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A meeting of the Federal Open Market Committee was held in the offices of the Board of
Governors of the Federal Reserve System in Washington, D.C., on Tuesday, February 3,
1998 at 2:30 p.m. and continued on Wednesday, February 4, 1998 at 9:00 a.m.
Present:
Mr. Greenspan, Chairman
Mr. McDonough, Vice Chairman
Mr. Ferguson
Mr. Gramlich
Mr. Hoenig
Mr. Jordan
Mr. Kelley
Mr. Meyer
Ms. Minehan
Ms. Phillips
Ms. Rivlin
Messrs. Boehne, McTeer, Moskow, and Stern, Alternate Members of the Federal
Open Market Committee
Messrs. Broaddus, Guynn, and Parry, Presidents of the Federal Reserve Banks of
Richmond, Atlanta, and San Francisco, respectively
Mr. Kohn, Secretary and Economist
Mr. Bernard, Deputy Secretary
Mr. Coyne, Assistant Secretary
Mr. Gillum, Assistant Secretary
Mr. Mattingly, General Counsel
Mr. Baxter, Deputy General Counsel
Mr. Prell, Economist
Mr. Truman, Economist
Ms. Browne, Messrs. Cecchetti, Dewald, Hakkio, Lindsey, Promisel, Simpson,
Sniderman, and Stockton, Associate Economists
Mr. Fisher, Manager, System Open Market Account
Mr. Ettin, Deputy Director, Division of Research and Statistics, Board of Governors
Mr. Slifman, Associate Director, Division of Research and Statistics, Board of
Governors
Messrs. Alexander, Hooper, and Ms. Johnson, Associate Directors, Division of
International Finance, Board of Governors
Messrs. Brayton 1 and Rosine,1 Senior Economists, Division of Research and
Statistics, Board of Governors
Ms. Garrett and Mr. Nelson,1 Economists, Division of Monetary Affairs, Board of
Governors
Ms. Low, Open Market Secretariat Assistant, Division of Monetary Affairs, Board of
Governors
Mr. Rives, First Vice President, Federal Reserve Bank of St. Louis
Messrs. Beebe, Eisenbeis, Hunter, Ms. Krieger, Messrs. Lang, Rolnick, and
Rosenblum, Senior Vice Presidents, Federal Reserve Banks of San Francisco,
Atlanta, Chicago, New York, Philadelphia, Minneapolis, and Dallas respectively
Mr. Hetzel, Vice President, Federal Reserve Bank of Richmond
In the agenda for this meeting, it was reported that advices of the election of the following
members and alternate members of the Federal Open Market Committee for the period
commencing January 1, 1998, and ending December 31, 1998, had been received and that
these individuals had executed their oaths of office.
The elected members and alternate members were as follows:
William J. McDonough, President of the Federal Reserve Bank of New York,
with Ernest T. Patrikis, First Vice President of the Federal Reserve Bank of New
York, as alternate;
Cathy E. Minehan, President of the Federal Reserve Bank of Boston, with
Edward G. Boehne, President of the Federal Reserve Bank of Philadelphia, as
alternate;
Jerry L. Jordan, President of the Federal Reserve Bank of Cleveland, with
Michael H. Moskow, President of the Federal Reserve Bank of Chicago, as
alternate;
Robert D. McTeer, Jr., President of the Federal Reserve Bank of Dallas, as
voting alternate pending the election of a President of the Federal Reserve Bank
of St. Louis;
Thomas M. Hoenig, President of the Federal Reserve Bank of Kansas City, with
Gary H. Stern, President of the Federal Reserve Bank of Minneapolis, as
alternate.
By unanimous vote, the following officers of the Federal Open Market Committee were
elected to serve until the election of their successors at the first meeting of the Committee
after December 31, 1998, with the understanding that in the event of the discontinuance of
their official connection with the Board of Governors or with a Federal Reserve Bank, they
would cease to have any official connection with the Federal Open Market Committee:
Alan Greenspan, Chairman
William J. McDonough, Vice Chairman
Donald L. Kohn, Secretary and Economist
Normand R. V. Bernard, Deputy Secretary
Joseph R. Coyne, Assistant Secretary
Gary P. Gillum, Assistant Secretary
J. Virgil Mattingly, Jr., General Counsel
Thomas C. Baxter, Jr., Deputy General Counsel
Michael J. Prell, Economist
Edwin M. Truman, Economist
Lynn E. Browne, Stephen G. Cecchetti,
William G. Dewald, Craig S. Hakkio,
David E. Lindsey, Larry J. Promisel,
Thomas D. Simpson, Mark S. Sniderman,
and David J. Stockton Associate Economists
By unanimous vote, the Federal Reserve Bank of New York was selected to execute
transactions for the System Open Market Account until the adjournment of the first meeting
of the Committee after December 31, 1998.
By unanimous vote, Peter R. Fisher was selected to serve at the pleasure of the Committee as
Manager, System Open Market Account, on the understanding that his selection was subject
to being satisfactory to the Federal Reserve Bank of New York.
Secretary's note: Advice subsequently was received that the selection of Mr.
Fisher as Manager was satisfactory to the board of directors of the Federal
Reserve Bank of New York.
On the recommendation of the Manager, the Committee at this meeting unanimously
approved two changes in the Authorization for Domestic Open Market Operations.
First, the Committee amended paragraph 1(a) of the Authorization to raise from $8 billion to
$12 billion the limit on intermeeting changes in System account holdings of U.S. government
and federal agency securities. The increase was the first permanent change in the limit since
February 1990 when it was raised from $6 billion to $8 billion. The Manager indicated that
the Committee had approved temporary increases several times during the past year and that
the existence of a permanent $12 billion limit would have obviated the need for most of the
increases. A permanent increase to $12 billion would reduce the the number of occasions
requiring special Committee action, while still calling the need for particularly large changes
to the Committee's attention. The Committee concurred in the Manager's view that a $4
billion increase was appropriate.
