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Confidential (FR) Class II FOMC

July 11,

1984

RECENT DEVELOPMENTS

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

TABLE OF CONTENTS
Section
DOMESTIC NONFINANCIAL DEVELOPMENTS

Page

Industrial production ....................... * ................
Employment and unemployment..................................

Personal income and consumption....................................

1
3

Business fixed investment ......................................
Business inventories.......................................
Housing markets ..............................................
Federal government budget...................................

9
11
13
15

State and local government sector..............................

Exports and imports .............................................
Prices.......................... ..............................
Wages and labor costs......................... ..................

19
20
22

Tables
Changes in employment .........................................
Selected unemployment rates.....................................
Retail sales.......................................................

2
2
4

Auto sales and production..................
...........
.....
Personal income and expenditures..............................
Business capital spending indicators............................
Changes in manufacturing and trade inventories..................

4
5
10
12

Inventories relative to sales..................................
Private housing activity .................. 0 .................

12
14

Federal deficit for the 1984 fiscal year to date
compared to previous years.................................
Recent changes in consumer prices...............................

16
21

Recent changes in producer prices...............................
..................................
Hourly earnings index........

21
23

Charts

Sales of personal use-type trucks...............................

........
Consumer attitudes..................................
Private housing starts..........................................
State and local government balance as a percent of GNP..........

8
14
18

Appendix

Appendix A: The Deficit Reduction Act of 1984..................

II-A-1

III

DOMESTIC FINANCIAL DEVELOPMENTS

Monetary aggregates and bank credit.............................
Business finance.............

........................

....

3
9

Government finance
......
Federal sector.....................................
State and local sector.......................................

10
13

July 11, 1984
II - T - 1
SELECTED DOMESTIC NONFINANCIAL DATA
(Seasonally adjusted)
Latest data
Period

Release
date

Data

Percent change from
Three
Preceding
periods
Year
period
earlier earlier
(At annual rates)

June
June
Apr.
June
June
June

07-06-84
07-06-84
06-21-84
07-06-84
07-06-84
07-06-84

June
June

07-06-84
07-06-84

June
May

07-06-84
06-29-84

May
May
May
May
May

06-15-84
06-15-84
06-15-84
06-15-84
06-15-84

163.2
161.7
175.4
133.8
163.1

11.0
9.9
5.9

Consumer prices all item (1967=100) May
All items, excluding food & energy May
Food
May

06-22-84
06-22-84
06-22-84

309.6
299.5
300.9

4.0
-3.2

Producer prices: (1967=100)
Finished goods
Intermediate materials, nonfood
Crude foodstuffs & feedstuffs

May
May
May

06-15-84
06-15-84
06-15-84

291.5
324.8
261.7

-.4
3.7
-32.6

Personal income ($ bil.)

May

06-19-84

2,978.8

Civilian labor force
Unemployment rate (%) 1/
Insured unemployment rate
Nonfarm employment, payroll
Manufacturing
Nonmanufacturing
Private nonfarm:
Average weekly hours (hr.)
Hourly earnings ($) 1/
Manufacturing:
Average weekly hours (hr.)
Unit labor cost (1967-100)

(%) 1/
(mil.)

Industrial production (1967=100)
Consumer goods
Business equipment
Defense & space equipment
Materials

113.9
7.1
2.8
94.0
19.6
74.4

.8
7.5
2.9
3.9
3.7
3.9

3.4
7.8
3.1
4.1
3.4
4.3

1.8
10.0
4.4
4.6
6.7
4.0

35.3
8.31

35.3
8.28

35.3
8.25

35.0
8.01

40.6
87.8

40.6
-9.5

40.7
-7.6

40.1
-6.8

8.0
5.8
8.1
13.3
9.3

13.0
7.5
18.8
13.8
15.1

3.5
5.0
-1.7

4.2
5.2
3.0

5.2
.0

2.3

7.2
(Not at annual rates)

Mfgrs. new orders dur. goods ($ bil. )ay
Capital goods industries
May
May
Nondefense
Defense
May
Inventories to sales ratio: 1/
Manufacturing and trade, total
Manufacturing
Trade

Apr.
May
Apr.

Ratio: Mfgrs.' durable goods inventories to unfilled orders 1/

07-02-84
07-02-84
07-02-84
07-02-84

102.0
34.3
5.7
28.6

07-10-84
07-02-84
07-10-84

1.33
1.45
1.24

1.33
1.44
1.24

07-02-84

.524

.523

Retail sales, total ($ bil.)
GAF 3/

May
May

06-13-84
06-13-84

107.3
22.8

Auto sales, total (all. units.) 2/
Domestic models
Foreign models

June
June
June

07-05-84
07-05-84
07-05-84

10.3
7.9
2.4

Plant and equipment expenditures 4/
Total nonfarm business
Manufacturing
Nonmanufacturing

1984
1984
1984

06-11-84
06-11-84
06-11-84

308.98
128.76
180.22

Capital Appropriations, Mfg.
Housing starts, private (thous.) 2/
Leading indicators (1967=100)

1984-Q1 06-06-84
06-19-84
May
06-29-84
May

25,915
1,782
168.2

1.
2.
3.
4.

.2
.1

-. 3
.1
-21.7
6.0

22.5
28.9
18.8
31.1

1.29
1.43
1.18

1.43
1.55
1.29

1.7
2.7

10.3
11.3
6.3
10.1
-4.3

-6.5
-7.2
-3.9

14.8
15.5
14.3
20.3
-10.5
-. 1

Actual data used in lieu of percent changes for earlier periods.
At annual rates.
Excludes nail order houses.
Planned-Commerce April and May 1984 Survey.

-21.2
".7

43.0
.2
8.9

DOMESTIC NONFINANCIAL DEVELOPMENTS

Economic activity continued to be robust during the second quarter.
Consumer spending and investment in plant and equipment were particularly
strong, and there were additional large advances in business inventories.
Substantial employment increases reduced the unemployment rate to the
lowest level in more than four years.
weakened somewhat.

In contrast, housing activity

With imports boosted by the further advances in

domestic demand, the trade deficit widened.

Wage and price increases

remained small.
Industrial Production
After increasing about one percent in April, the pace of industrial
production slowed to about half that rate in both May and June.

The

level of industrial output in June is estimated to be about 1/2 to 3/4
percent higher than in the month earlier with most industrial groupings
contributing to the advance.

In particular, output of business equipment

and defense products apparently continued to show sizable gains (to be
released July 13).
Capacity utilization in manufacturing edged up in both May and
June, bringing the cumulative rise since January to about 2 percentage
points.

At around 82 percent in June, this was the highest rate

since March 1980 and about equal to the 1967-1982 average.

As a

result of the overall moderate utilization rate and the availability of
imports at competitive prices, purchasing managers report few items in
short supply.

II-1

II-2
CHANGES IN EMPLOYMENT 1
(Thousands of employees; based on seasonally adjusted data)

1983
1983

1984
Q4

1984
Apr. May

June

- - - - - - Average monthly changes - - - - - Nonfarm payroll employment 2
Strike adjusted
Manufacturing
Durable
Nondurable
Construction
Trade
Finance and services
Total government
Private nonfarm production
workers
Manufacturing production
workers
Total employment3
Nonagricultural

282
282
92
70
22
22
69
96
3

364
372
102
79
23
36
72
102
33

336
330
148
114
34
22
85
93
-22

344
339
108
82
25
22
88
105
1

320
327
55
51
4
71
72
113
-12

391
378
64
38
26
95
81
98
30

269
291
39
46
-7
42
67
106
-7

301
312
61
68
-7
75
69
134
-60

249

289

306

259

278

357

201

277

129

330
336

378
435

355
339

400
425

536
495

262
150

886
890

460
445

1. Average change from final month of preceding period to final month of period
indicated.
2. Survey of establishments. Strike-adjusted data noted.
3. Survey of households.

SELECTED UNEMPLOYMENT RATES
(Percent; based on seasonally adjusted data)
1983

Civilian, 16 years and older
Teenagers
20-24 years old
Men, 25 years and older
Women, 25 years and older
White
Black
Fulltime workers
Memo:
Total national1

1983

1984
Q2

Apr.

1984
May

June

9.6
22.4
14.5
7.8
7.2

9.4
22.4
14.0
7.6
7.0

8.5
20.6
12.9
6.8
6.3

7.9
19.6
11.9
6.1
6.1

7.5
18.7
11.5
5.7
5.9

7.8
19.4
12.2
5.9
6.0

7.5
19.0
11.5
5.7
5.8

7.1
17.6
10.7
5.4
5.8

8.4
19.5

8.1
19.4

7.4
17.9

6.8
16.5

6.4
15.9

6.7
16.8

6.4
15.8

6.1
15.0

9.5

9.3

8.3

7.6

7.2

7.6

7.2

6.7

9.5

9.3

8.4

7.8

7.4

7.7

7.4

7.0

1. Includes resident Armed Forces as employed.

II-3
Employment and Unemployment
Substantial employment gains were reported in June by both the
payroll and household surveys.

The civilian unemployment rate fell 0.4

percentage point to 7.1 percent, the lowest level in more than four years.
Nonfarm payroll employment rose 300,000 with gains widespread by
industry.

In manufacturing, employment in durable goods was up 68,000

with further sharp gains reported in the machinery and equipment industries;
however, in recent months, increases in employment in nondurable goods
have dwindled.

The factory workweek was unchanged at 40.6 hours--a high

level for this stage of the business cycle.

Employment

in services rose 130,000 for the largest advance during this recovery.
As measured by the household survey, employment rose 460,000 in
June following an exceptionally large increase in May, and unemployment
rates fell for most major demographic groups.

Many of the new jobholders

were adults; however, more teenagers than usual also found jobs in
June.
Personal Income and Consumption
Personal income rose at a little more than a 7 percent annual rate
in May, about the same pace as in the two preceding months and during
1983.

Gains in the first quarter had been at an exceptionally strong

13.5 percent annual rate, in part because of substantial additions to
farm income from the PIK program.
Consumer spending in May continued to show strength, not only
because growth in real income was well-maintained, but also because
consumers appear quite willing to use installment credit.

Unit auto

sales were particularly strong in May at an 11 million unit annual rate.

II-4
RETAIL SALES
(Percent change from previous period;
based on seasonally adjusted data)
1983
Q4

1984
May/Q1
Mar.

Apr.

May

Total sales

2.9

3.5

1.9

-1.5

3.1

(Real)1

2.5

3.0

1.6

-1.9

3.2

Total, less automotive,
gasoline and
nonconsumer stores

1.6

3.0

1.5

-.3

2.4

-.1

GAF 2

3.3

3.2

3.0

-1.6

4.2

Durable
Automotive group
Furniture & appliances

6.8
9.4
3.4

5.1
5.7
3.5

2.6
3.2
1.7

-4.3
-6.7
.3

5.7
7.3
5.3

.2
.8
-2.6

Nondurable
Apparel
Food
General merchandise 3
Gasoline stations

1.0
4.2
.1
2.9
-.7

2.7
2.4
2.2
3.4
.3

1.5
7.3
1.4
1.8
1.4

.0
1.0
.8
-3.2
1.9

1.8
4.3
1.7
3.7
-.5

.2
1.9
-.5
.5
.9

1. BCD series 59.

Data are available approximately 3 weeks following the

retail sales release.
2. General merchandise, apparel, furniture and appliance stores.
3. General merchandise excludes mail-order nonstores.
4. May divided by first quarter level.

AUTO SALES & PRODUCTION
(Millions of units; seasonally adjusted annual rates)
1983
Q4

1984
Apr.

May

June

Total sales

9.9

10.5

10.6

10.3

11.0

10.4

Imports

2.7

2.3

2.1

2.5

2.4

Domestic
Small
Intermediate & standard

7.3
3.2
4.1

8.2
3.7
4.5

8.2
3.7
4.6

8.5
3.9
4.7

8.0
3.7
4.3

7.6
3.8
3.8

8.2
3.9
4.2

7.7
3.8
3.9

7.6
3.8
3.8

7.8
3.7
4.1

Domestic production
Small
Intermediate & standard

Note-Components may not add to totals due to rounding.

II-5
PERSONAL INCOME AND EXPENDITURES
(Based on seasonally adjusted data)
1983
04

1984
Q1

May

--Percent change from
previous quarter1--

Mar.

1984
Apr.

May

--Percent change from
previous monthl1 -

Total personal income
Nominal
Real2

11.1
8.1

13.5
9.4

7.2

Disposable personal income
Nominal
Real 2

11.0
8.0

14.1
10.0

6.3

Personal saving rate (percent)

5.2

--Changes in billions
of dollars from
previous quarter-Total expenditures

49.8

55.3

Durables

15.8
4.2
2.5
4.7

Nondurables
Food
Apparel

Services

New autos
Personal-use trucks
Furniture & appliances

5.7

5.9

5.2

--Changes in billions
of dollars from
previous month-24.5

5.4

36.1

16.5
6.3
.7
4.2

-2.0

7.1
-.6
1.6
3.9

13.6
7.9
.4

10.2
4.2
5.5

18.2
9.3
3.4

-2.2

20.2
13.4
4.8

4.0
-.2
4.3

23.8

20.6

-2.7
3.2
-.2

-4.3
-2.1

8.8

6.9

1. Changes from previous quarter are at compound rates; monthly changes
are not compounded.
2. Personal income is deflated by the implicit deflator for personal
consumption expenditures.

II-6

SALES OF PERSONAL-USE TYPE TRUCKS
Millions of Units
1 3.0

2.5

Total Personal-Use
Truck Sales
2.0

1.5

Imported Truck Sales
.4
\

~------'

1983

1984

Estimated on the basis of information on imports and the share of
industrial production devoted to light-duty trucks.

II-7

In June, however, sales receded to a 10.4 million unit rate, about equal
to the average for the first six months of 1984; this was the best
half-year rate since early 1979. If it were not for shortages of many
popular cars, sales might have been higher.

Personal-use type trucks,

moreover, are becoming an increasingly important component of consumer
demand for vehicles.

