9.4
170.5 197.2 200.5
164.9 189.1 191.1
-8.7
n.a.
-8.5

Q4
n.a.

Oct.

Nov.

Dec.

…

n.a.
.8
.5
n.a.
.1
.2
3.7
3.5
3.7
5.3
5.4
5.4
-11.5
-7.9 -12.4
207.6 203.1 211.1
196.2 195.2 198.7
n.a. …
…

n.a.
n.a.
3.8
5.2
-14.1
208.7
194.7
…

1. Annual rate. Annual data are Q4/Q4.
2. Percent; counts as unemployed those working one hour a week or less.
3. Percent change from year-earlier period, except annual data, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate.
5. Billions of U.S. dollars, n.s.a., annual rate.
n.a. Not available. . . . Not applicable.

In Brazil, data releases since the last Greenbook have pointed to a continued slowdown
in economic activity over the fourth quarter from the robust growth seen over the first
half of 2004. Industrial production, which had peaked in August, declined 0.4 percent in
November. Some analysts nonetheless predict a rebound in industrial output in
December, pointing in part to robust December vehicle sales, which were up 20 percent
on a twelve-month basis.
Inflation has been a major concern. December headline consumer price inflation was
0.8 percent (s.a.), bringing the twelve-month increase to 7.6 percent, well above the
central bank’s 5.1 percent target for 2005. A rise in inflation in recent months reflects, in
part, hikes in domestic prices of fuel in October and November by Petrobras, the
government-controlled oil firm, which had last raised prices in June. Nevertheless, core
inflation, which excludes energy and other administered prices and food, has also been
edging up, and ended 2004 at 7½ percent on a twelve-month basis. As expected, the
central bank on January 19 raised its policy rate 50 basis points for the fifth consecutive

IV-28

month, to 18¼ percent. The policy rate is up 225 basis points since the central bank
began tightening in September.
Brazilian Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2004
Q3

Real GDP
Industrial production
Unemployment rate2
Consumer prices3
Trade balance4
Current account5

.8
.1
12.4
9.3
24.8
4.0

n.a.
n.a.
11.5
7.6
33.7
n.a.

Oct.

Nov.

Dec.

4.2
2.4
11.2
6.9
35.7
21.3

n.a.
n.a.
11.3
7.2
34.0
7.9

…
.0
10.9
6.9
30.9
12.1

…
-.4
11.4
7.2
32.1
-2.9

…
n.a.
11.5
7.6
38.9
14.5

1. Annual rate. Annual data are Q4/Q4.
2. Percent; break in October 2001 as a result of change in methodology.
3. Percent change from year-earlier period, except annual data, which are Dec./Dec.
Price index is IPC-A.
4. Billions of U.S. dollars, annual rate.
5. Billions of U.S. dollars, n.s.a., annual rate.
n.a. Not available. . . . Not applicable.

In Argentina, the economic recovery picked up steam in the third quarter, with real GDP
growing at an annual rate of 12 percent, following a weak second quarter. Fourth-quarter
indicators are consistent with continued strong growth, although at a more moderate pace.
Industrial production in the fourth quarter was more than 2 percent above its third-quarter
level, slightly less than its Q3 pace of increase. The trade surplus was nearly $13 billion
in November; nominal exports have recently been supported by higher commodities
prices. December consumer price inflation was 2.0 percent (s.a.) at a monthly rate,
bringing the twelve-month increase to 6.2 percent, just below the central bank’s 2004
projection band of 7 to 11 percent.
After more than three years in default, the Argentine government launched its debt swap
on January 14 with the goal of restructuring $82 billion in defaulted bonds. The swap
offer will remain open until February 25. The government reached a prior agreement
with local pension funds to restructure the defaulted paper they hold, ensuring a
minimum acceptance of some 17 percent.

IV-29

Argentine Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2004
Q3

Real GDP1
Industrial production
Unemployment rate2
Consumer prices3
Trade balance4
Current account5

12.1
16.1
17.3
3.8
15.7
7.4

n.a.
10.7
n.a.
6.2
n.a.
n.a.