Second, the Committee terminated the Manager's authority to conduct transactions in bankers
acceptances. This involved the deletion of paragraph 1(b), which authorized purchases or
sales of prime bankers acceptances in the open market, and also the deletion of the reference
in paragraph 1(c), which authorized repurchase agreements in such market instruments. The
Manager indicate that operations in bankers acceptances were not a practical means of
affecting reserves under current circumstances, given the ample availability of U.S. Treasury
obligations in the market. Indeed, the Committee previously had decided in 1977 to suspend
transactions on an outright basis in bankers acceptances and had completed the System's
disengagement from this market in 1984 by instructing the Manager to discontinue the use of
repurchase agreements involving bankers acceptances. While those decisions had left open
the possibility resuming transactions in bankers acceptances and no changes had been made
in the Authorization, the Committee agreed that the existing authority no longer served a
practical purpose. Accordingly, the amended Authorization for Domestic Open Market
Operations was unanimously approved in the form shown below.
Authorization for Domestic Open Market Operations
Amended February 3, 1998
1. The Federal Open Market Committee authorizes and directs the Federal Reserve Bank of
New York, to the extent necessary to carry out the most recent domestic policy directive
adopted at a meeting of the Committee:
(a) To buy or sell U.S. Government securities, including securities of the Federal
Financing Bank, and securities that are direct obligations of, or fully guaranteed
as to principal and interest by, any agency of the United States in the open
market, from or to securities dealers and foreign and international accounts
maintained at the Federal Reserve Bank of New York, on a cash, regular, or
deferred delivery basis, for the System Open Market Account at market prices,
and, for such Account, to exchange maturing U.S. Government and Federal
agency securities with the Treasury or the individual agencies or to allow them
to mature without replacement; provided that the aggregate amount of U.S.
Government and Federal agency securities held in such Account (including
forward commitments) at the close of business on the day of a meeting of the
Committee at which action is taken with respect to a domestic policy directive
shall not be increased or decreased by more than $12.0 billion during the period
commencing with the opening of business on the day following such meeting
and ending with the close of business on the day of the next such meeting;
(b) To buy U.S. Government securities and securities that are direct obligations
of, or fully guaranteed as to principal and interest by, any agency of the United
States, from dealers for the account of the Federal Reserve Bank of New York
under agreements for repurchase of such securities or obligations in 15 calendar
days or less, at rates that, unless otherwise expressly authorized by the
Committee, shall be determined by competitive bidding, after applying
reasonable limitations on the volume of agreements with individual dealers;
provided that in the event Government securities or agency issues covered by
any such agreement are not repurchased by the dealer pursuant to the agreement
or a renewal thereof, they shall be sold in the market or transferred to the System
Open Market Account.
2. In order to ensure the effective conduct of open market operations, the Federal Open
Market Committee authorizes and directs the Federal Reserve Banks to lend U.S.
Government securities held in the System Open Market Account to Government securities
dealers and to banks participating in Government securities clearing arrangements conducted
through a Federal Reserve Bank, under such instructions as the Committee may specify from
time to time.
3. In order to ensure the effective conduct of open market operations, while assisting in the
provision of short-term investments for foreign and international accounts maintained at the
Federal Reserve Bank of New York, the Federal Open Market Committee authorizes and
directs the Federal Reserve Bank of New York (a) for System Open Market Account, to sell
U.S. Government securities to such foreign and international accounts on the bases set forth
in paragraph l(a) under agreements providing for the resale by such accounts of those
securities within 15 calendar days on terms comparable to those available on such
transactions in the market; and (b) for New York Bank account, when appropriate, to
undertake with dealers, subject to the conditions imposed on purchases and sales of securities
in paragraph l(b), repurchase agreements in U.S. Government and agency securities, and to
arrange corresponding sale and repurchase agreements between its own account and foreign
and international accounts maintained at the Bank. Transactions undertaken with such
accounts under the provisions of this paragraph may provide for a service fee when
appropriate.
With Mr. Jordan dissenting, the Authorization for Foreign Currency Operations shown below
was reaffirmed.
Authorization for Foreign Currency Operations
Reaffirmed February 3, 1998
1. The Federal Open Market Committee authorizes and directs the Federal
Reserve Bank of New York, for System Open Market Account, to the extent
necessary to carry out the Committee's foreign currency directive and express
authorizations by the Committee pursuant thereto, and in conformity with such
procedural instructions as the Committee may issue from time to time:
A. To purchase and sell the following foreign currencies in the form of cable
transfers through spot or forward transactions on the open market at home and
abroad, including transactions with the U.S. Treasury, with the U.S. Exchange
Stabilization Fund established by Section 10 of the Gold Reserve Act of 1934,
with foreign monetary authorities, with the Bank for International Settlements,
and with other international financial institutions:
Austrian schillings
Belgian francs
Canadian dollars
Danish kroner
Pounds sterling
French francs
German marks
Italian lire
Japanese yen
Mexican pesos
Netherlands guilders
Norwegian kroner
Swedish kronor
Swiss francs
B. To hold balances of, and to have outstanding forward contracts to receive or
to deliver, the foreign currencies listed in paragraph A above.
C. To draw foreign currencies and to permit foreign banks to draw dollars under
the reciprocal currency arrangements listed in paragraph 2 below, provided that
drawings by either party to any such arrangement shall be fully liquidated within
12 months after any amount outstanding at that time was first drawn, unless the
Committee, because of exceptional circumstances, specifically authorizes a
delay.
D. To maintain an overall open position in all foreign currencies not exceeding
$25.0 billion. For this purpose, the overall open position in all foreign currencies
is defined as the sum (disregarding signs) of net positions in individual
currencies. The net position in a single foreign currency is defined as holdings of
balances in that currency, plus outstanding contracts for future receipt, minus
outstanding contracts for future delivery of that currency, i.e., as the sum of these
elements with due regard to sign.