These light trucks sold at an estimated 2.7 million

unit rate in May, compared to a first-quarter selling rate of about 2.5
million units, and a 2 million unit rate in mid-1983.
Nominal outlays for all consumer durable goods in May were up more than
20 percent at an annual rate from the first-quarter average, according to
the monthly consumption estimates underlying the National Income and
Product Accounts.1

In addition to the sustained high level of purchases

of motor vehicles, spending for furniture and appliances showed a gain of
more than 12 percent at an annual rate in May from the first-quarter
average.

Spending for nondurable goods also remained robust in May,

up 9 percent (annual rate) from the first quarter; a sizable share of
this advance was attributable to higher spending for clothing and shoes.
Spending for food was slightly lower over the month, but the easing of
food prices tends to imply an upgrading in food budgets and therefore,
probably an increase in real outlays for food.

Spending for consumer

services in May increased less than usual, in part because of the end of
the spring cold snap and lower outlays for utilities.

1. BEA estimates consumption expenditures for goods other than automobiles
and gasoline from the monthly retail sales reports.

II-8
CONSUMER ATTITUDES
Index

Michigan Survey Research Center
Index of Consumer Sentiment i

1978

1979

1980

1981

1982

1983

1984

*Michigan Survey Research Center Index of Consumer Sentiment
(1966-Q1=100) and Conference Board Index of Consumer Confidence
Bases of indexes are derived from responses
(1969-1970=100).
(favorable minus pessimistic) to five equally weighted questions.
Questions in the two indexes are different.
Beginning May 1981 the Conference Board sample includes all types
of households, prior to that families only.

II-9

With expenditures rising more strongly than disposable personal
income, the saving rate for May is estimated to have dropped to 5.2
percent; this is off from 5.9 percent in the first quarter when farm income
was boosted by PIK payments.

The historically low rate is consistent

with the high levels of consumer confidence that continued to be reported
by both the Michigan Survey Research Center and the Conference Board.
Answers to several questions in the Michigan Survey suggest that consumers
have attempted to "buy in advance" of higher interest rates.
Business Fixed Investment
Real business fixed investment in the second quarter appears to
have grown very rapidly--perhaps faster than the 16 percent annual rate
now reported for the first quarter.

Recent surveys of capital spending

intentions, as well as data on new commitments, signal that a strong
expansion is likely to continue.
Shipments of nondefense capital goods increased sharply in May
after falling in April; the level in May was 5 percent (not an annual
rate) above the first quarter.
goods.

Increases were widespread among types of

Other components of current spending, including imports of capital

goods and purchases of cars and trucks, also have been rising in recent
months, although less rapidly than in the first quarter.

New orders for

nondefense capital goods point to further gains in equipment spending in
the months ahead.

In April and May orders were about 3-1/2 percent above

the first quarter; the gain during the first quarter was 5 percent.
Nonresidential construction expenditures rose 4-1/2 percent in May,
boosting building activity to a level more than 10 percent above the

II-10

BUSINESS CAPITAL SPENDING INDICATORS
(Percentage change from preceding comparable period;
based on seasonally adjusted data)
1983
Q4

1984
Q1

Mar.

Apr.

May

Producers' durable equipment
Nondefense capital goods
Shipments
Excluding aircraft &
parts

6.0

1.1

4.5

-1.7

3.8

6.1

2.2

6.2

-2.6

4.0

Orders
Excluding aircraft &
parts

6.9

5.2

-.6

-3.6

10.6

5.4

4.2

5.7

-5.8

11.0

Unfilled orders
Excluding aircraft &
parts

2.0

4.4

1.3

2.2

1.9

3.6

1.3

2.2

199

232

302

211

Nonresidential construction
put in place

3.3

8.0

2.5

2.9

4.6

Nonresidential building
contracts

4.4

-9.8

-5.0

20.1

25.1

Addendum:
Sales of heavy-weight
trucks (thousands of
units, annual rate)
Nonresidential structures

II-11

first-quarter average.

Most of the advance was concentrated in commercial

construction, with both office buildings and other commercial units
registering substantial gains.

Industrial building has begun to pick up

in recent months, and in the wake of the AT&T breakup construction outlays
by telephone and telegraph companies also have risen.

Recent data on

contracts and permits for new nonresidential building indicate continued
growth, particularly in the commercial construction area.
The latest survey of business spending plans taken by the Commerce
Department found businesses planning an overall increase in nominal
spending of about 15 percent for the year as a whole; however, in light
of the current high level of spending, this survey figure implies relatively
moderate spending gains in the second half of 1984.

The spring surveys

taken by McGraw-Hill and Merrill-Lynch indicated somewhat larger gains
than the Commerce survey.
Business Inventories
Accumulation of business inventories has continued at a rapid pace
since early this year, but the increases have been approximately
matched by final demand and inventory-sales ratios remain low.

In April,

manufacturers and trade establishments added to their stocks at an annual
rate of $32.4 billion in 1972 prices; the accumulation followed an already
strong growth of $20.5 billion (annual rate) in the first quarter.
Partial data in May show that inventory investment continued to be strong;
in book value terms, factory inventories rose at an annual rate of nearly
$50 billion, and wholesale trade stocks were up at a $8.3 billion rate.

II-12
CHANGES IN MANUFACTURING AND TRADE INVENTORIES
(Billions of dollars at annual rates)

1984
Mar.r

Apr.P

109.8
38.3
14.5
57.0
25.8
31.3

66.6
39.7
12.8
14.1
1.6
12.5

97.2
36.2
27.7
35.8
15.6
20.2

n.a.
49.3
8.3
n.a.
n.a.
n.a.

40.7
12.9
4.3
23.6
10.7
12.8

14.8
14.0
.5
.3
-3.1
3.3

32.4
9.5
10.8
12.1
4.0
8.1

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

1983
Q4

Feb.

29.4
5.0
9.6
14.8
8.7
6.1

73.7
27.8
13.6
32.3
10.5
21.8

9.4
-.5
3.6
6.3
4.1
2.3

20.5
6.9
2.9
10.7
2.8
7.9

MayP

Book value basis
Total
Manufacturing
Wholesale trade
Retail trade
Automotive
Ex. Auto
Constant dollar basis
Total
Manufacturing
Wholesale trade
Retail trade
Automotive
Ex. Auto

INVENTORIES RELATIVE TO SALES 1
Cyclical
Reference Points 2
1981 Low 1982 High

1983
Q4

Feb.

1984
Mar.r

Apr.P

MayP

Book value basis
Total
Manufacturing
Wholesale trade
Retail trade
Automotive
Ex. Auto

1.39
1.60
1.06
1.36
1.59
1.29

1.53
1.77
1.28
1.44
1.88
1.35

1.32
1.43
1.12
1.34
1.44
1.31

1.33
1.44
1.11
1.37
1.49
1.34

1.32
1.43
1.11
1.35
1.45
1.33

1.33
1.42
1.11
1.39
1.56
1.34

1.33
1.44
1.11
1.37
1.51
1.34

n.a.
1.45
1.08
n.a.
n.a.
n.a.

1.62
1.92
1.35
1.33
1.44
1.27

1.76
2.14
1.56
1.45
1.79
1.38

1.55
1.75
1.39
1.36
1.40
1.35

1.54
1.73
1.36
1.38
1.37
1.39

1.54
1.72
1.37
1.38
1.37
1.38

1.54
1.72
1.36
1.40
1.43
1.40

1.55
1.75
1.37
1.39
1.42
1.38

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

Constant dollar basis
Total
Manufacturing
Wholesale trade
Retail trade
Automotive
Ex. Auto

1. Ratio of end-of-period inventories to average monthly sales for the period.
2. Highs and lows are specific to each series and are not necessarily coincident.
r--revised estimates.
p--preliminary estimates.

II-13
Much of the recent investment in factory stocks has occurred at producers of durable goods, especially capital goods industries such as
machinery and some types of transportation equipment.

By stage of

processing, the stocking of raw materials and supplies apparently picked
up again in May, after showing only small increases in March and April.
Auto stocks for certain popular models continue to be lean, reflecting
strong sales and production capacity constraints.

Although dealers held a

54 days' supply of domestic cars at the end of June--only slightly below
their preferred level of 55-60 days--inventories of numerous General
Motors models were in the 25 to 35 day range.
Housing Markets
The housing market has begun to show signs of reduced activity.

May, private housing starts dropped to an annual rate of 1.78 million
The May level of starts was about 10 percent below the average

units.

for the first four months of the year when weather conditions generated a
volatile monthly pattern.

In addition, newly-issued residential building

permits edged down in May to a level 3 percent below the average for the
first four months of the year.

Because abnormal weather conditions

affect starts more than permits, the rate of starts relative to permit
issuance has fluctuated considerably this year.

In May, however this

relationship appeared to be within its historical range.
The decline in homebuilding has been most apparent in the single
family sector; those starts in May were off 15 percent from the first-quarter
average.
units.

In contrast, multifamily starts continue to hover around 700,000
However, market conditions are mixed, as field reports from the South

II-14
PRIVATE HOUSING ACTIVITY
(Seasonally adjusted annual rates, millions of units)
1983
Annual

1983
Q4

1984
Q1

Mar.

1984
Apr.

May1

All units
Permits
Starts

1.61
1.70

1.63
1.70

1.81
1.97

1.73
1.66

1.76
1.99

1.74
1.78

Single-family units
Permits
Starts

.90
1.07

.91
1.04

1.02
1.28

.97
1.07

.96
1.19

.90
1.09

Sales
New homes

.62

.67

.69

.68

.64

.61

2.72

2.76

2.94

3.02

3.09

3.05

Multifamily units
Permits
Starts

.70
.64

.72
.66

.79
.69

.75
.59

.80
.80

.84
.69

Mobile home shipments

.30

.31

.30

.29

n.a.

Existing homes

1. Preliminary estimates.
n.a.--not available.

PRIVATE HOUSING STARTS
(Seasonally adjusted annual rate)
Millions
of units

-42.0

Total

,/ .*, -11.2
-,,.

*.,,*/, /

'..

Single-family

°%..-A-

•.

1 /

\°94.

Multifami y

198
1980

198

1981

198
1982

I tiiiiilliittI
198

1983

tIIIIIItt

l9__.
1984

II-15

indicate some softness in both the condominium and the rental markets,
while recent national data show no general weakening.
With costs of new mortgage credit moving up considerably since early
this year, sales of new single-family homes have dropped for three successive months.

The decline in new home sales produced a rapid buildup in

the inventory of unsold new homes.

Nevertheless, the inventory/sales

ratio--equal to a 7 months' supply--was still not high by historical
standards.

Sales of existing homes, after posting five consecutive

monthly increases, edged down 1 percent in May.
House prices have continued to rise at annual rates in the 5 to 9
percent range, although for new homes most of the gain apparently
reflects quality improvements.

Before adjustment for upgrading, the

median price of new homes sold in May was up 9 percent from a year
earlier; for existing home sales, the rise was 6 percent.
Federal Government Budget
The $11.5 billion unified federal government budget surplus in
April was followed by a $33 billion deficit in May.

The budget typically

shows relatively high receipts in April that are attributable to payments
of individual income taxes, but the surplus was unexpectedly large this year
because of slower than usual processing of tax refunds and lower defense
spending than projected by the administration.

These patterns were

reversed in May as a catchup in individual tax refunds reduced net revenues
and defense spending increased more in line with spending plans for the
fiscal year.

In addition, unusually large outlays by the Federal Deposit

Insurance Corporation--reflecting in part the infusion of capital into
Continental Illinois Bank--contributed to the May deficit.

II-16
FEDERAL DEFICIT FOR THE 1984 FISCAL YEAR TO DATE
COMPARED TO PREVIOUS YEARS
(By month, dollar amounts in billions)

Month
--------

Cumulative Deficits
FY1982
FY1983
FY1984 ------

Cumulative Monthly Deficit
as a Percentage of the
Fiscal Year Total Deficit
FY1982
FY1983 FY19841

October

18.1

26.2

25.1

.16

.13

.14

November

28.7

50.3

46.7

.26

December

48.2

68.3

63.3

.44

.35

.36

January

38.9

77.8

68.8

.40

February

53.7

103.2

89.2

.53

March

71.9

129.2

117.8

.66

April

62.2

132.5

106.3

.68

May

81.1

161.8

140.2

.83

Fiscal Year
Total
110.7
195.5
177.8 P
1. Fiscal year total for FY1984 is the latest offical administration
projection.
P Administration projection, Current Budget Estimates, April 1984

II-17

The cumulative FY1984 federal deficit totaled $140 billion through
May.

This amounts to almost 80 percent of the deficit projected by the

administration for the entire fiscal year.

As the table shows, this

percentage is well within the range that has been recorded for this ratio
by the end of May in the last two fiscal years.
In action on the FY1985 budget, the Congress has passed the Deficit
Reduction Act of 1984, which will increase taxes and cut spending by $63
billion over the next three years.

The administration has stated that

the President will sign this bill.

About $50 billion in revenue will be

raised from various small provisions that defer previously enacted tax
cuts, raise excise taxes, place restrictions on some tax shelter activities,
and broaden the tax base.

The bulk of the savings in outlays arise from

a freeze on physicians' fees and an increase in supplementary premiums in
the medicare program.

(The major provisions of the bill are summarized

in Appendix II-A.)
This legislation represents between one-third and one-half of the
total deficit-reduction program approved in separate "downpayment" versions
by the Senate and House.

The bulk of the remaining cuts must come from

reductions in discretionary defense and nondefense spending now being
negotiated by House and Senate budget conferees.
State and Local Government Sector
Activity in the state and local sector continued to advance during
the spring, after a 3.0 percent rise in real terms at an annual rate in
the first quarter.

In May, real outlays for construction stood nearly

1 percent above the first quarter, and employment during the second
quarter as a whole edged up from the first quarter.

The surpluses of

II-18

STATE AND LOCAL GOVERNMENT BALANCE*
AS A PERCENT OF GNP
Percent

2.0

-- -1.0
-1.0

II 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1
46

*--Includes operating and capital balance plus surplus of social
insurance funds.
Source:

National Income and Product Accounts.