12.0
2.3
13.2
5.3
11.7
2.1

Q4
n.a
2.0
n.a.
5.8
n.a.
n.a.

Oct.

Nov.

Dec.

…
-.1
…
5.7
13.9
…

…

…
1.9
…
6.2
n.a.
…

.8
…
5.5
12.8
…

1. Annual rate. Annual data are Q4/Q4.
2. Percent; n.s.a.
3. Percent change from year-earlier period, except annual data, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate.
5. Billions of U.S. dollars, n.s.a., annual rate.
n.a. Not available. . . . Not applicable.

In Venezuela, the sparse information that is available points to continued expansion in
economic activity in the fourth quarter. Government spending is estimated to have risen
45 percent in 2004, boosted by the high price of oil. Capital controls remain in place,
limiting speculative activity that would otherwise erode international reserves, which
stood at $24 billion in mid-January.

IV-30

Venezuelan Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2004
Q3

Real GDP1
Unemployment rate2
Consumer prices3
Non-oil trade balance4
Trade balance4
Current account5

7.0
18.0
27.1
-5.5
16.5
11.5

n.a.
15.1
19.2
n.a.
n.a.
n.a.

Oct.

-.8
14.5
21.5
23.7
53.5
16.4

n.a.
14.1
19.5
n.a.
n.a.
n.a.

…
14.3
19.7
n.a.
n.a.
…

Nov.

Dec.

…
14.7
19.5
n.a.
n.a.
…

…
13.2
19.2
n.a.
n.a.
…

1. Annual rate. Annual data are Q4/Q4.
2. Percent.
3. Percent change from year-earlier period, except annual data, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate.
5. Billions of U.S. dollars, n.s.a., annual rate.
n.a. Not available. . . . Not applicable.

In Russia, real GDP slid ½ percent in the third quarter, as the strong contribution by
exports was not enough to offset surging imports and declining investment. While
November indicators of economic activity were quite strong across a range of sectors,
industrial production was flat in December, bringing full-year growth to 6 percent.
Consumer price inflation edged down to 0.7 percent in December from 0.9 in November,
although full-year inflation was 11.6 percent, well above the government’s 8-10 percent
inflation projection.
The government auctioned Yukos’ key production facility, Yuganskneftegaz, on
December 19. Before the auction, Yukos’ management filed for Chapter 11 bankruptcy
protection in Houston. The auction, however, took place as scheduled, and the winner
was Baikal Finance Group, with a bid of $9.4 billion dollars, above the $8.7 billion
minimum price but less than the amount of Yukos’ tax bill. There was some uncertainty
over the winner’s identity for several days until state-owned Rosneft, which is in the
process of merging with Gazprom, purchased the financing group, effectively
re-nationalizing the facility. The bankruptcy filing severely complicated the Kremlin’s
plan for merging Gazprom, Rosneft, and Yuganskneftegaz, with Russian officials saying
that the Gazprom-Rosneft merger will take place as scheduled, but without
Yuganskneftegaz.

IV-31

Russian Economic Indicators
(Percent change from previous period, s.a., except as noted)
Indicator

2003

2004

2004
Q3

Real GDP1
Industrial production
Unemployment rate2
Consumer prices3
Trade balance4
Current account4

7.5
6.7
8.5
12.0
59.9
35.6

n.a.
6.0
n.a.
11.6
n.a.
n.a.

Oct.

Nov.

Dec.

-.5
.0
7.7
11.0
90.7
64.2

n.a. …
…
-.4
-.4
2.6
n.a.
7.5
7.3
11.6
11.5 11.6
n.a. 101.4 102.9
n.a. …
…

…
.0
n.a.
11.6
n.a.
…

1. Annual rate. Annual data are Q4/Q4.
2. Percent.
3. Percent change from year-earlier period, except annual data, which are Dec./Dec.
4. Billions of U.S. dollars, annual rate.
n.a. Not available. . . . Not applicable.

Full text of Federal Open Market Committee Meeting Minutes, Transcripts, and Other Documents : Meeting, February 1-2, 2005 : Greenbook Part 2

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