2. The Federal Open Market Committee directs the Federal Reserve Bank of New York to
maintain reciprocal currency arrangements ("swap" arrangements) for the System Open
Market Account for periods up to a maximum of 12 months with the following foreign
banks, which are among those designated by the Board of Governors of the Federal Reserve
System under Section 214.5 of Regulation N, Relations with Foreign Banks and Bankers, and
with the approval of the Committee to renew such arrangements on maturity:
Foreign bank
Austrian National Bank
Amount of arrangement (millions of
dollars equivalent)
250
National Bank of Belgium
1,000
Bank of Canada
2,000
National Bank of Denmark
250
Bank of England
3,000
Bank of France
2,000
German Federal Bank
6,000
Bank of Italy
3,000
Bank of Japan
5,000
Bank of Mexico
3,000
Netherlands Bank
500
Bank of Norway
250
Bank of Sweden
300
Swiss National Bank
4,000
Bank for International Settlements:
Dollars against Swiss francs
Dollars against authorized European currencies
other than Swiss francs
600
1,250
Any changes in the terms of existing swap arrangements, and the proposed terms of any new
arrangements that may be authorized, shall be referred for review and approval to the
Committee.
3. All transactions in foreign currencies undertaken under paragraph 1.A. above shall, unless
otherwise expressly authorized by the Committee, be at prevailing market rates. For the
purpose of providing an investment return on System holdings of foreign currencies, or for
the purpose of adjusting interest rates paid or received in connection with swap drawings,
transactions with foreign central banks may be undertaken at non-market exchange rates.
4. It shall be the normal practice to arrange with foreign central banks for the coordination of
foreign currency transactions. In making operating arrangements with foreign central banks
on System holdings of foreign currencies, the Federal Reserve Bank of New York shall not
commit itself to maintain any specific balance, unless authorized by the Federal Open Market
Committee. Any agreements or understandings concerning the administration of the accounts
maintained by the Federal Reserve Bank of New York with the foreign banks designated by
the Board of Governors under Section 214.5 of Regulation N shall be referred for review and
approval to the Committee.
5. Foreign currency holdings shall be invested to ensure that adequate liquidity is maintained
to meet anticipated needs and so that each currency portfolio shall generally have an average
duration of no more than 18 months (calculated as Macaulay duration). When appropriate in
connection with arrangements to provide investment facilities for foreign currency holdings,
U.S. Government securities may be purchased from foreign central banks under agreements
for repurchase of such securities within 30 calendar days.
6. All operations undertaken pursuant to the preceding paragraphs shall be reported promptly
to the Foreign Currency Subcommittee and the Committee. The Foreign Currency
Subcommittee consists of the Chairman and Vice Chairman of the Committee, the Vice
Chairman of the Board of Governors, and such other member of the Board as the Chairman
may designate (or in the absence of members of the Board serving on the Subcommittee,
other Board members designated by the Chairman as alternates, and in the absence of the
Vice Chairman of the Committee, his alternate). Meetings of the Subcommittee shall be
called at the request of any member, or at the request of the Manager, System Open Market
Account ("Manager"), for the purposes of reviewing recent or contemplated operations and
of consulting with the Manager on other matters relating to his responsibilities. At the request
of any member of the Subcommittee, questions arising from such reviews and consultations
shall be referred for determination to the Federal Open Market Committee.
7. The Chairman is authorized:
A. With the approval of the Committee, to enter into any needed agreement or
understanding with the Secretary of the Treasury about the division of
responsibility for foreign currency operations between the System and the
Treasury;
B. To keep the Secretary of the Treasury fully advised concerning System
foreign currency operations, and to consult with the Secretary on policy matters
relating to foreign currency operations;
C. From time to time, to transmit appropriate reports and information to the
National Advisory Council on International Monetary and Financial Policies.
8. Staff officers of the Committee are authorized to transmit pertinent information on System
foreign currency operations to appropriate officials of the Treasury Department.
9. All Federal Reserve Banks shall participate in the foreign currency operations for System
Account in accordance with paragraph 3 G(1) of the Board of Governors' Statement of
Procedure with Respect to Foreign Relationships of Federal Reserve Banks dated January 1,
1944.
With Mr. Jordan dissenting, the Foreign Currency Directive shown below was reaffirmed.
Foreign Currency Directive
Reaffirmed February 3, 1998
1. System operations in foreign currencies shall generally be directed at countering disorderly
market conditions, provided that market exchange rates for the U.S. dollar reflect actions and
behavior consistent with the IMF Article IV, Section 1.
2. To achieve this end the System shall:
A. Undertake spot and forward purchases and sales of foreign exchange.
B. Maintain reciprocal currency ("swap") arrangements with selected foreign
central banks and with the Bank for International Settlements.
C. Cooperate in other respects with central banks of other countries and with
international monetary institutions.
3. Transactions may also be undertaken:
A. To adjust System balances in light of probable future needs for currencies.
B. To provide means for meeting System and Treasury commitments in
particular currencies, and to facilitate operations of the Exchange Stabilization
Fund.
C. For such other purposes as may be expressly authorized by the Committee.
4. System foreign currency operations shall be conducted:
A. In close and continuous consultation and cooperation with the United States
Treasury;
B. In cooperation, as appropriate, with foreign monetary authorities; and
C. In a manner consistent with the obligations of the United States in the
International Monetary Fund regarding exchange arrangements under the IMF
Article IV.
Mr. Jordan dissented in the votes on the Foreign Currency Authorization and the Foreign
Currency Directive because these policy instruments provide the basis for foreign exchange
market transactions. He believes that the primary mission of the Federal Reserve is to
achieve and maintain a stable purchasing power of the U.S. dollar. That objective is best
achieved when open market transactions are restricted to purchases and sales of U.S.
government securities. When compatible with the System's primary objective, foreign
exchange transactions are redundant to open market operations. Often, however, foreign
exchange transactions conflict with the System's primary objective, requiring opposite
adjustments in System holdings of U.S. Treasury obligations. Moreover, holdings of foreign
securities expose the Reserve Banks to foreign exchange translation losses resulting from the
depreciation of foreign currencies relative to a strong and stable U.S. dollar.