-2.0

II-19

state and local governments rose further in the first quarter to the
highest level in nominal terms on record, reflecting increases in both
the social insurance trusts and holdings in the operating and capital
budgets.

The total surplus in three consecutive quarters has been 1.7

percent of GNP; there has been only one quarter during the post-war
period--the fourth quarter of 1972--when this ratio was either matched or
exceeded.
Exports and Imports
For April and May combined, the merchandise trade deficit was a record
$110 billion at an annual rate.

Imports grew faster than exports reflect-

ing the strength of demand in the United States, the slower rate of
recovery in trading-partner countries, and the effects of the persistent
high level of the exchange value of the dollar.

Imports in the April and May

period were at a moderately higher rate than in the already strong first
quarter.

Manufactured goods, which accounted for much of the large

first-quarter increase, advanced further.

Prices, as measured by the

unit value index of nonoil imports, increased by 5 percent at an annual
rate in April and May compared with increases of 3-1/2 percent at annual
rate in the previous two quarters.
both volume and price.

Oil imports also rose somewhat in

The value of merchandise exports in April and May

was slightly higher than in the first quarter.

A decline in agricultural

exports was more than offset by an increase in nonagricultural shipments;
nonagricultural exports in April and May were at the highest level recorded
since the first quarter of 1982.

(A more complete discussion of international

economic developments is included in Part IV.)

II-20

Prices
Recent price reports were more favorable than expected.

The con-

sumer price index rose only 0.2 percent in May after a 0.5 percent
increase in April; producer prices of finished goods were unchanged in
both months.

Although declines in food prices account for much of the

slowdown, inflation rates for other goods and services remained quite
moderate.

At the consumer level, food prices fell 0.3 percent in May

after two months of little change.

Prices came down sharply for meats,

poultry, and fresh vegetables, reversing much of the weather-related
runup early this year.
pated,

Although meat supplies were higher than antici-

significant reductions in pork production are still expected in

coming months.
Retail energy prices had picked up in April, in part because of
unseasonably cold weather, but posted only small increases in May.
Despite uncertainty about the Mid-East situation, spot prices in June
were lower for both fuel oil and gasoline.
Excluding food and energy items, the CPI rose 0.5 percent in April
and only 0.3 percent in May.

This is similar to the average annual pace

of 5 percent that has prevailed since the end of 1982;

over this same

time horizon prices of commodities other than used cars have been rising
at an average annual rate of 2-1/4 percent.
At the producer level, increases in prices for capital equipment
were relatively small in April and May, with the level of the index less
than 3 percent above a year earlier.

Prices of intermediate materials

less food and energy were up only 0.1 percent in both months.

Price

II-21
RECENT CHANGES IN CONSUMER PRICES
(Percentage change; based on seasonally adjusted data) 1
Relative
Importance
Dec. 1983

1983

1983
Q4

1984
Q1

--Annual rateAll items 2
Food
Energy
All items less food and
energy 3
Commodities 3
Services 3
Memorandum:
CPI-W 4

1984
Apr.

May

--Monthly rate--

100.0
18.7
11.9

3.8
2.6
-.5

4.0
4.3
-1.7

5.0
9.0
-1.4

.5
.0
.7

.2
-.3
.2

69.4
26.5
42.9

4.9
5.0
4.8

4.9
4.6
5.3

5.1
3.4
5.9

.5
.6
.5

.3
.2
.4

100.0

3.3

2.6

2.3

1. Changes are from final month of preceding period to final month of period
indicated.
2. Official index for all urban consumers, based on a rental equivalence
measure for owner-occupied housing after December 1982.
3. Data not strictly comparable. Before 1983, they are based on unofficial
series that exclude the major components of homeownership; beginning in 1983,
data include a rental equivalence measure of homeowners costs.
4. Index for urban wage earners and clerical workers.

RECENT CHANGES IN PRODUCER PRICES
(Percentage change; based on seasonally adjusted data) 1
Relative
Importance
Dec. 1983

1983

1983
Q4

1984
Q1

--Annual rate--

1984
Apr.
May
--Monthly rate-

100.0
24.0
12.0
41.8
22.2

.6
2.3
-9.2
1.9
1.9

1.1
5.8
-10.4
1.5
1.8

6.0
17.4
-7.2
4.7
4.3

.0
-.6
.7
-.1
.3

.0
-1.2
1.5
.1
.2

Intermediate materials 2
Exc. energy

94.8
79.3

1.5
3.0

2.5
4.1

2.6
3.5

.1
.1

.3
.1

Crude food materials
Crude energy
Other crude materials

52.8
31.3
15.9

8.0
-4.6
15.5

12.1
-2.3
2.4

13.7
-1.3
-9.2

-1.2
.4
2.9

-2.7
.4
2.6

Finished Goods
Consumer foods
Consumer energy
Other consumer goods
Capital equipment

1. Changes are from final month of preceding period to final month of period
indicated.
2. Excludes materials for food manufacturing and animal feeds.

II-22

increases for products of industries with strong demand--such as paper,
electronic components, and electric motors and generators--were largely
offset by declines in a variety of other industries.
Wages and Labor Costs
Wage increases for production workers have remained quite low this
year.

The hourly earning index, which covers wages paid to about four-

fifths of the workers on private nonfarm payrolls, rose at a 3 percent
annual rate over the first six months of 1984, down from the 4 percent
rate recorded in 1983.

Despite a reduction in the prevalence of new

wage concessions in collective bargaining agreements in manufacturing,
wage changes have remained quite moderate.
ments are one factor.

Small cost-of-living adjust-

In construction, pay cuts and freezes continue to

occur under pressure from nonunion competition.

II-23
HOURLY EARNINGS INDEX 1
(Percentage change; based on seasonally adjusted data) 2
1984

1983
1983

Manufacturing
Durable
Nondurable
Contract construction
Transportation and
public utilities
Total trade
Services

1984
May

June

--Monthly rate--

--Annual rate-Total private nonfarm

Apr.

3.9

2.8

4.1

3.5

2.9

-.2

2.7
2.1
3.9
1.5

2.1
1.7
2.9
-.5

3.3
2.6
4.4
1.4

3.8
3.8
3.6
2.3

2.8
2.7
3.1
1.6

.2
.2
.2
.2

.2
.1
.3
.2

.2
.2
.1
.1

4.3
4.7
4.9

2.2
4.1
4.1

4.6
4.5
5.1

3.7
2.7
3.3

2.9
2.3
4.6

.3
.6
.9

-.1
-.3
-.6

.3
.2
.7

1. Excludes the effect of interindustry shifts in employment and
fluctuations in overtime hours in manufacturing.
2. Changes over periods longer than one quarter are measured from final
quarter of preceding period to final quarter of period indicated.
Quarterly changes are compounded annual rates.

APPENDIX A*
THE DEFICIT REDUCTION ACT OF 1984

The Deficit Reduction Act of 1984, which increases taxes by $50
billion and cuts entitlement-related spending by $13 billion over the
1984 through 1987 period, was passed by the Congress on June 29.
The
President is expected to sign the bill.
This legislation represents about one-half of the deficit reduction
program included in the Senate passed version of the First Congressional
Budget Resolution and about 40 percent of the House passed version. The
remaining portions of the Senate and House deficit reduction packages
consist of cuts in discretionary defense and nondefense spending and
savings in debt service outlays attributable to reduced debt levels.
Differences between the House and Senate version of the budget resolution-primarily in the size of the defense spending cuts--were not resolved by
the budget conferees before Congress recessed for July 4 and the Democratic
Party convention. The discretionary spending cuts are to be implemented
in the regular annual appropriations process, which is not due to be
completed until September 10.
The revenue portion of the Deficit Reduction Act, which is summarized in the table, consists of a large number of provisions that individually have small revenue impacts. However, several of the provisions can
be usefully grouped into two broad categories. The category accounting
for the largest receipts gains involves a freeze on changes in certain
tax code provisions that would have expired or were scheduled to be
liberalized under current law. A second major grouping involves changes
to some of the trust, partnership and accounting provisions of the tax
code that allowed individuals and organizations to shelter income from
taxation by accelerating expenses, deferring income, or shifting taxable
income to entities with relatively low tax rates.
Major revenue raising items in the freeze category, which accounts
for about one-third of the revenue gain from the bill, include:
* Postponement of the effective date of a set of liberalized
leasing rules known as finance leasing. These provisions,
which became effective January 1, 1984, are retroactively
repealed and are now scheduled to become effective
In general, a lease arrangement must
January 1, 1988.
have economic substance aside from the tax benefits it
generates in order to be classified as lease for tax purposes.
Under the finance leasing rules that become effective in
1988 the fact that property is readily useable only by the
lessee, or that the lessee has an option to purchase the
property at a fixed price will not be taken into account in
determining the economic substance of the transaction.

* Prepared by Wolf Ramm, Economist, Government Finance
of Research and Statistics.

II-A-1

Section, Division

II-A-2

* Postponement of increases in the amount of personal property
that a business may elect to expense.
Under prior law the
maximum amount of qualifying property that could be expensed
in the year in which the property is placed in service was
$5,000.
This limit was scheduled to increase to $7,500 in
1984 and $10,000 in 1986. These limits are now rescheduled
to increase in 1988 and 1990.
* Repeal of the net interest exclusion under which individuals would have been allowed to exclude 15 percent of their
interest income--up to a maximum of $3,000 on individual
returns and $6,000 on joint returns--from taxable income
beginning in 1985.
* Extension of the 3 percent telephone excise tax through
1987.
This tax had been scheduled to expire after 1985.
* An increase of $2 per gallon in the tax on distilled spirits;
this tax has declined sharply in real terms since first
enacted.
Provisions that would limit the ability of individuals to shelter
income from taxation account for another 20 percent of the revenue from
the bill. Major revenue raising items include:
* Accounting rule changes which restrict--for tax payers using
the accrual method of accounting-the accrual of expenses
before all economic events establishing the expense liability have occurred. This provision has significant revenue
effects since some tax shelters have offered current
deductions for expense liabilities that are to be paid far
in the future.
* Rules that impute income or rental income to the seller or
lessor in transactions where payments are deferred and
market interest rates (or rentals in the case of leases)
are not charged. In the past, under a deferred payment
transaction elements of interest or rent could be included
in the final payment of a transaction; allowing the seller
to deduct current interest expenses while deferring the
income arising out of the transaction.
* The trust and partnership provisions include a limitation
on the establishment of multiple trusts for the same beneficiary for the purpose of taking advantage of the graduated
tax rate schedule; restrictions on the use of partnerships
to change the timing of income, gains, losses and tax
deductions; and limitations on tax exempt exchanges of
property within a partnership.

II-A-3

Other areas in which the bill will result in relatively large
revenue gains are:
* Corporate taxes are increased by limits on some tax preferences and eliminating the graduated tax rate structure for
larger corporations.
* The sale of the tax benefits of accelerated depreciation by
tax exempt entities such as state and local governments-through sale and leaseback arrangements--is restricted.
* The period over which certain real property may be depreciated is increased from 15 years to 18 years. This provision
is not expected to have a sizable impact on building incentives.
* Income averaging formulas were modified making it harder to
qualify for income averaging and reducing the benefits from
averaging. The use of income averaging had increased rapidly
in recent years due to inflation induced increases in wages
and salaries. This relatively large revenue raiser primarily
effects individuals.
* The tax treatment of pension and other.employee benefit plans
was tightened in a number of respects.
Also included in the bill were a number of provisions that reduced
receipts:
* The rules governing the taxation of life insurance companies
and products were rewritten replacing, in part, provisions
that had expired at the end of 1983. The rules are designed
to assure the uniform treatment of different forms of life
insurance companies such as mutual and stock companies; and
to discourage the use of life insurance as a short-term tax
favored investment tool.
* Authority, which had expired at the end of 1983, for states
and localities to issue mortgage revenue bonds for owner
occupied residences was renewed. The existing state volume
ceilings--the greater of 9 percent of average area qualifying
mortgage originations during the last three years or $200
million--were retained. However some of the cap can be
traded for "mortgage credit certificates," which will allow
some buyers to claim a nonrefundable credit on their own
tax returns. The act states that it is the intent of
Congress to make this assistance available to lower income
families.

II-A-4

* The jobs and earned income tax credits were increased.
* The holding period for long-term capital gains was reduced
from one year to six months. This provision has a relatively
small projected revenue impact reflecting, in part, the
expectation of increased trading in financial assets.
* The 30 percent withholding tax on interest paid to foreign
investors was repealed.
The outlay portion of the Deficit Reduction Act, also summarized in
the table, will reduce spending by about $13 billion over the 1984 to
1987 period. The largest cuts are in the medicare and medicaid programs
primarily from a 15 month freeze on physicians' fees under medicare and an
increase in supplemental medicare insurance premiums. Other provisions
would accelerate the collection of federal non-tax receipts and step up
federal debt collection efforts as recommended by the Grace Commission,
increase premium rates for federal credit union deposit insurance, limit
veterans benefits, restrict farm disaster loans, and defer by one day--for
an accounting gain of $1.4 billion in FY1985--the payment of military
retirement benefits.