By unanimous vote, the Procedural Instructions with Respect to Foreign Currency Operations
shown below were reaffirmed.
Procedural Instructions with Respect to Foreign Currency Operations
Reaffirmed February 3, 1998
In conducting operations pursuant to the authorization and direction of the Federal Open
Market Committee as set forth in the Authorization for Foreign Currency Operations and the
Foreign Currency Directive, the Federal Reserve Bank of New York, through the Manager,
System Open Market Account ("Manager"), shall be guided by the following procedural
understandings with respect to consultations and clearances with the Committee, the Foreign
Currency Subcommittee, and the Chairman of the Committee. All operations undertaken
pursuant to such clearances shall be reported promptly to the Committee.
1. The Manager shall clear with the Subcommittee (or with the Chairman, if the Chairman
believes that consultation with the Subcommittee is not feasible in the time available):
A. Any operation that would result in a change in the System's overall open
position in foreign currencies exceeding $300 million on any day or $600
million since the most recent regular meeting of the Committee.
B. Any operation that would result in a change on any day in the System's net
position in a single foreign currency exceeding $150 million, or $300 million
when the operation is associated with repayment of swap drawings.
C. Any operation that might generate a substantial volume of trading in a
particular currency by the System, even though the change in the System's net
position in that currency might be less than the limits specified in 1.B.
D. Any swap drawing proposed by a foreign bank not exceeding the larger of (i)
$200 million or (ii) 15 percent of the size of the swap arrangement.
2. The Manager shall clear with the Committee (or with the Subcommittee, if the
Subcommittee believes that consultation with the full Committee is not feasible in the time
available, or with the Chairman, if the Chairman believes that consultation with the
Subcommittee is not feasible in the time available):
A. Any operation that would result in a change in the System's overall open
position in foreign currencies exceeding $1.5 billion since the most recent
regular meeting of the Committee.
B. Any swap drawing proposed by a foreign bank exceeding the larger of (i)
$200 million or (ii) 15 percent of the size of the swap arrangement.
3. The Manager shall also consult with the Subcommittee or the Chairman about proposed
swap drawings by the System and about any operations that are not of a routine character.
On January 16, 1998, the continuing rules, regulations, authorizations, and other instructions
of the Committee had been distributed with the advice that, in accordance with procedures
approved by the Committee, they were being called to the Committee's attention before the
February 3-4 organization meeting to give members an opportunity to raise any questions
they might have concerning them. Members were asked to indicate if they wished to have
any of the instruments in question placed on the agenda for consideration at this meeting, and
no requests for consideration were received.
By unanimous vote, the minutes of the meeting of the Federal Open Market Committee held
on December 16, 1997, were approved.
The Manager of the System Open Market Account reported on developments in foreign
exchange and international financial markets in the period since the previous meeting on
December 16, 1997. There were no System open market transactions in foreign currencies
during this period, and thus no vote was required of the Committee.
The Manager of the System Open Market Account also reported on developments in
domestic financial markets and on System open market transactions in government securities
and federal agency obligations during the period from December 17, 1997, through February
3, 1998. By unanimous vote, the Committee ratified these transactions.
The Committee then turned to a discussion of the economic and financial outlook, the ranges
for the growth of money and debt in 1998, and the implementation of monetary policy over
the intermeeting period ahead. A summary of the economic and financial information
available at the time of the meeting and of the Committee's discussion is provided below,
followed by the domestic policy directive that was approved by the Committee and issued to
the Federal Reserve Bank of New York.
The information reviewed at this meeting suggested that the economy continued to expand at
a robust pace during the closing months of 1997. Both employment and industrial output
recorded substantial increases in the fourth quarter. While spending for final goods and
services by U.S. residents decelerated noticeably, inventory investment strengthened and the
deficit in international trade in goods and services appeared to have narrowed. Tighter labor
markets brought some acceleration in wages, but falling import and energy prices helped to
hold down price inflation over the closing months of the year.
Labor demand expanded rapidly in the fourth quarter; a sharp increase in nonfarm payroll
employment in December followed large advances in October and November, and the
average workweek edged up on balance over the three-month period. Job gains were widely
spread across industries. In the fourth quarter, new hires in manufacturing accounted for
more than half of that sector's total for the year, and construction employment also registered
an unusually large rise compared with earlier in 1997. Job growth surged in retail trade and
persisted at a rapid pace in service-producing industries. The civilian unemployment rate, at
4.7 percent in December, was near its low for the current economic expansion.
Industrial production continued to advance at a brisk pace in the fourth quarter. Growth in the
manufacturing of durable goods remained strong despite sharply slower, though still
substantial, expansion in the output of computing and office equipment. The production of
nondurable goods picked up after having been sluggish earlier in the year. Capacity
utilization in manufacturing was at a relatively high rate in the fourth quarter, but available
information suggested few bottlenecks.
Consumer spending, in real terms, rose at a slower though still appreciable rate in the fourth
quarter. Purchases of durable goods increased moderately after surging in the third quarter,
and spending on nondurables edged down. By contrast, expenditures for consumer services
grew at a somewhat faster rate. Recent surveys indicated that consumer confidence remained
at a very high level.
Housing demand continued to exhibit considerable strength at year-end in the context of
sharp declines in fixed mortgage rates in recent months, further sizable gains in employment
and household income, and very positive consumer assessments of homebuying conditions.
Applications for mortgages to purchase homes increased to a new monthly high in
December; the pace of sales of existing homes rose further in the fourth quarter; and sales of
new homes in November (latest available monthly data) were at their highest monthly pace in
more than ten years. Housing starts edged lower in December but remained close to the highs
of the current expansion.
After unusually strong increases earlier in the year, real business fixed investment declined
slightly in the fourth quarter. However, the outlook for further growth remained positive,
with corporate cash flow still healthy and the user cost of capital still low. Data on shipments
of nondefense capital goods in December indicated a rebound in business spending on capital
goods, notably for office, computing, and communications equipment, after sizable declines
in the October-November period. Business spending on nonresidential structures declined
slightly in the fourth quarter despite rising real estate prices and falling vacancy rates.
The pace of business inventory investment evidently picked up somewhat in the fourth
quarter. In manufacturing, inventories climbed further in November (latest monthly data
available), and the stock-shipments ratio was at the top of its narrow range for the past twelve
months. The accumulation of wholesale stocks continued its strong upward trend, and by
November the inventory-sales ratio for the wholesale sector had reversed its 1996 decline. In
the retail sector, inventories declined slightly in November after having changed little in
October; the inventory-sales ratio for this sector was near the bottom of its range for the last
twelve months.
The nominal deficit on U.S. trade in goods and services narrowed substantially on average in
October and November from its level in the third quarter. The value of exports rose
appreciably in the October-November period, with the largest increases occurring in
automotive and agricultural products. The average value of imports for October and
November changed little from the third-quarter rate. Imports of consumer goods and
machinery rose, but they were about offset by declines in automotive products, computers,
and, to a lesser extent, a wide variety of other products. The available information indicated
that economic expansion remained healthy in most of the foreign G-7 countries, although
slowing somewhat from the third quarter. In Asia, weakness in economic activity in Japan
continued into the fourth quarter, and persisting financial turmoil was having strong adverse
effects on the economies of a number of developing countries.
Consumer price inflation remained low in December, damped by a sizable further drop in
energy prices and a small decline in food prices. Excluding food and energy items, an
acceleration in the costs of services, notably medical care and shelter, provided a slight boost
to core consumer price inflation in December. For the year as a whole, prices of core
consumer items rose considerably less than in 1996, in part reflecting the effect of declining
import prices. At the producer level, prices of all finished goods and of the core finished
goods component declined further in December. For the year 1997, the core producer price
index was little changed after a relatively small rise the previous year; the total index,
weighed down by falling prices of finished food and energy items, partially reversed its 1996
increase. Prices also remained subdued at earlier stages of processing in 1997, with prices of
crude materials falling substantially. Labor costs, as measured by the hourly compensation of
private industry workers, increased at appreciably faster rates in the fourth quarter and for the
year.
At its meeting on December 16, 1997, the Committee adopted a directive that called for
maintaining conditions in reserve markets that were consistent with an unchanged federal
funds rate averaging around 5-1/2 percent. In light of the increased uncertainties in the
outlook and the possibility that the next change in policy might be in either direction, the
Committee adopted a directive that did not include a presumption about the likely direction
of any adjustment to policy during the intermeeting period. Reserve market conditions
associated with this directive were expected to be consistent with some moderation in the
growth of M2 and M3 over coming months.
Open market operations were directed throughout the intermeeting period toward
maintaining reserve conditions consistent with the intended federal funds rate average of
around 5-1/2 percent, and the effective rate averaged close to that level despite some largely
anticipated upward pressures in reserve markets around year-end. Most other domestic
market interest rates moved down on balance during the intermeeting period, apparently as a
result of increased concerns over the turbulence in Asia and its potential implications for the
U.S. economy. Share prices in U.S. equity markets moved up slightly on net, perhaps partly
in response to the bond market rally, while equity markets in some other countries, notably in
Asia, remained unsettled.
In foreign exchange markets, the dollar appreciated on balance over the intermeeting period.
The dollar rose considerably further against the currencies of many of the emerging market
economies in Asia amid continuing market concerns about the adequacy of reforms that
would be undertaken in the affected countries and the magnitude and availability of
international financial assistance that would be needed to support those efforts. The dollar
also gained slightly on average in relation to the currencies of the other G-10 currencies. A
sizable advance by the dollar relative to the German mark was largely reversed late in the
intermeeting period; incoming information suggesting greater strength in the German
economy lifted the value of the mark and tended to offset growing concern about the likely
effect of the Asian crisis on Germany. The dollar declined somewhat on balance against the
yen as heightened prospects for domestic fiscal stimulus in Japan fostered hopes of a less
weak performance of the Japanese economy.
M2 and M3 continued to grow at relatively rapid rates in December and apparently also in
January. Recent gains in nominal income evidently underpinned much of the greaterthan-expected strength in M2 in January; also contributing were a pickup in mortgage
refinancing activity and, perhaps, depositor transfers of funds from market instruments
whose yields had declined relative to those on M2 assets. Large increases in repurchase
agreements contributed to rapid growth of M3 in January; the rise in M3 helped to finance
further solid expansion of bank credit. From the fourth quarter of 1996 to the fourth quarter
of 1997, M2 increased at a rate somewhat above the upper bound of its range for the year and
M3 at a rate substantially above the upper bound of its range. Total domestic nonfinancial
debt expanded in 1997 at a pace somewhat below the middle of its range, reflecting the slow
rise in the federal debt.
The staff forecast prepared for this meeting indicated that the expansion of economic activity
would slow appreciably during the next few quarters and remain moderate in 1999. The staff
analysis suggested that slower growth abroad and the considerable rise that already had
occurred in the foreign exchange value of the dollar would exert substantial restraint on the
demand for U.S. exports and subject domestic producers to even stiffer competition from
imports. An anticipated reduction in the desired rate of inventory accumulation would add to
the restraint on the expansion. As output growth slowed, pressures on resources would be
expected to diminish somewhat. None- theless, it was expected that, consistently measured,
inflation would increase to some degree over the ensuing period through 1999, owing in part
to an abatement of restraining forces from foreign exchange and oil markets.
In the Committee's discussion of current and prospective economic conditions, members
commented that the performance of the economy continued to be quite favorable. They noted
that the economy had entered the new year with considerable momentum and very few
indications that growth was moderating from what appeared to be an unsustainable rate.