BUDGET IMPACT OF SELECTED REVENUE AND OUTLAY PROVISIONS 1
(Fiscal years, unified budget, billions of dollars)
Provision

1984

1985

1986

1987

.1
.2

.3
.4
1.0
.1
.5
2.3

.9
.4
2.9
1.2
.3
.3
6.0

1.4
.4
3.1
2.0
.5
.5
7.9

2.7
1.4
7.0
3.2
1.0
1.3
16.6

.2
.1
.3

.4
.5
.5
.5
2.0

.5
1.2
.5
1.1
3.4

.5
1.9
.5
1.6
4.5

1.6
3.6
1.7
3.3
10.2

Corporate Provisions
Tax Exempt Entity Leasing
Depreciation of Real Property

.1
.3
.1

.9
.8
.3

1.4
1.6
.8

1.6
2.8
1.5

Income Averaging
Pension and Employee Benefit Plans

3.9
5.5
2.6

2.0
.5

1.9
.9

2.1
1.1

6.1
2.5

-. 1

-. 3
-.2

-.4
-.8
-.3

-.5
-.7
-.3

-1.2
-1.6
-.5

2.3
10.6

2.1
16.6

2.5
22.5

7.8
50.9

1.4

2.3
1.5

2.7
4.1

3.8

3.1
1.7
.3
5.1

6.8
3.2
3.1
13.1

1.2

14.7

20.4

27.6

64.0

Tax Freeze:
Postponement of finance leasing rules
Expensing of personal property
Repeal of interest exclusion
Extension of telephone tax
Increase in liquor tax
Other freeze items
Sub-total of freeze provisions
Partnership, Trust and Accounting Changes:
Limits on premature expense accruals
Accrual of interest and rents in deferred payment transactions
Other accounting changes
Trust and partnership provisions
Sub-total of partnership, trust and accounting provisions

Selected Provisions Resulting in Revenue Loss:
Life insurance
Jobs and earned income credits
Capital gains
All Other Revenue Provisions
Total of Revenue Provisions
Spending Provisions:
Medicare
Grace Commission recommendations
All other spending provisions
Total of Spending Provisions
Total Deficit Reduction

1.1

1. Changes reducing the deficit (revenue increases and outlay reductions) are shown with a positive sign.
SOURCE: Joint Committee on Taxation and Congressional Budget Office.
NOTF
etail may not sum to totals due to rounding.

1984-1987

III-T-1

SELECTED FINANCIAL MARKET QUOTATIONS 1
(Percent)
1981
Cyclical
peak

1983
Cyclical
low

Federal funds 2

20.06

8.42

9.41

9.75

11.26

1.85

Treasury bills
3-month
6-month
1-year

17.01
15.93
15.21

7.55
7.62
7.73

8.89
8.97
9.00

10.04
10.50
10.70

10.09
10.54
10.94

1.20
.57

Commercial paper
1-month
3-month

18.63
18.29

8.00
7.97

9.14
9.13

10.16
10.52

11.16
11.28

2.02
2.15

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

18.90
19.01
18.50

8.08

9.23
9.31
9.43

10.47
11.10
11.80

11.35

8.12
8.20

11.64
12.17

2.12
2.33
2.75

Eurodollar deposits 2
1-month
3-month

19.80
19.56

8.68
8.71

9.53
9.70

10.73
11.58

11.63
12.18

2.10
2.47

.90
.59

21.50

10.50

11.00

12.50

13.00

2.00

.50

8.71
10.86

9.57
10.79

11.29
12.68

10.77
12.70

1.20
1.91

-.52
.02

9.33

10.88
11.66
11.74

12.86
13.52
13.53

13.24
13.53
13.28

2.36
1.87
1.54

.38
.01
-. 25

Short-term rates

Bank prime rate
Treasury bill futures
Sept 1984 contract
Dec. 1985 contract

FOMC
Jan. 30

1984
FOMC
May 22

July 10

Change from:
FOMC
FOMC
Jan. 30 May 22
1.51

1.94

1.00
.76

Intermediate- and long-term rates
U.S. Treasury (constant maturity)
3-year
16.59
10-year
15.84
30-year
15.21

10.12
10.27

Municipal revenue
(Bond Buyer index)

14.24

9.21

9.954

10.824

11.114

1.16

Corporate--A utility
Recently offered

18.33*

11.64

12.90e

14.90e

15.05e

2.15

18.63

N.A.

12.55
10.49

13.295
11.405

14.045
13.005

14.665
13.705

1982

1983

Home mortgage rates
S&L fixed-rate
FNMA ARM. 1-yr.

Stock pricLows

Highs

1984

FOMC
Jan. 30

FOMC
May 22

July 10

.15

1.37
.62
2.30
.70
Percent change from:

FOMC
FOMC
Jan. 30 May 22

Stock prices
Dow-Jones Industrial
776.92 1287.20
1221.52 1116.62
1126.88
-7.7
.9
NYSE Composite
58.80
99.63
94.12
88.43
88.19
-6.3
-.3
AMEX Composite
118.65
249.03
217.53
202.68
196.49
-9.7
-3.1
NASDAQ (OTC)
159.14
328.91
269.23
240.80
236.25
-12.2
-1.9
1. One-day quotes except as noted.
4. One-day quotes for preceding Thursday.
R. Averages for statement week closest to date shown. 5. One-day quotes for preceding Friday.
3. Secondary market,
e--estimated. p--preliminary.
*September average.

DOMESTIC FINANCIAL DEVELOPMENTS
Financial markets have been rather turbulent during the past two
months, as incoming data have provided a good many surprises about the
course of the economy and as tensions have persisted in the banking system.
Low inflation figures have been a constructive factor for the markets, but
indications of continued rapid growth in real activity have intensified
concerns about prospective money and credit demand pressures and about possible Federal Reserve tightening actions.

In this environment, investors

are demanding a large liquidity premium to extend beyond the shortest
maturities.
Federal funds traded around 10-1/2 percent until mid-June when pressures associated first with corporate tax payments and later with the
quarter-end statement date helped to push the rate above 11 percent.

recently, the funds market has remained relatively tight, perhaps reflecting
expectations of firmer System policy and some caution in reserve management
by large banks, who may wish to avoid borrowing at the discount window at
this time.

Despite the heavy demands on short-term credit markets, Treasury

bill rates are about unchanged on balance since the May-FOMC meeting.

net paydown of bills, to remain below the public debt ceiling, has contributed to the stability of bill rates, but there has also been something of a
flight to quality.

Heightened concerns about the exposure of the banking

system to loan losses, which were underscored by Continental Bank's liquidity problems and rumors about other banks, helped to boost prime CD and
commercial paper rates by 50 to 100 basis points over the intermeeting
period.

There have been reports of tiering and other resistance to U.S.

bank borrowers in the Euro CD and interbank markets, and, in the domestic CD

III-1

III-2
YIELD SPREAD:

CD LESS TREASURY BILL*
(3-Month)
Percentage points

Monthly

Early July
*

1979

1980

1981

1982

1983

1984

*Rates converted to investment yield basis to provide comparability.

and commercial paper markets, certain money center banks have been paying
premium rates compared with other issuers.

The prime rate was raised to

13 percent from 12-1/2 percent on June 25, reflecting the higher cost of
funds to major banks.

Although private long-term bond yields have in-

creased little on baelane from May FOMC meering levels, interest rates
posted in the primary market for new home mortgages are up more that onehalf percentage point.
Credit demands have continued to swell, reflecting burgeoning private
domestic spending in the first half of the year and the continuing large
federal deficit.

The aggregate debt of private domestic nonfinancial

sectors has expanded at double-digit rates since late last year; in the

III-3

second quarter this measure is estimated to have increased at an annual
rate of 13 percent, following a first-quarter increase of about 12 percent.
Business borrowing, particularly in the short-term area, has continued
sizable, owing in part to mergers but also reflecting growing external
financing needs associated with investment in inventories and fixed capital.
Household demands for consumer credit and home mortgages remained strong
through May, a period too early to reveal any restraining impact from the
upturn in rates on such loans.

Uncertainty about the outcome of congressio-

nal debate over issuance of mortgage revenue bonds and IDBs restrained the
volume of borrowing in the tax-exempt market through June; with new legislation now expected to be signed into law, the market could be flooded with
tax-exempt issues over the summer months.
Against the backdrop of robust economic growth, M1 rebounded in May
and posted another large increase in June; it stood in the upper part of
its annual target range at midyear.

M2 has continued to track a little

below the 7-1/2 percent midpoint of its 1984 target range, but heavy
issuance of large CDs by commercial banks and S&Ls--to meet strong loan
demand--has held M3 growth above its annual target.
Monetary Aggregates and Bank Credit1
The recorded growth rates of M1 in April and May apparently were
distorted, at least in part, by seasonal adjustment factors that did not
capture adequately the patterns of tax payments and refunds; this was
particularly evident for other checkable deposits, which declined in April,
but subsequently surged and accounted for much of the growth in M1 during

1. A retrospective on the behavior of the aggregates in the first half of
1984 is presented in Appendix A.

III-4
MONETARY AGGREGATES
(Based on seasonally adjusted data unless otherwise noted)1
Growth from
1983

1984

Q2**

May

June**

Q4 1983 to
June 1984**

- Percentage change at annual rates ----

1.
2.
3.

M1
M2
M3

6.0
7.0
10.0

12.6
8.8
10.7
Levels in billion
of dollars
May 1984

Selected components
4. Currency

4.0

-0.5

1.2

3.5

-0.5

21.2

9.6

16.2

9.5

41.4

6.1

9.7

6.9

7.0

7.6

-8.1
Overnight RPs and Eurodollars, NSA
General purpose and broker/dealer money
market mutual fund shares, NSA
-13.1
12.2
Commercial banks
Savings deposits,
SA, plus
4
MMDAs, NSA
11.0
13.7
Small time deposits
7.3
Thrift institutions
Savings deposits, SA, plus
1.0
MMDAs, NSA4
12.3
Small time deposits

23.4

19.3

-7.0

39.7

-53

-1.2
12.4

9.8
5.5

4.1
4.9

19
9

146.6
732.9

5.9
19.3
7.3

6.5
4.4
6.4

-4.8
15.2
6.6

1
16
7

372.5
360.4
784.5

-7.0
18.8

-0.9
11.8

9.8

16.0

11.9
-4.6
63.5
-17.8
15.2
-1.7

Other checkable deposits

M2 minus M1 2

15.
16.

M3 minus M25
Large time deposits
6
At commercial banks, net
At thrift institutions
Institution-only money market
mutual fund shares, NSA
Term RPs, NSA
Term Eurodollars, NSA

MEMORANDA:
at commercial
Managed liabilities
23.
banks (24+25)
24.
Large time deposits, gross
25.
Nondeposit funds
Net due to related foreign
26.
institutions, NSA
7
27.
Other
28.

245.2

7.0

12.
13.
14.

8.7

Demand deposits

10.
11.

152.9

9.8

8.
9.

9.1

U.S.

government deposits at commercial
8
banks

16.0
6.5

8.7

137.8
6

1718.3
59.3

2.0
9.5

-1.8
12.7

327.3
457.2

17.9

23.5

18.2

556.5

15.7
-0.4
58.1

24.8
10.0
58.6

30.5
23.5
45.5

38.5
36.6
40.2

367.0
243.5
123.4

16.6
50.0
-3.1

11.0
18.4
7.1

7.0
38.0
1.0

5.7
28.1
-12.6

Average monthly change in billions of dollars --

-2.6
-2.0
-0.6

5.3
0.1
5.2

1.3
-2.0

3.2
2.1

1.0

-1.2

5.5
8.0
-2.5

15.5
10.5
5.0

419.6
302.8
116.8

2.0
0.6

2.0
-4.5

5.3
-0.2

-28.4
145.2

1.2

-1.5

-3.7

1. Quarterly growth rates are computed on a quarterly average basis. Dollar amounts shown under memoranda for quarterly changes are calculated on an end-month-of-quarter basis.
2. Nontransactions M2 is seasonally adjusted as a whole.
3. Overnight and continuing contract RPs issued to the nonbank public by commercial banks plus overnight Eurodollar
deposits issued by branches of U.S. banks to U.S. nonbank customers, both net of amounts held by money market mutual
funds. Excludes retail RPs, which are in the small time deposit component.
4. Growth rates are for savings deposits, seasonally adjusted, plus money market deposit accounts (MMDAs), not seasonally
adjusted. Commercial bank savings deposits excluding MMDAs declined during May and June at rates of 3.7 and 1.0 percent
respectively. At thrift institutions, savings deposits excluding MMDAs increased in May at a rate of 1.4 percent and
decreased in June at a rate of 3.0 percent.
5. The non-M2 component of M3 is seasonally adjusted as a whole.
6. Net of large-denomination time deposits held by money market mutual funds and thrift institutions.
7. Consists of borrowings from other than commercial banks in the form of federal funds purchased, securities sold
under agreements to repurchase and other liabilities for borrowed money (including borrowings from the Federal
Reserve and unaffiliated foreign banks), loans sold to affiliates, loan RPs and other minor items.
estimated.

Data are partially

8. Consists of Treasury demand deposits at commercial banks and Treasury note balances.
** Based on nearly complete data for June. Monthly growth rates are rounded to the nearest full percentage point,
quarterly rates are rounded to the nearest one-half percentage point, and Q4 to June rates are rounded to the
nearest one-quarter percentage point.

III-5

May.

The continued strength in M1 in June, however, which brought the

quarterly average gain to 6 percent at an annual rate, appears to reflect
the underlying growth in demand for transactions balances to support rising
spending.

The growth of desired cash balances presumably has been tempered

by the rising trend in interest rates, thereby lifting the growth of income
velocity; the velocity of M1 has risen at an average annual rate of about
4-1/2 percent over the past two quarters, broadly consistent with the
predictions of the Board's quarterly model of money demand.
M2 growth strengthened in May, but in June returned to its subdued
pace of earlier in the year, as a sharp drop in overnight RPs, which accompanied a large cutback in Treasury securities held in trading accounts
at commercial banks, restrained expansion in its nontransactions component.
Among other nontransactions components of M2, growth in small time deposits
accelerated further in June.

The slower pace through April was perhaps

associated with inflows to IRA and Keogh accounts; these accounts have been
increasing markedly in importance in the past few years, and their impact
on M2 probably is not anticipated fully by current seasonal factors.
Inflows to small time deposits at both commercial banks and thrift institutions have been strong recently even though rates on these accounts
generally have lagged behind those on Treasury instruments and money market
mutual funds, as market rates have risen.
M3 growth was similar in May to the brisk April pace, but slackened
in June, with the slowing of M2 and sharp declines of term Eurodollars and
RPs.

Large time deposits accelerated on average in May and June as issuance

by commercial banks surged, while growth of large time deposits at thrifts
continued around the elevated pace of recent months.

The strength in large

III-6

COMMERCIAL BANK CREDIT AND SHORT- AND INTERMEDIATE-TERM BUSINESS CREDIT
(Percentage changes at annual rates, based on seasonally adjusted data)1

1983
Q4

Total loans and securities
3
at banks
Securities

Treasury securities

Other securities

Total loans

3
3

12.8

14.2

10.8

4.4

25.1

May

JuneP

Commercial Bank Credit -------

-------------------1.

19842
Apr.

7.5

Levels in
bil. of dollars
JuneP
----------

5.6

14.9

1.9

1657.7

-7.7

-10.1

1.9

-15.1

431.4

-1.9

-8.1

-7.7

9.7

-26.3

183.3

0.6

9.2

-7.4

-11.8

-3.8

-6.7

248.1

13.5

17.8

13.0

11.4

19.3

8.0

1226.3

10.6

18.9

16.6

8.5

27.7

12.9

455.2
25.0

Business loans

Security loans

60.8

0.0

-33.7

-17.6

26.8

-109.1

Real estate loans

11.4

13.4

14.5

13.2

14.0

15.9

359.3

Consumer loans

23.1

21.3

22.1

20.2

21.9

23.0

244.2

Short- and Intermediate-Term Business Credit -----Business loans net of bankers
acceptances

10.8

18.2

16.9

8.2

27.5

14.3

445.7

Commercial paper issued by non4
financial firms

25.9

20.1

67.1

88.6

35.7

67.1

58.5

12.

Sum of lines 10 & 11

12.3

18.4

22.0

16.6

28.2

20.0

504.2

13.

Line 12 plus loans at foreign
5
branches

12.4

18.2

22.1

17.9

29.2

18.1

524.1

29.0

28.8

n.a.

7.2

n.a.

18.9

-22.2

n.a.

54.1

61.2

n.a.

15.5

14.9

n.a.

20.2

n.a.

10.

11.

14.

Finance company loans to business

15.

Total bankers acceptances outstanding

16.

Total short- and intermediateterm business credit (sum of
lines 13, 14 and 15)

p--preliminary
n.a.-not
available.
1. Average of Wednesdays for domestically chartered banks and average of current and preceding ends of months for
foreign-related institutions.
2. Growth rates beginning 1984 have been estimated after adjusting for major changes in reporting panels and
Data should be regarded as highly
definitions that caused breaks in series at the beginning of January.
preliminary.

3. Loans include outstanding amounts of loans reported as sold outright to a bank's own foreign branches, unconsolidated nonbank affiliates of the bank, the bank's holding company (if not a bank), and unconsolidated nonbank
subsidiaries of the holding company.
4. Average of Wednesdays.
5. Loans at foreign branches are loans made to U.S. firms by foreign branches of domestically chartered banks.
6. Based on average of current and preceding ends of month.

III-7

time deposits reflects credit demand that has outstripped growth in core
deposits; it also reflects, at commercial banks, a substantial runoff in
government deposits in May and, in June, a shift to funding foreign branch
assets in the U.S. market.1

Term RPs declined in June, perhaps reflecting

a shortage of collateral; commercial bank holdings of Treasury securities
were off sharply in June.

Thrifts increased their reliance on nondeposit

sources of funds in May and June to augment sizable deposit inflows, as
FHLBB advances showed their largest increases of the year.
After surging to a 15 percent growth rate in May, commercial bank
credit slowed abruptly in June, reflecting a substantial runoff of securities, particularly of Treasuries, and a marked slowing in total loan growth.
The weakening in total loans was accounted for largely by declines in the
security and unclassified loan categories.

Business loans slowed somewhat

in June from May's pace, which was boosted substantially by merger-related
lending to large oil companies; a portion of these loans was paid down in
June.

In addition, lending to businesses in June likely was damped by

the shift this year of the June corporate profits make-up payment to March.
Nonetheless, the merger-adjusted growth of business loans appears off only
only a bit from the roughly 20 percent pace in May. 2

Consumer and real

1. Commercial banks advanced $6-1/4 billion abroad in June, after raising
more than $14 billion from their foreign offices over the first five months
of the year. Evidently this reflected, at least in part, funding difficulties in the Eurodollar market as indicated by the large decline in term
Eurodollars held by U.S. residents. This weakness in the Euromarket may
have been masked in May as bank holding companies deposited substantial
amounts in their foreign branches, financed by commercial paper issuance
in the U.S.
2. Respondents to the Senior Loan Officer Opinion Survey on Bank Lending
Practices taken in mid-June indicated some tightening of their lending
practices. One-third of the respondents reported that they had become
more restrictive in their lending for leveraged buy-outs. Most of the
respondents who indicated a tightening of lending practices reported that
they did so by applying higher standards of creditworthiness.

III-8
GROSS OFFERINGS OF SECURITIES BY U.S.

(Monthly rates, not seasonally adjusted,

CORPORATIONS

billions of dollars)
1984
Apr.
MayP

1983

Q2P

Corporate securities - total1

8.91

8.36

6.54

7.80

Public offerings in U.S.

8.21

6.92

5.45

4.30

1.23

2.17
1.11
.22
.89
1.06

3.91
2.03

Stocks-total2
Nonfinancial
Utility
Industrial

Financial
Bonds-total 1
By industry
Nonfinancial
Utility
Industrial
Financial
By quality 3
Aaa and Aa
A and Baa
Less than Baa
No rating (or unknown)
Memo items:
Equity based bonds 4
Mortgage-backed bonds
Floating rate or extendible notes
Bonds sold abroad - total
Nonfinancial
Financial

JuneP

Julyf

4.80

7.00

5.70

6.04

4.50

5.80

4.70

1.63
1.15
.35
.80
.48

1.78

1.50
1.20

.34
.90
.54

.30
.90
.30

1.60
1.00
.40
.60
.60

1.70

1.24

4.75

3.82

4.26

3.00

4.20

3.00

1.88
.45
1.43
1.94

2.35

1.49
.10
1.39

1.80
.70
1.10

1.88

1.49
.64
.85
3.26

1.51

2.40

1.13
1.57
.48
.37

.93
1.59
.61
.36

1.18
1.28
.72
.13

1.36

1.34
.64
.53
.18

.85
1.96
.39
.10

.28

.38
.52

.76
.31

.58

1.35

.12
.20
.84

.26
.70
1.85

1.44
.86
.58

1.09
.38
.71

1.76
.69
1.07

.30
.18
.12

1.20
.27
.93

3.07
.80
2.27

.95
1.08

1.26

.56
1.79
1.91

1.24
1.23
.12

1.00

p-preliminary. f-forecast.
1. Securities issued in the private placement market are not included. Total reflects gross
proceeds rather than par value of original discount bonds.
2. Includes equity issues associated with debt/equity swaps.
3. Bonds categorized according to Moody's bond ratings. Excludes mortgage-backed bonds.
4. Includes bonds convertible into equity and bonds with warrants attached where the warrants
entitle the holder to purchase equity in the future.

III-9

estate loans continued to expand at a brisk pace.
Business Finance
Business needs to finance inventories and fixed capital outlays have
been outstripping the flow of internal funds this year, causing the financing
gap to widen from $36 billion in the first quarter to about $57 billion in
the second quarter; this gap was negative on average in 1982 and 1983.
Borrowing by businesses has continued to be concentrated in short- and
intermediate-term maturities, partly reflecting the rapid buildup of inventories, but also apparently the attractiveness of short-term relative to
long-term credit costs.
The sum of business loans at commercial banks (excluding holding of
bankers acceptances but including loans to U.S. residents at their foreign
branches) and nonfinancial commercial paper increased at a 22 percent
annual rate in the second quarter, following a first-quarter rise of 18
percent.

Financing of mergers and buyouts has had a marked impact on

short-term credit flows, with large oil-company deals alone accounting for
at least one-third of this year's growth.

Nevertheless, business credit

has expanded substantially even after adjusting for merger activity.
In the second quarter, the volume of funds raised by nonfinancial
businesses in long-term markets continued at close to the first quarter's
moderate pace.

In contrast to last year when equity offerings accounted

for more than one-half of the gross volume of long-term public financing,
the depressed stock market has reduced that share to about one-third so far
this year.

An increasing number of bond issues sold by nonfinancial firms

were departures from the traditional long-term fixed-rate issue:
rate notes, extendible maturity notes, or intermediate-term Euros.

floating

III-10

The Deficit Reduction Act of 1984, which was passed by the Congress,
provides for the repeal of the 30 percent withholding tax on interest
payments to foreigners and may reduce somewhat the rate differential between
the U.S. and Eurobond markets.

The Eurobond market is still likely to be

attractive to foreign investors who prefer the anonymity of bearer bonds--U.S.
corporations can still issue bearer bonds in the Euromarket under the new
law--or who are familiar with European distribution channels.

Nevertheless,

the extent to which this financing mechanism remains viable will depend
partly on whether the Treasury relaxes existing regulations for a 20 percent backup witholding tax--it is expected to do so--and whether it decides
to issue bearer bonds targeted at foreign investors.

Generally, market

analysts remain unconvinced that the Euromarket will be much affected.
Corporate bond yields have risen only 15 basis-points since the May
FOMC.

The yield spread between A-rated utility and Treasury bonds

has widened to more than 150 basis points, compared with levels of around
100 basis points at the beginning of the year.

Quality spreads among

private issues have changed much less, however, suggesting that a sizable
part of the widening of the corporate-Treasury yield spread since January
reflects differences in call protection associated with higher interest
rates.

Stock prices in general are below their May FOMC levels,

and the broad indexes at least 10 percent below their 1984 highs reached
early in January.
Government Finance
Federal sector.

In May, the Treasury's deficit rose abruptly, re-

flecting hefty tax refunds as well as a reassertion of the underlying
upward trend in outlays and a slowing of the cyclical rebound in receipts.

III-11

Treasury financing was disrupted, however, by a delay in raising the debt
ceiling and, as a result, the $35.3 billion combined deficit was financed
principally by a $30 billion decline in the cash balance.
The inflows of June tax payments greatly narrowed the federal deficit
last month, and moderate net issuance of marketable debt restored the cash
balance to an end-of-quarter level of $13.6 billion.

Congress raised the

debt limit on June 29 by $53 billion to $1,573 billion; this action is
expected to accommodate the Treasury's needs through August.
The staff currently is projecting a third-quarter combined deficit of
about $41 billion and the Treasury's cash balance is expected to increase
by about $7 billion.

So far in the current quarter, net marketable

borrowing has amounted to about $16-1/2 billion.

The Treasury will likely

meet most of its remaining financing requirements in auctions of coupon
issues.
Net cash borrowing by federally sponsored credit agencies is estimated
to have totaled $4-3/4 billion in the second quarter, compared with $5-1/2
billion in the first quarter.

Borrowing by the Federal Home Loan Banks

picked up considerably to finance a substantial increase in advances.
Reflecting portfolio purchases of mortgages, FNMA also was active in debt
markets in the second quarter.1

Borrowing by the Farm Credit System re-

mained quite light, owing to depressed conditions in the agricultural sector.

1. FNMA recently issued a $6 billion, 30-year zero-coupon debenture that
raised about $200 million of new cash. This was the largest offering ever
of zero-coupon securities by any issuer and is estimated to have saved
FNMA about 150 basis points relative to the likely pricing of a regular
coupon issue, owing in part to the enthusiastic reception of zero-coupon
issues in foreign markets, especially Japan.

III-12

TREASURY AND AGENCY FINANCING 1
(Total for period; billions of dollars)

Q2P

Q3 f

-28.3

-41.2

1984
May

JuneP

Julyf

-35.3

-3.8

-18.8

5.6

23.2

Treasury financing
Combined surplus/deficit(-)
Means of financing deficit:
Net cash borrowing
from the public
Marketable borrowings/
repayments(-)
Bills
Coupons
Nonmarketable

Decrease in the cash
balance
Memo: Cash balance
at end of period
Other 2

31.2

52.8

29.7
-7.0
36.7
1.5

50.5
12.0
36.3
2.5

7.9
-3.1
11.0
.7

-7.1

30.0

-5.4

-7.3

13.6

20.9

13.6

22.7

8.2

-3.4

-4.5

-3.3

4.8

2.5

Federally sponsored credit
agencies, net cash borrowing 3
FHLB

2.1

FNMA

1.5

1.2

Farm Credit Banks

FHLMC

SLMA

22.4
4.1
18.3
.8

2.9

p--preliminary. f--forecast.
1. Data reported on a not seasonally adjusted, payment basis.
2. Includes checks issued less checks paid, accrued items and other
transactions.
3. Excludes mortgage pass-through securities issued by FNMA and FHLMC.

III-13
State and local sector.

Activity in the long-term tax-exempt market

was subdued during the first half of 1984, at least by comparison with the
past two years.

In June, gross bond offerings totaled $5.2 billion on a

seasonally adjusted basis, in line with the pace of the first five months
of the year but substantially below last year's $7 billion average monthly
figure.
There was little issuance of single-family mortgage revenue bonds and
industrial development bonds (IDBs) in the first half.

The Deficit Reduc-

tion Act of 1984 extends the authority of state and local governments to
issue mortgage bonds through 1987 and places volume caps on the sale of
IDBs and student loan bonds. 1

As a result, offerings of such revenue bonds

are expected to swell this summer, perhaps by as much as $7 billion in the
next few months, according to market sources.

Since late June, nearly

$2 billion of new owner-occupied housing issues have come to to marketwith delivery contingent on the signing of the new law.
Yields on municipal bonds have fluctuated considerably over the intermeeting period; on balance, they have changed little since the May FOMC
meeting.

The market appears to have been anticipating a surge in housing

and IDB issues upon passage of the tax legislation, but rates on housing
issues nonetheless jumped with the outpouring of new issues in early July.
Mortgage Markets
In the primary mortgage market, the contract interest rate for new
commitments on conventional 80 percent fixed-rate home loans at a sample
of S&Ls climbed during the intermeeting period by about 5/8 percentage point

1. The volume caps on these bonds total $200 million for each state or
$150 per resident, whichever is higher. These caps do not include projects
that were previously approved, as long as the bonds are issued this year.