Nonetheless, their assessments of the various factors bearing on the outlook led them to
conclude that appreciably slower economic growth was in the offing for the year ahead,
possibly to a pace in the vicinity of current estimates of the economy's long- run growth
potential. Many emphasized that the prospects for declining net exports as a consequence of
the dollar's appreciation and the crises in a number of Asian economies were a key factor in
the outlook for some slowing in the expansion. In addition, a moderating rate of inventory
accumulation appeared likely after the rapid buildup during 1997. At the same time, high
levels of confidence and generally accommodative financial conditions supported
expectations of persisting, though likely diminishing, strength in consumer spending and
business fixed investment. The members acknowledged that their forecasts were subject to a
great deal of uncertainty since there was little precedent to guide them in their evaluation of
the extent and likely effect of Asian market turmoil. In the circumstances, the risks of a
considerable deviation on the upside or the downside of their current forecasts were
unusually high. Partly as a consequence, the outlook for inflation was quite tentative as well.
Moreover, questions persisted about the level and growth of sustainable output. Members
observed that price inflation had remained subdued, and by some measures had declined, in
recent months despite very tight labor markets and indications of somewhat faster increases
in labor compensation.
In keeping with the practice at meetings just prior to the Federal Reserve's semi-annual
monetary policy report to Congress and the Chairman's associated testimony, the members of
the Committee and the Federal Reserve Bank presidents not currently serving as members
had provided individual projections of the growth in real and nominal GDP, the rate of
unemployment, and the rate of inflation for the year ahead. Based on developments over the
second half of 1997, the central tendency of the projections for 1998 now pointed to slightly
more strength in real GDP and appreciably less inflation than the forecasts prepared at the
time of the July 1997 meeting. The forecasts of the rate of expansion in real GDP in 1998
had a central tendency of 2 to 2-3/4 percent and a full range of 1-3/4 to 3 percent. Such
growth was expected to be associated with a civilian unemployment rate in a range of 4-1/2
to 5 percent in the fourth quarter of this year, implying little or no change from the current
level. With regard to nominal GDP growth in 1998, the forecasts were mainly in a range of
3-3/4 to 4-1/2 percent, with an overall range of 3-1/2 to 5 percent. Projections of the rate of
inflation, as measured by the consumer price index, had a central tendency of 1-3/4 to 2-1/4
percent, on the high side of the outcome for 1997 when the rise in the index was held down
by damped increases in food prices and declines in energy prices. These forecasts took
account of likely further technical improvements in the CPI by the Bureau of Labor Statistics
that would trim the reported rate. The projections were based on individual views concerning
what would be an appropriate policy over the projection horizon to foster the Committee's
longer-term goals.
The members stressed that the potential extent of the negative effects of developments in
Asia on the nation's trade balance represented a key uncertainty in the economic outlook. On
the whole, those effects had been quite limited thus far. Anecdotal reports indicated that a
number of domestic producers, notably of agricul- tural, lumber, and wood products, had
experienced some cancellations or postponements of orders from Asian customers and there
was some evidence of increased imports from those nations. Exports to affected Asian
nations were likely to be held back by declining incomes and rising prices of U.S. products in
local currencies, and reportedly also by difficulties that importing firms in Asia were
encountering in securing financing. The eventual effects of the Asian financial turmoil on the
U.S. trade balance and the overall economy were unknown--in part because in some key
countries needed reforms had yet to be implemented and markets to stabilize--but they
clearly seemed likely to become more pronounced in coming months. Net exports also would
be held down by the appreciation of the dollar against the currencies of the industrial
countries that had occurred earlier in 1997 before the Asian crisis intensified.
Another factor viewed as likely to exert a moderating effect on the growth of economic
activity was the expectation of some slowing in inventory investment. In the past year,
businesses had added to inventories at a rate that exceeded the rise in final sales, and
somewhat reduced accumulation to a pace more in line with that of final sales was seen as a
reasonable expectation. Some members expressed reservations, however, about the extent of
any weakening in inventory accumulation in light of the relatively favorable economic
conditions that they believed were likely to persist over the year ahead.
Members viewed further growth in consumer spending as likely to remain the major factor in
sustaining the expansion in overall economic activity. Consumer sentiment was at or close to
historically high levels according to recent surveys, evidently reflecting the strong uptrend in
employment and income and to some extent the very large cumulative increase in stock
market wealth over the course of recent years. Some also noted that consumer debt burdens,
while large, were manageable and that such burdens would be lessened for many consumers
by their refinancing of home mortgages at the lower mortgage rates now prevailing. Evidence
of strength in the consumer sector was supported by upbeat anecdotal reports of retail sales
during the holiday season and more recently. While the growth in personal expenditures was
likely to moderate somewhat from its recent pace, members did not rule out a more ebullient
consumer sector in the context of substantial further growth in disposable incomes, favorable
financing conditions for purchases of homes, automobiles, and other consumer durables, and
the high level of stock market prices.
Business fixed investment also was expected to provide substantial support to continued
economic expansion, though some moderation in purchases of business equipment seemed
likely after the exceptionally rapid rates of growth in such investments in recent years.
Business sentiment remained generally optimistic, and both debt and equity financing
continued to be readily available on attractive terms to most business borrowers. However,
early signs of faltering profit trends in some industries, in part related to developments in
Asia, appeared to have introduced a cautionary note among some business planners.
Members also referred to emerging signs of speculative overbuilding in some areas,
especially of commercial structures. Even so, in the absence of unanticipated weakness in
consumer expenditures, a variety of favorable factors seemed likely to sustain relatively
robust spending on business structures and equipment over the year ahead. The latter
included increased opportunities to cut costs and enhance efficiency by investing in relatively
inexpensive high-tech equipment in a period characterized by strong competition in many
markets and rising labor compensation associated with tight labor markets.