III-14

GROSS OFFERINGS OF SECURITIES BY STATE AND LOCAL GOVERNMENTS
(Monthly totals or monthly averages; billions of dollars)

1982

1983

-----------------Total
Long-term
Short-term1

10.29
6.58
3.71

10.39
7.20
3.19

Q2 e

1984
Maye

Junee

Julyf

Seasonally adjusted-----------------

9.35
5.80
3.55

7.89
4.99
2.90

8.20
5.40
2.80

7.90
5.20
2.70

10.3
8.1
2.2

----------------Not seasonally adjusted-------------Total
Long-term
Refunding
Total housing 2
Short-term1

10.29
6.58
.36
1.24
3.71

10.39
7.20
1.17
1.48
3.19

7.77
5.01
.79
.44
2.76

9.45
5.55
.55
.27
3.90

7.70
5.50
.36
.11
2.20

8.90
5.90
.50
.57
3.00

9.2
7.0

2.2

e--estimate. f--forecast.
1. These figures do not include tax-exempt commercial paper.
2. Primarily mortgage revenue bonds for home ownership and multifamily rental
structures.

to more than 14-5/8 percent in early July, but still remained below secondary
market yields.

At large mortgage companies, the effective rate for FHA-

insured level payment loans has moved irregularly higher since late May
to above 15 percent as of July 6, and the ceiling rate on VA-guaranteed
loans was raised on May 29 to 14 percent from 13-1/2 percent.

Commitment

rates for conventional adjustable-rate mortgages (ARMs) at major originators
also have increased; in early June, the average initial contract rate on
ARMs without rate caps, which rose for the third straight month, still was
about 190 basis points below the rate on fixed-rate loans.

1. HUD recently announced plans to insure ARMs on certain 1- to 4-family
properties and 1-family condominiums, effective July 30. Interest rates on
FHA-insured ARMs would adjust annually, with limits on interest rate changes
of 1 percent in any 12-month period and 5 percent during the life of the
loan; negative amortization would not be permitted.

III-15

CONTRACT RATE FOR NEW COMMITMENTS ON HOME MORTGAGES
IN THE PRIMARY MARKET
Percent
-*1
15

-114

with fixed rates
(weekly)

I
-

Rate ceiling on VAguaranteed loans

-412
**.--

I-

Conventional adjustable-rate

loans with no limit on rate change *
(monthly)

Dec.

1983

Jan.

Feb.

Mar.

Apr.
1984

May

June

July

*The adjustable-rate series for major originators includes initial-year
discounts, but is not standardized for any given rate-adjustment period.

III-16
MORTGAGE ACTIVITY AT FEDERALLY INSURED SAVINGS AND LOAN ASSOCIATIONS1
(Billions of dollars, seasonally adjusted)

Mortgage commitments
New Outstanding2

Net change in mortgage assets
Mortgage Mortgage-backed
Total
loans
securities

(1)

(2)

(3)

(4)

(5)

1983-Jan.
Feb.
Mar.
Apr.
May
June
July
Aug.
Sept.
Oct.
Nov.
Dec.

10.5
11.8
12.3
11.9
12.9
14.6
16.2
15.3
15.8
14.0
15.2
15.0

31.9
34.7
37.4
39.9
42.3
44.4
46.6
48.5
49.8
51.0
53.8
56.5

2.2
5.5
5.2
4.0
4.0
6.7
8.2
8.8
8.0
6.4
6.5
6.0

0.2
2.4
1.4
2.7
2.1
3.8
5.5
5.6
5.5
3.7
5.6
5.7

2.0
3.2
3.9
1.2
1.9
3.0
2.7
3.2
2.5
2.7
1.0
0.3

1984-Jan.
Feb.
Mar.
Apr.
May p

17.2
18.1
17.0
16.8
19.2

58.0
60.4
62.8
63.0
65.3

5.8
6.1
10.0
10.0
10.5

4.9
6.0
5.9
7.5
8.4

0.9
0.1
4.1
2.6
2.1

1. Insured S&Ls account for approximately 98 percent of the assets of all
operating S&Ls. Net changes in mortgage assets reflect adjustments to
account for conversions of S&Ls to savings banks.
2. End of month. Includes loans in process.
p--Preliminary.

NEW ISSUES OF FEDERALLY GUARANTEED MORTGAGE PASS-THROUGH SECURITIES
(Monthly averages, millions of dollars, n.s.a.)
Memo: FNMA and
FHLMC swap issues

All
issues

GNMAs

FHLMCs

1982-Q3
Q4

4772
6653

1305
1779

2249
2727

1218
2147

3149
3795

1983-Q1
Q2
Q3
Q4

7122
7368
7619
5733

3841
4753
4835
3403

1955
1392
1544
1673

1326
1223
1240
657

2204
1880
2115
1954

1984-Q1
Q2

4893
4128

2745
2458

887
1132

1261
539

1744
1491

1984 Mar.
Apr.
May
June

5761
3205
4163
5017

2488
1981
2779
2613

868
723
832
1842

2405
502
552
562

2938
914
1249
2309

Period

FNMAs

III-17

In the secondary mortgage market, yields on GNMA-guaranteed securities
backed by current-coupon mortgages have increased about 1/2 percentage point
since the May FOMC; at the higher VA ceiling rate, average price discounts
recently have been in a moderate range.

Meanwhile, FNMA has boosted its

required yield on one-year adjustable-rate mortgages by around 5/8 percentage point since late May, following the rise in 1-year Treasury yields to
which rates on these loans are linked with a lag.
In early June, ARMs comprised a record 65 percent of all conventional first mortgage loans closed by major originators.

Altogether, ARMs

recently have constituted as much as one-half of the volume of all newly
made home mortgages, including government underwritten loans.
Federally insured S&Ls--which accounted for two-fifths of institutional originations of home mortgages last year-issued a record $19 billion of
new commitments on all types of mortgages during May.

Mortgage commitments

outstanding increased $2.3 billion to a new high of more than $65 billion,
representing something less than 3-1/2 months of the current volume of mortgage originations and purchases combined, a low figure by recent standards.
The strength in S&L commitment activity may have partly reflected efforts
by borrowers to tie down initial rates before costs of credit moved up
further.

Net lending on mortgages at S&Ls advanced in May to a new record,

and net acquisitions of mortgage-backed securities were substantial.
New issues of federally guaranteed pass-through securities-typically
backed by pools of fixed-rate loans--picked up moderately further in June,
but remained constrained by the large volume of ARMs originated in recent

III-18

CONSUMER INSTALLMENT CREDIT

1982

1983

----Change in outstandings-total
By type:
Automobile credit
Revolving credit
All other1

By major holder:
Commercial banks
Finance companies
All other

At auto finance companies 4
New cars
Used cars

1984
Mar.
Apr.

Percent rate of growth, SAAR ----11.4

16.8

17.4

17.6

19.0

3.5
8.4
3.3

9.3
15.5
11.4

12.9
24.5
16.8

14.8
25.1
16.3

2.7
46.0
17.6

17.6
27.9
16.0

- Billions of dollars, SAAR -----

14.2

39.8

62.8

67.8

70.4

76.9

4.4
5.1
4.8

12.1
10.1
17.6

17.8
17.4
27.6

20.9
19.0
27.9

3.9
35.5
31.0

25.9
22.4
28.6

3.8
4.7
5.7

19.5
4.1
16.2

38.1
1.1
23.6

41.5
-0.0
26.3

41.1
-2.3
31.7

48.2
-4.2
32.9

------Interest rates
At commercial banks 2
New cars, 48 mos. 3
Personal, 24 mos.
Credit cards

1984
Q1

4.3

--Change in outstandings--total
By type:
Automobile credit
Revolving credit
All otherl

1983
Q4

Annual percentage rate-------

16.83
18.65
18.51

13.92
16.68
18.78

13.46
16.39
18.75

13.32
16.16
18.73

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

16.15
20.75

12.58
18.74

13.65
18.12

14.11
17.55

14.05
17.52

13.535
16.355
18.715

14.06
17.59

1. Includes primarily personal cash loans, home improvement loans, and sales
finance contracts for non-automotive consumer durable goods.
2. Average of "most common" rates charged, on loans of specified type and
maturity, during the first week in the middle month of each quarter.
3. Data for 1982 are for new-car loans at a 36-month maturity.
4. Average rate for all loans of each type made during the period, regardless of maturity.
5. Data are for May 1984.
n.a.--not available.

III-19

months.

Among the three sponsored agencies, only FNMA has so far been

involved in issues of pass-through securities representing shares in pools
of adjustable-rate mortgages; however, the outstanding balance on these
securities constitutes less than 1 percent of pass-through issues outstanding under FNMA, GNMA, or FHLMC programs.

Regulations permitting a GNMA-

guaranteed pass-through security collateralized by pools of FHA-insured
ARMs are scheduled to become effective July 30.
Consumer Credit
Reflecting brisk retail sales, consumer installment credit expanded
at a rapid 19 percent annual rate in April and, according to available data,
probably exceeded that pace in May.

Revolving credit--primarily on credit

cards--increased sharply in April and apparently again in May, and the
growth of auto credit rebounded from its weak March pace.

Expansion of

installment credit at banks continued to be exceptionally strong.

Around

mid-June, several bank contacts indicated that they had become more willing
to make consumer loans than earlier in the spring; none reported a reduced
willingness to lend.

Commercial bank loan data suggest that the strength

in growth of consumer credit was extended into June.
Even with the rapid growth in installment borrowing this year, the
ratio of debt outstanding to disposable personal income has retraced only
one-third of the decline from its September 1979 peak to the October 1982
low, owing to the postwar record lull in the rate of debt expansion between

1. The Deficit Reduction Act of 1984, awaiting the President's action,
would make FHLMC subject to federal income taxation, under terms comparable
with those already applicable to FNMA. The legislation, among other things,
also would reduce tax incentives for sellers of principal residences priced
at more than $250,000 to take back low-rate mortgages from buyers. Neither
action seems likely to have a significant effect on the mortgage market.

III-20
CONSUMER INTEREST RATES AT COMMERCIAL BANKS

Credit Card

New-Car

1972

1974

1976

1978

1980

1982

1984

III-21

1980 and 1982.

Moreover, delinquency rates on consumer loans, which have

declined steadily from their 1980 cyclical highs, fell further in the first
quarter to a decade low.
Interest rates on consumer loans, which ordinarily lag changes in
market rates, began to rise in the second quarter.

Early last year, rates

on new-car loans at commercial banks stood 4 to 5 percentage points above
comparable-maturity Treasury yields, but that margin had dwindled to less
than one percentage point by May of this year.

More recently, an informal

poll around the end of June indicated that three-fourths of the respondents
had raised automobile and personal loan rates since early May, usually by
about one percentage point.1

Interest rates for new-car loans at automobile

finance companies, after drifting lower during the early spring, edged up
by 15 basis points in May to 14.21 percent.

1. A one percentage point increase in the interest rate on a 48-month automobile loan of $10,000 would boost the monthly payment by about $5, or by
roughly 2 percent.

APPENDIX A*
MONETARY AND CREDIT GROWTH IN THE FIRST HALF OF 1984

Nominal GNP growth in the first half of 1984 was brisk--outstripping the rate projected for the year in the February monetary policy
report to the Congress--and expansion of money and credit aggregates
was, on balance, strong relative to the FOMC's ranges. Through June,
Ml had risen at a 7-1/2 percent annual rate from its fourth-quarter
1983 base level, placing this measure near the upper end of its 1984
range. Expansion in M2 through June was just below the midpoint of
its range, evidently restrained in part by the growing use of IRA/Keogh
accounts. At the same time, growth of M3 exceeded its range; very
rapid growth in credit demand at depositories, combined with moderate
core deposit inflows, resulted in heavy issuance of large CDs. Similarly, total debt of domestic nonfinancial sectors expanded at a 13
percent rate as private credit demands strengthened further and the
Treasury continued to borrow heavily.
Rising interest rates tended to restrain M1 growth over the first
half of the year, contributing to an increase in velocity of about 4-1/2
percent at an annual rate, somewhat faster than the average for comparable periods of past postwar expansions. In contrast to previous cycles,
however, M1 velocity has still not returned to its earlier peak level,
reached in 1981, as recent gains have not offset the unprecedented
declines in 1982 and early 1983. M1 growth in the first two quarters
of 1984 was in line with predictions of econometric models of money
demand.
Expansion in M1 continued to be concentrated in its OCD component,
although the contribution of OCD diminished from the outsized propordata on numbers of accounts suggest that
tions of the past few years:
the shifting by households out of demand deposits into interest-bearing
checking accounts has abated. Within the OCD component, Super NOWs grew
at about a 20 percent annual rate, nearly twice the rate of other OCDs;
the difference likely reflected some continuing movement from regular
NOWs to Super NOWs, as well as an increase in rates paid on Super NOWs
during the period. Demand deposits grew sluggishly over the first half
of the year, with much of the increase occurring in June, while currency
expansion remained fairly rapid in an environment of strong spending
growth.
For the most part, disturbances to the monetary aggregates arising
from institutional changes in the financial system were minimal compared
with those of 1983, especially those that occurred early in that year.
An exception was the ongoing adjustment to the expanded availability of
IRA/Keogh accounts, which attracted M2-type funds and may have reduced

* Prepared by Deborah Danker, Economist, Banking Section, Division of
Research and Statistics.