Residential construction activity had remained relatively robust in recent months and was
expected to be well maintained over coming quarters. Positive indications for the housing
outlook included relatively low mortgage interest rates, very favorable measures of cash-flow
affordability, and quite positive home-buying attitudes as expressed in recent surveys. While
these factors were expected to help sustain the housing sector over coming months, members
noted that housing construction had been high for some time and some cited anecdotal
evidence of softening activity in some parts of the country. On balance, only modest, if any,
slippage from current levels of home construction activity seemed likely over the year ahead.
With regard to the outlook for inflation, members referred to widespread indications of
increasingly tight labor markets and to statistical and anecdotal reports of faster increases in
labor compensation. Labor cost increases in recent quarters had been especially rapid in a
large segment of the service sector, where foreign competition was not a factor. Some
members commented, however, that there were reasons to discount the sharp fourth-quarter
increase in the employment cost index because to a large extent it was the result of
nonrecurring developments in a limited number of industries. Despite the upward trend in
labor compensation, gains in productivity clearly had kept increases in unit labor costs at a
very modest level; and with unit nonlabor costs continuing to decline, overall unit cost
increases had remained not far above zero. In these circumstances--and in the context of
highly competitive conditions in many markets, declines in input prices and in the prices of
many commodities, including oil--rising labor costs seemed to pose little risk of an upward
impetus to inflation in coming months.
The longer-run outlook for inflation was more clouded and under some scenarios less
promising. Inflation expectations had been moving down according to recent surveys, and in
the context of relatively modest increases in consumer prices expected over coming months
such expectations could continue to move lower, thereby constraining increases in
compensation and prices. Nonetheless, some of the factors that had helped to moderate price
increases--including declining oil prices, the appreciation of the dollar, and restrained
increases in health insurance costs--were not likely to continue to exert benign effects on
inflation as time went on. More fundamentally, the productivity improvement that had held
down producer costs could not necessarily be counted on to continue to offset such costs,
especially if the economic expansion remained sufficiently rapid to put additional pressures
on available labor resources.
In keeping with the requirements of the Full Employment and Balanced Growth Act of 1978
(the Humphrey-Hawkins Act), the Committee reviewed the ranges for growth of the
monetary and debt aggregates in 1998 that it had established on a tentative basis at its
meeting in July 1997. Those ranges included expansion of 1 to 5 percent for M2 and 2 to 6
percent for M3, measured from the fourth quarter of 1997 to the fourth quarter of 1998. The
associated range for growth of total domestic nonfinancial debt was provisionally set at 3 to 7
percent for 1998. The tentative ranges for 1998 were unchanged from the ranges that had
been adopted initially for 1995 (in July of that year for M3).
In reviewing the tentative ranges, the members took note of a staff projection indicating that,
given the members' expectations for the performance of the economy and prices and
assuming no major changes in interest rates, M2 likely would grow in 1998 in the upper half
of its tentative range, and M3 somewhat above the top of its range. The staff analysis
anticipated that the velocity of M2 would continue its recent pattern of relatively stable
behavior that was more in line with historical experience than had been the case in the early
1990s. The velocity of M3 was projected to continue to decline at a somewhat faster rate than
historical experience would indicate, reflecting the greater use by business firms of
institution-only money market funds as a cash management tool and the needs of depository
institutions for appreciable non-M2 funding to finance brisk loan growth. The staff projected
that the debt of the domestic nonfinancial sectors would grow around or perhaps slightly
above the middle of its tentative range, reflecting the credit needs of businesses facing a
weaker earnings outlook and larger merger-related retirements of equity.
In their discussion of the ranges for M2 and M3, the members noted that the apparently
greater predictability of velocity in recent years could not be counted on to persist, given
changes in financial markets that had made investment alternatives more readily available.
As a consequence, substantial uncertainty still surrounded projections of money growth
consistent with the Committee's basic objectives for monetary policy. In this environment,
the members did not see any firm basis for deviating from their recent practice of setting
ranges that, assuming velocity behavior in line with historical patterns, would serve as
benchmarks for monetary expansion consistent with longer-run price stability and a
sustainable rate of real economic growth. The tentative ranges for 1998 had been derived in
this way, and Committee members saw no reason to change those ranges at this time. Indeed,
adjusting the ranges to center them more closely on growth rates deemed likely to be more
consistent with the Committee's expectations for economic activity and prices could foster
the misinterpretation that the Committee had become much more confident of the stability
and predictability of velocity and was placing greater emphasis on M2 and M3 as gauges of
the thrust of monetary policy. Several members commented, however, that the adoption of
ranges centered on the Committee's expectations for growth of the monetary aggregates
should be reconsidered in the future if the members were to become more confident about the
relationship between the growth of the money and measures of aggregate economic
performance. The Committee also agreed that the range for nonfinancial debt for 1998 should
be left unchanged. The tentative range readily encompassed the pace seen as likely to be
associated with the members' forecasts for economic activity and prices.
Accordingly, the following statement of longer-run policy for 1998 was approved for
inclusion in the domestic policy directive:
The Federal Open Market Committee seeks monetary and financial conditions
that will foster price stability and promote sustainable growth in output. In
furtherance of these objectives, the Committee at this meeting established ranges
for growth of M2 and M3 of 1 to 5 percent and 2 to 6 percent respectively,
measured from the fourth quarter of 1997 to the fourth quarter of 1998. The
range for growth of total domestic nonfinancial debt was set at 3 to 7 percent for
the year. The behavior of the monetary aggregates will continue to be evaluated
in the light of progress toward price level stability, movements in their velocities,
and developments in the economy and financial markets.
Votes for this action: Messrs. Greenspan, McDonough, Ferguson, Gramlich,
Hoenig, Jordan, Kelley, McTeer, Meyer, and Mses. Minehan, Phillips, and
Rivlin.
Votes against this action: None.