III-A-1

III-A-2

the growth of M2 by as much as 1 percentage point during the first half
of the year. M2 growth was supported initially by growth in MMDAs and
later by a pickup in small time deposits, while savings deposit balances
continued to run off. Because M2 grew steadily, at 7 percent in each
of the first two quarters, the pattern of velocity growth reflected
uneven GNP expansion. In the first quarter, velocity rose at a 6-1/4
percent rate, but then slowed to a 2-1/2 percent rate in the second.
These unexpectedly large gains extended the rise that began in the
second quarter of 1983. Recent increases in M2 velocity may be in
part attributable to a lessening of precautionary motives for holding
M2-type balances as the economic expansion has proceeded; during the
recession, M2 balances rose sharply relative to GNP. In addition, M2
growth may have been restrained by higher market rates--coupled with
lags in deposit offering rates--and by the comparatively slow growth of
household wealth.
The relatively modest increase in core deposits apparent in the
M2 figures contrasted with the strong growth in credit which exceeded
even the rapid growth of nominal GNP over this period. Depository
institutions participated fully in this strong credit expansion and in
fact increased their share of credit extended to the private nonfinancial sector, while reducing their share of Treasury issues. To finance
their lending, depositories stepped up their issuance of managed liabilities, including large CDs. As a consequence, M3 growth--at a 9-1/2
percent pace through June--was above its target range and the margin
between M2 and M3 growth rates widened. Large time deposits at commercial banks showed a marked turnaround and grew at an almost 20 percent
rate through June, in contrast to the 16-1/2 percent decline experienced
last year (when MMDAs boosted deposit inflows and loan demand was not
as strong). At the same time, large time deposits at thrifts continued
to climb at about the 50 percent annual rate posted during 1983. In
addition to managed liabilities included in M3, depository institutions
raised other funds, principally about $9 billion of FHLBB advances
to thrifts and about $13 billion brought in from foreign offices of
commercial banks over the period. This latter pattern was expected in
light of the huge external financing requirement associated with the
widening U.S. current account deficit, and was one of the reasons that
an increase in M3 velocity--counter to its long-term trend--had been
anticipated.
Bank credit accelerated in the first half of 1984 with strong
growth in all major categories of loans--business, real estate and
consumer. Indeed, business loans accelerated to almost a 20 percent
annual rate as long-term financing in the bond and stock markets
remained relatively light while the corporate sector's financing gap
widened. In large part, though, the rise in business loans reflected
an upswing in merger and acquisition activity: excluding the large oil
company merger financings alone would reduce business loan growth to a
12 percent rate, and there were many other bank-financed deals whose
cumulative magnitude likely was considerable. By late spring there

III-A-3

were some indications that loan activity may have slowed; senior loan
officers at a number of large commercial banks indicated that lending
policies--especially with regard to financing mergers and leveraged
buyouts--had been tightened in the wake of the financial market
tensions that intensified in early May.
Domestic nonfinancial sector debt rose at a 13 percent annual
rate through mid-1984, as increasing private sector credit demands
combined with continued strong growth in the federal government
component of the debt aggregate. The step-up in merger activity boosted
private borrowing; mergers and buyouts are estimated to have accounted
for a little more than 1 percentage point of the growth in the debt
aggregate during the first half of 1984. The counterpart to the merger
loans was a massive net liquidation of outstanding corporate equity
shares.

III-A-4

Growth Rates of Money and Credit Aggregates*
(percent changes at seasonally adjusted annual rates)
1983
(Q4 to Q4)

1984
Q1

1984
Q2

M1
Demand Deposits
OCD
Currency

10.0
2.4
27.7
10.4

7.2
1.2
16.2
8.7

6
3-1/2
9-1/2
7

M2
Nontransactions

12.1
12.8

7.0
6.9

M3
Non-M2
Large time deposits

9.7
0.3
-3.5

9.0
17.8
24.8

10
23-1/2
30-1/2

9-1/2
20-1/2
30-1/2

Bank Credit

10.3

14.0

10-1/2

11-1/2

Debt
Federal
Other

10.8
21.6
8.0

12.5
14.7
11.9

13
14
13

13
14-3/4
12-1/2

Nominal GNP

10.5

13.9

7
7

9.8

June 1984
(from Q4 1983)
7-1/2
3-1/2
14
8-1/4
7
7

n.a.

n.a.--not applicable
* Based on nearly complete data for June. Quarterly growth rates are
rounded to the nearest one-half percentage point, and Q4 to June rates
are rounded to the nearest one-quarter percentage point.

INTERNATIONAL DEVELOPMENTS

Foreign Exchange Markets
From the time of the last FOMC meeting through early June, the

weighted-average dollar depreciated 2 percent.

It then rose 5-1/2 per-

cent for a net appreciation of over 3-1/2 percent for the reporting
period.

The dollar's initial weakening was probably due to two factors.

First, some weaker-than-expected U.S. economic statistics led market
participants to revise downward their expectations of U.S. growth.
Second, concern over Continental Illinois and the apparent worsening of
the international debt situation led to increased beliefs that the
Federal Reserve would not tighten monetary policy.

The strengthening of

the dollar in June and early July, which brought it above its mid-January
peak, was in association with a widening of the differentials between
U.S. and foreign interest rates following the announcement of some
stronger-than-expected economic statistics.
On a bilateral basis the mark came under particular pressure,
depreciating 3-3/4 percent on balance over the period against the dollar

. The weakness of the
mark was related to the metalworkers strike in West Germany.

On June 27

a compromise settlement ended the strike, but the terms were not
interpreted positively by the market.

The mark has depreciated on

average against the other major currencies since the settlement was
announced.

IV-1

IV-2

WEIGHTED AVERAGE EXCHANGE VALUE OF THE U.S. DOLLAR
Daily series

March 1973=100
142

FOMC

140

-138

-136

-134

I11111111111
APRIL

MAY

1984

JULY

132

130

128

1 126

IV-3
The pound has depreciated 5 percent against the dollar since the
last FOMC meeting, reaching a record low on both a bilateral and
weighted-average basis.

The major factors responsible were the

continuation of the coal miners' strike and a softening of spot oil
prices.

On both July 6 and July 11 major U.K. banks raised their base

lending rates and the Bank of England increased its short-term money
market dealing rates.

The second increase exerted at least temporary

upward pressure on the pound.
The Canadian dollar, which traded in a very narrow range against
the U.S. dollar through 1983 began to depreciate markedly in March and
has depreciated 3 percent since the last FOMC meeting.
. The weakness of the Canadian
currency is probably related to the slowing of the growth of the Canadian
economy and the resulting perception that Canadian policy markers will be
reluctant to continue to allow Canadian interest rates to rise with U.S.
rates.

Since the last FOMC, however, Canadian short-term rates have

risen more than U.S. rates.
On May 24 rumors that some large U.S. banks were having difficulty
obtaining funds in the interbank market led to disorderly conditions in
which the dollar dropped rapidly.

The Desk sold $135 million equivalent

of marks, half from the Federal Reserve's account and half from the
Treasury's account.

IV-4

U.S. banks' foreign lending in first quarter.

In the first quarter

of 1984, U.S.-chartered banks increased their claims on non-OPEC
developing countries by $1.3 billion, while decreasing their claims on
all other groups by a total of $4.6 billion.
The increase in claims on non-OPEC developing countries principally
reflected increases of $2 billion in claims on Brazil and of $0.5 billion
in claims on the Philippines.

The $2 billion increase in claims on

Brazil resulted in part from Brazilian drawings of $3 billion, in March,
on the $6.5 billion bank loan signed just before the drawings; the U.S.
banks' share in these drawing was about $1.2 billion.

In addition to

these transactions, claims on local borrowers by U.S. bank branches
domiciled in Brazil rose $0.3 billion equivalent (all in cruzeiros).

is possible that trade credits to Brazil also rose, but aggregate
informtion is not available in this detail.
The $0.5 billion rise in claims on the Philippines partly resulted
from an increase of $0.3 billion in claims held by U.S. bank branches in
Manila.

Most of this new lending was in Philippine pesos.

The remaining

$0.2 billion increase may have resulted from some restoration of
short-term trade credits, which U.S. banks had cut back in 1983.
The changes in claims on the other more important developing
countries were mostly decreases, the largest being a drop of $0.5 billion
in claims on Mexico.

A part of this decline appears to have stemmed from

repayments by Mexico in March of private-sector debts to suppliers that
originally came due between August 1982 and early 1984; about $0.2

IV-5

TABLE 1.

CLAIMS ON FOREIGNERS OF U.S.-CHARTERED BANKS
(Billions of dollars)

Total, all countries

Change (no sign = increase)
1983
1984 Outstanding
Year
3/31/84
Q2
Q1
45
-9.
-3.3
23.5 -4.6
2.4 -3.7
-9.1
5.8
430.8
-3.3

Non-OPEC developing
countries

10.8

Claims on:

1982
Year

3.5

0.6

0.8

1.5

1.1

-0.2

-1.1

1.7

OPEC countries

2.6

1.5

Eastern Europe

-1.6

-0.9

Smaller developed
countries

5.3

2.2

G-10 countries and
Switzerland

4.2 -12.5

Offshore banking
centers

3.1

2.4

-0.9

Miscellaneous

TABLE 2.

-0.5

-0.4

0.3

0.4

-0.2

2.5

-5.3

-8.6

-0.6

1.5
-0.7

-1.1

1.3
-0.4

111.9
28.5

. -0.4

4.9

1.7

-0.4

35.5

-1.1

-2.2

165.0

-0.1

1.7

-0.3

68.9

0.7

0.2

-0.8

16.2

CLAIMS OF U.S.-CHARTERED BANKS ON NON-OPEC DEVELOPING COUNRIES
(Billions of dollars)

Claims on:
Latin America
Argentina
Brazil
Chile
Colombia
Mexico
Peru
Others
Asia and Africa
Korea
Philippines
Taiwan
Others
Total

1982
Year

Change (no sign = increase)
1983
Q2
Q1
Year
Q4
Q3

7.7
-0.5
3.8
0.5
0.5
2.9

2.3
0.6
..
0.1
0.1
1.5

0.4
0.1
0.2
-0.3
-0.2
0.6

0.2
0.4
-0.5
-0.2
0.3
9.1

0.6

-0.2

0.2

-0.1

0.2

0.1

3.1
1.5

0.2
0.4

0.2
..

0.4
-0.1

0.3

-0.1

1.2
0.1
0.3
0.4

0.4

1984

-0.2

76.1
9.5
24.9
-6.4
3.1
25.5
2.3
4.4
35.8
11.1
6.7
5.0
13.0

1.5
. e

2.0
0.2

-0.1

0.6
-0.2
-0.1

0.2

-0.5
-0.1

-0.4

1.1
0.5

• •

0.3

-0.2 -0.2

0.2
1.1

..
0.9

-0.2
..

0.1

0.7

0.1
-0.3

0.5

-0.2
-0.2
0.5
-0.3
-0.2

10.8

3.5

0.6

0.8

1.5

1.3

Outstanding
3/31/84

111.9

IV-6

billion was paid off in late 1983 and at least another $0.2 billion in
the first quarter of 1984.

Some of these debts were probably in bank

portfolios.
Claims on the G-10 countries declined $2.2 billion.

This was the

fourth consecutive quarterly reduction in these claims, which at the end
of March were more than $17 billion less than a year earlier.

Most of

this drop has been in interbank placements.
Claims on OPEC countries and the smaller developed countries each
declined $0.4 billion in the first quarter; in the latest twelve months
claims on the former were unchanged while claims on the latter rose $1.5
billion.

Claims on Eastern Europe fell $0.4 billion in the first quarter

and $0.8 billion in the latest twelve months.

IV-7

U.S. International Financial Transactions
Since the last Greenbook, information has become available on
direct investment flows during the first quarter (see lines 6 and 7 of
the Summary table on the next page).

Foreign direct investment in the

United States tapered off somewhat during the first quarter to $1.9
billion. U.S. direct investment abroad was a net outflow of $3.2 billion
during the quarter, following a downward-revised outflow of $4.9 billion
during the whole of 1983.

The first-quarter net outflow of $3.2 billion

was inclusive of a $1.1 billion inflow of funds to U.S. corporations
from their Netherlands Antilles finance affiliates.

Further inflows

from these affiliates are likely in the second quarter, given that U.S.
corporations sold a total of $4.3 billion in the Eurobond market during
the first quarter (some late in the quarter) and $3.3 billion in the
second quarter.
Following the repeal of the withholding tax on interest payments
to foreign holders of bonds issued in the United States, funds
directly or indirectly from nonbanks abroad by U.S.

raised

corporations are

likely to appear in the balance of payments accounts more predominantly
as foreign net purchases of U.S.

corporate securities, rather than as

direct investment inflows through Netherlands Antilles finance
affiliates.

More generally, the repeal of the withholding tax, other

things equal, should reduce the share of the U.S. net capital inflow
that is intermediated by U.S. banking offices, and should increase the
share that results from foreign nonbank purchases of U.S. corporate and
Treasury securities.
The quantitative significance of these effects is difficult to
predict.

Those who believe the effects will be small argue that most

SUMMARY OF U.S. INTERNATIONAL TRANSACTIONS
(Billions of dollars)

1982
Year
Private Capital
Banks
1. Change in net foreign
positions of banking offices
in the U.S. (+ = inflow)
a) with own foreign offices
b) all other

11.7
-0.8
12.5

4.7
1.0
3.7

-0.2
2.7
-2.9

4.5
-2.1
6.7

-0.5

May

0.3

0.2

1.9

0.8

-0.1

2.8

2.2

0.5

0.7

0.4

0.1

-0.1

0.3

3.6

6.4

1.3

0.4

1.2

0.7

0.4

-0.2

-8.0

-7.6

-1.5

-0.9

0.2

-0.4

-0.6

6.5

8.3

0.8

1.7

1.4

-3.2

2.5

2.6

2.9

5.1

-2.8

6.4

-2.9

-1.9

0.4

-12.7
6.9
8.8

6.4
-8.5
7.3

0.9
-2.0
-1.7

1.7
-1.5
6.1

2.4
-2.7
-2.6

-0.7
-1.0
-0.2

1.2
-0.9
0.1

-1.1
-2.3
-0.7

5.7
-2.7

7.0
-1.8

-0.6
-2.2

2.6
3.8

-0.2
-2.7

-1.9
*

0.1
0.3

-3.1
-1.0

Changes in U.S. official reserve
assets (+ - decrease)

-5.0

-1.2

0.5

-0.1

-0.3

transactions (Quarterly data)
U.S. direct investment (-) abroad
Foreign direct investment (+) in U.S.
Other capital flows (+ - inflow) 3/ 4/
U.S. current account balance 4/
Statistical discrepancy 4/

4.8
14.9
-6.7
-9.2
32.9

-4.9

Foreign net purchases (+) of U.S.
Treasury obligations 1/

By area
G-10 countries (incl. Switz.)
OPEC
All other countries
By type
U.S. Treasury securities
Other 2/

MEMO:
U.S. merchandise trade balance -- part
of line 9 (Balance of payments basis,
seasonally adjusted)

4.
*

1984
Apr.

1.0

1.
2.
3.