In the Committee's discussion of policy for the intermeeting period ahead, all the members
endorsed a proposal to maintain an unchanged policy stance. The economy currently was
performing very well and the outlook over the near term was for subdued inflation and
continued solid economic growth. Over a longer horizon, the range of possible outcomes was
unusually wide, and the direction that policy would need to move to promote sustained
expansion and damped inflation was unclear. At this point, the extent to which the still
largely anticipated external drag from events in Asia would offset the strong upward
momentum in domestic demand was a source of major uncertainty. In addition, it was
impossible to predict whether or when the tightness in labor markets would exert a more
pronounced effect on labor costs and ultimately on price inflation. Even the thrust of the
current stance of monetary policy as it was transmitted through financial markets was open to
some question. On the one hand, a real federal funds rate that was on the high side of
historical experience and a substantially stronger dollar suggested some restraint. From a
different perspective, however, financial conditions seemed to be quite stimulative as
evidenced by lower nominal and perhaps real intermediate and long-term interest rates, rising
equity prices, ready credit availability, and rapid growth of the broad measures of money and
credit. While the members differed to some extent in their forecasts of major trends in the
economy and in the risks of alternative outcomes, they agreed that, under foreseeable
circumstances, needed adjustments to policy probably could be made on a timely basis once
the balance of underlying forces became more evident. Accordingly, a steady policy would
not incur an unacceptable risk of a seriously deteriorating economic performance. In the
interim, the greater risk would be to make a preemptive policy move on the basis of
inadequate evidence regarding underlying economic trends.
In the Committee's discussion of possible intermeeting adjustments to policy, all the
members agreed that prevailing uncertainties indicated the desirability of retaining a
symmetric instruction in the directive. While a number of members expressed the view that
the next policy move was likely to be a tightening action and one member saw a greater
probability of an easing action, the uncertainties were sufficiently great to warrant remaining
sensitive to the need for a policy change in either direction. Accordingly, a symmetric
directive would signal the Committee's readiness to respond promptly to developments that
might threaten the economy's satisfactory performance.
At the conclusion of the Committee's discussion, all the members indicated their support of a
directive that called for maintaining conditions in reserve markets that were consistent with
an unchanged federal funds rate of about 5-1/2 percent, and all also favored a directive that
did not include a presumption about the direction of a change, if any, in the stance of policy
during the intermeeting period. Accordingly, in the context of the Committee's long-run
objectives for price stability and sustainable economic growth, and giving careful
consideration to economic, financial, and monetary developments, the members decided that
a slightly higher or a slightly lower federal funds rate might be acceptable during the
intermeeting period. The reserve conditions contemplated at this meeting were expected to be
consistent with some moderation in the growth of M2 and M3 over coming months.
The Federal Reserve Bank of New York was authorized and directed, until instructed
otherwise by the Committee, to execute transactions in the System Account in accordance
with the following domestic policy directive:
The information reviewed at this meeting suggests that economic activity
continued to grow rapidly during the closing months of 1997. Nonfarm payroll
employment increased sharply further in December after posting very large gains
in other recent months; the civilian unem ployment rate, at 4.7 percent, remained
near its low for the current economic expansion. Industrial production continued
to advance at a brisk pace in the fourth quarter. Consumer spending rose
appreciably in the quarter, and housing starts remained close to the highs of the
current expansion. Business fixed investment weakened following exceptionally
strong increases in the second and third quarters; nonfarm inventory
accumulation appears to have picked up somewhat. The nominal deficit on U.S.
trade in goods and services narrowed significantly on average in October and
November from its level in the third quarter. Price inflation has remained
subdued despite appreciably faster increases in worker compensation in recent
months.
Most interest rates have declined on balance since the day before the Committee
meeting on December 16, 1997. Share prices in U.S. equity markets have moved
up somewhat over the period; equity markets in some other countries, notably in
Asia, have remained volatile. In foreign exchange markets, the value of the
dollar has risen over the intermeeting period relative to the currencies of several
Asian developing countries, but it has registered only a small increase on
average in relation to the currencies of major industrial nations.
M2 and M3 continued to grow at relatively rapid rates in December and
apparently also in January. From the fourth quarter of 1996 to the fourth quarter
of 1997, M2 expanded at a rate somewhat above the upper bound of its range for
the year and M3 at a rate substantially above the upper bound of its range. Total
domestic nonfinancial debt expanded in 1997 at a pace somewhat below the
middle of its range.
The Federal Open Market Committee seeks monetary and financial conditions
that will foster price stability and promote sustainable growth in output. In
furtherance of these objectives, the Committee at this meeting established ranges
for growth of M2 and M3 of 1 to 5 percent and 2 to 6 percent respectively,
measured from the fourth quarter of 1997 to the fourth quarter of 1998. The
range for growth of total domestic nonfinancial debt was set at 3 to 7 percent for
the year. The behavior of the monetary aggregates will continue to be evaluated
in the light of progress toward price level stability, movements in their velocities,
and developments in the economy and financial markets.
In the implementation of policy for the immediate future, the Committee seeks
conditions in reserve markets consistent with maintaining the federal funds rate
at an average of around 5-1/2 percent. In the context of the Committee's long-run
objectives for price stability and sustainable economic growth, and giving
careful consideration to economic, financial, and monetary developments, a
slightly higher federal funds rate or a slightly lower federal funds rate might be
acceptable in the intermeeting period. The contemplated reserve conditions are
expected to be consistent with some moderation in the growth in M2 and M3
over coming months.
Votes for this action: Messrs. Greenspan, McDonough, Ferguson, Gramlich,
Hoenig, Jordan, Kelley, Meyer, McTeer, Mses. Minehan, Phillips and Rivlin.
Votes against this action: None
It was agreed that the next meeting of the Committee would be held on Tuesday, March 31,
1998.
The meeting adjourned at 10:50 a.m.
Donald L. Kohn
Secretary
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Footnotes
1 Attended portions of meeting relating to the Committee's review of the economic outlook
and establishment of its monetary and debt ranges for 1998.
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