Mar.

-1.6

Other
6.
7.
8.
9.
10.

1983
Q4

12.3
10.2
1.6

Official Capital
4. Changes in foreign official
reserve assets in U.S.
(+ = increase)

16.7
8.9
7.8

Securities
2. Private securities
transactions, net
a) foreign net purchases
(+) of U.S. corporate bonds
b) foreign net purchases
(+) of U.S. corporate stocks
c) U.S. net purchases (-) of
foreign securities
3.

1983
Year

-39.5
-8.9
-30.6

-36.5

11.3
-4.0
-41.6

9.3

-61.1

-3.9
3.3
-0.2
-11.8
1.5

-17.5

12.2
9.1
3.2

-1.0

-0.7

-1.6
2.3
-1.3
-17.2
-1.7

-3.2
1.9
-4.2
-19.4
13.5

-19.4

-25.6

-9.3

-10.7

-7.6

Includes U.S. Treasury notes publicly issued to private foreign residents.
Includes deposits in banks, commercial paper, acceptances, & borrowing under repurchase agreements.
Includes U.S. government assets other than official reserves, transactions by nonbanking concerns, and other banking and
official transactions not shown elsewhere.
Includes seasonal adjustment for quarterly data.
Less than $50 million.
NOTE:

Details may not add to total because of rounding.

IV-9

foreign investors have been able all along to purchase U.S. securities
that were exempt from the withholding tax -- e.g., Treasury bills or
commercial paper with maturities of six months or less, as well as any
securities purchased through addresses in the United Kingdom, Germany,
the Netherlands, Luxembourg and the Scandinavian countries (which were
exempt under various tax treaties).

Those who believe the effects will

be substantial argue that the repeal of the withholding tax will
significantly increase the attractiveness of longer-term U.S. Treasury
debt to some groups of foreigners (e.g., Japanese pension funds) and is
likely to catalyze the marketing of U.S. Treasury securities in foreign
countries; in addition, it is contended that some U.S. corporations have
refrained from raising funds through Netherlands Antilles affiliates
because of legal uncertainties about the withholding tax exemption, and
that these corporations can now raise funds directly from foreigners with
no legal uncertainties.

It should be noted, as well, that future sales

of U.S. securities to foreigners could be magnified if the Department of
the Treasury decides to offer bearer issues in the Euromarket, as it is
currently considering.

Moreover, the attractiveness of U.S. bearer

securities to "foreigners" depends on whether the Treasury chooses to
amend a requirement that a 20 percent "back-up withholding tax" be
applied on interest payments to investors who have foreign addresses but
do not disclose their identities to U.S. tax authorities.
The balance of payments data for April and May show continuing net
inflows reported by U.S. banking offices (line 1 of the Summary table)
and relatively small amounts of private foreign net purchases of U.S.

IV-10

corporate bonds and stocks (lines 2a and 2b).

Private foreign net

purchases of U.S. Treasury obligations (line 3) amounted to nearly
$6-1/2 billion during the first five months of the year, including net
purchases of about $4 billion by the World Bank.

Based on conversations

with staff at the World Bank, it is our understanding that the World
Bank's holdings of Treasury securities were relatively low at the
beginning of 1984 and are unlikely to expand much further this year.
Data on foreign official capital flows for April and May (line 4 of
the Summary table) show a continuing decline of more than $3 billion in
OPEC reserve holdings in the United States; preliminary data indicate
that OPEC holdings at the Federal Reserve Bank of New York rose by $1.2
billion in June.

Official reserve holdings of the G-10 countries showed

counterbalancing changes in April and May,

Preliminary June data indicate a drop of $1.6 billion in G-10

holdings at the New York Reserve Bank,

A continuing net inflow of funds through U.S. banking offices in
April and May is also evident from the International Banking Data table.
Data for the first 25 days of June, however, show a sizable net outflow
from U.S. banking offices to their own foreign offices and IBFs.

some extent this increased funding of foreign offices may be related to
concerns about the quality of bank credit, prompted in part by the
problems at Continental Illinois; but more than one-third of the net

INTERNATIONAL BANKING DATA
(Billions of dollars)

1981
Dec.

1982
Dec.

Mar.

1983
June
Sept.

Dec.

8.2

33.7

49.2

43.7

42.3

38.8

34.0

Net Claims of U.S. Banking
Offices on Own IBFs 1/

11.8

16.2

14.6

12.8

10.5

5.2

4.1

Sum of lines 1 and 2
of which:
(a) U.S.-chartered banks
(b) Foreign-chartered banks

20.0
23.6
-3.6

49.9
40.3
9.6

63.8
53.7
10.0

56.5
50.0
6.5

52.8
47.1
5.7

44.0
40.4
3.6

38.1
35.8
2.4

Credit Extended to U.S.
Nonbank Residents by Foreign
Branches of U.S. Banks

13.2

15.7

16.4

16.8

18.6

Eurodollar Holdings of
U.S. Nonbank Residents 2/

95.5

112.6

116.4

120.4

121.3

126.4

Net Claims of U.S. Banking
Offices (excluding IBFs) on Own
Foreign Offices

Mar.

Apr.

30.8

1984
May

June 3/

27.6

31.6

2.1

4.4

35.0
34.0
1.0

29.7
30.5
-0.8

36.0
34.1
1.9

18.6

19.5

20.3

20.2

128.0

128.6

130.0

125.6

4.2

Corresponds to net claims of international banking facilities (IBFs) on all foreign residents, including
all banks whether related or not, and all nonbanks.
2. Includes term and overnight Eurodollars held by money market mutual funds.
3. Through June 25.
These data differ in coverage and timing from the overall banking data incorporated in the international
Note:
transactions accounts. Line 1 is an estimate constructed as the residual of line 3 minus line 2. Line 2 is
data for the last Wednesday of the month for the sample of monthly IBF reporters. Line 3 is an average of daily
data reported to the Federal Reserve by U.S. banking offices. Line 4 is an average of daily data. Line 5 is the
month-end value for data through September 1983. For dates after September 1983, the overnight portion is an
average of daily data and the term portion is an average of Wednesday data.
1.

IV-12

outflow in June was accounted for by foreign chartered banks, and much of
the remainder was accounted for by small and medium-sized U.S. chartered
banks.

The outflow from the large U.S.-chartered banks to their own

foreign branches coincided with a sharp runoff in Eurodollar deposits at
the branches held by U.S. nonbanks (including bank holding companies); see
line 5 of the table.

IV-13

U.S. Merchandise Trade
The U.S. merchandise trade deficit in May was substantially smaller
than the record April rate, and was smaller than the first-quarter
For

average, as imports declined sharply from unusually high levels.

April-May combined, however, the trade deficit was about $7 billion
larger at an annual rate than for the first quarter.
Despite the sharp drop in May, imports in April-May on average were
slightly higher than the strong first-quarter rate, reflecting the
strength of U.S. economic activity and the price competitiveness of
foreign-made goods.

The increase in imports for April-May was about

evenly divided between oil and nonoil items.

Manufactured goods, which

accounted for much of the first-quarter increase, rose further in
April-May.

Among the items of continued strength for the two-month

period were capital goods and automotive products from Europe and Canada;
/
U.S. MERCHANDISE TRADE1

1983
Year
Value (Bil. $, SAAR)
Exports
Agricultural
Nonagricultural
Imports
Oil
Non-oil
Trade Balance
Volume (Bil 72$, SAAR)
Exports
Agricultural
Nonagricultural
Imports
Oil
Non-oil
1.

1983

1984

A/M

Apr.

May

200.3
36.6
163.6

201.7
37.2
164.5

207.3
39.2
168.1

216.7
41.1
175.5

218.2
38.6
179.6

215.7
38.1
177.5

220.8
39.1
181.6

261.3
53.8
207.5

271.8
63.7
208.1

284.9
57.1
227.8

319.2
55.4
263.8

327.8
59.2
268.6

343.7
64.3
279.4

311.9
54.2
257.8

-61.1

-70.0

-77.6

-102.6

-109.6

-128.0

-91.2

16.3
57.3

16.3
57.6

16.2
58.8

17.0
60.9

15.8
62.1

15.7
61.4

15.9
62.9

4.9
81.9

5.8
82.1

5.2
89.1

5.1
102.5

5.4
102.8

5.9
107.2

5.0
98.5

International transactions and GNP basis.

IV-14

imports of passenger cars from Japan picked up in May from the relatively
low first-quarter rate as the new quota-year began on April 1.
imports, on the other hand,

Steel

declined in both April and May to average

slightly less than the first-quarter rate.

By area, since the fourth

quarter of last year, nonoil imports have increased faster from
industrial countries than from developing countries.

Even excluding

automotive imports from Canada, nonoil imports rose 20 percent from
industrial countries and about 12 percent from developing countries.
Oil accounted for a little less than half of the April-May increase
in imports from the first-quarter rate.

The volume imported in April-May

averaged 5.7 million barrels per day (mbd) compared with 5.4 mbd in the
first quarter (seasonally adjusted).
response to rising U.S. demand.

Most of the increase was in

There were only minimal reactions to the

hostilities in the Persian Gulf; U.S. inventories increased somewhat but
spot prices actually declined from May until early July.

The average

import price in both April and May was about 25 cents per barrel higher
than in the fourth quarter.

OIL IMPORTS

Volume (mbd, SA)
Price ($/BBL)
Value (Bil. $, SAAR)

1983
Year

1983

5.20
28.42
53.80

6.17
28.29
63.69

1984
Q4

5.53
28.30
57.14

Q1
5.40
28.05
55.41

A/M

Apr.

May

5.72
28.30
59.23

6.20
28.32
64.30

5.23
28.28
54.16

IV-15

Exports in April-May combined were slightly above the first-quarter
rate.

A decline in agricultural shipments (particularly soybeans and

animal feed) was offset by increased exports of nonagricultural items
(especially business machines, but also such items as chemicals,
petroleum products, and coal).

The value of nonagricultural exports in

April-May reached its highest level since the first quarter of 1982.
Most of the rise in nonagricultural exports in recent quarters has
been in machinery and automotive products to industrial countries,
particularly Canada and Western Europe, as economic activity in those
countries began to pick up.

While part of the increase to Canada was

automotive products ultimately destined for sale in the United States, 80
percent of the rise since the first quarter of 1982 was in non-automotive
products.

Nonagricultural exports to developing countries have increased

to a lesser extent; shipments to Mexico have increased gradually and
steadily from the low end-1982 level, but exports to other areas have
been fairly flat.
U.S. Current Account
The U.S. current account deficit was a record $78 billion (annual
rate) in the first quarter, $9 billion larger than in the fourth quarter
(revised) of last year.
Changes in several components of the current account, between the
fourth and first quarters, combined to partially offset the increase in
the trade deficit.

Recorded net investment income receipts rose, but

virtually all of the large increase was accounted for by a swing, in net
direct investment income receipts, from a large net capital loss to a

IV-16

small capital gain (see the table below).

Net direct investment income

receipts, before capital gains or losses, were little changed from the
fourth to the first quarter.

Net portfolio income receipts declined

slightly in the first quarter, largely reflecting an increase in interest
payments to foreigners.

U.S. CURRENT ACCOUNT
(billions of dollars, SAAR)

1983
Year
1. Current Account Balance
2.
3.
4.

Trade balance
Exports
Imports

5.
6.
7.
8.
9.

Investment income, net
Direct, net
Capital losses(-)
or gains(+)
Other D.I., net
Portfolio, net

10.
11.

Military, net
Other services, net

12.

Unilateral transfers

13.

Memo Item:
Statistical Discrepancy

in the BOP account
(not an annual rate)

$ Changes
83Q3
83Q4
to
to

1984

82Q4
to

83Q4

84Q1

-41.6

-47.4

-68.9

-77.6

-43.6

-21.5

-8.8

-61.1
200.3
-261.3

-70.0
201.7
-271.8

-77.6
207.3
-284.9

-102.6
216.7
-319.2

-32.7
13.2
-45.9

-7.6
5.6
-13.2

-24.
9
-34.3

23.5
14.0

28.7
18.7

20.5
11.7

30.5
22.9

-3.2
-4.4

-8.2
-7.0

10.0
11.2

-7.2
21.2
9.5

-5.1
23.8
10.0

-9.2
20.9
8.7

1.3
21.7
7.6

-5.4
1.0
1.2

-4.0
-3.0
-1.2

10.4
0.8
-1.2

0.5
4.1

-0.2
2.7

-1.1
1.7

-1.1
4.2

-0.7
-4.3

-0.9
-1.0

0
2.4

-8.7

-8.6

-12.3

-8.6

-2.7

-3.8

3.7

9.3

1.5

-1.7

13.5

3.3

-3.2

15.3

IV-17

The rise in "other services" in the first quarter was primarily an
increase in net travel receipts (a small rise in foreign travel in the
United States and a small decline in U.S. travel abroad).

Unilateral

transfers returned to more usual levels following a very strong fourth
quarter (when Israel drew its entire fiscal-year appropriation).
The size of the statistical discrepancy in the first quarter
suggests that the United States is once again receiving substantial
capital inflows that are not being reported.

IV-18
Foreign Economic Developments.

While a strong economic recovery

seems to have taken firm hold in Japan, the pace of economic activity in
other major foreign industrial countries has been uneven and, in some
cases, quite sluggish.

There have been modest gains in industrial

production in Italy, and the Canadian economy has continued to move ahead
-- although less rapidly than in 1983.

In the United Kingdom and

Germany, however, recent activity has been slowed partly by labor
disputes.

Activity in France also continues to be weak, and the

unemployment rate remains at record or near-record levels in all three
countries.

In contrast to developments in Europe, real growth in Japan

in the first quarter exceeded 7 percent, (s.a.a.r.), and recent
industrial production data indicate that expansion has continued.
Prices continue to advance at a moderate rate in most of the major
industrial countries.

Inflation rates have decelerated in recent months

in Italy, Canada, and France, and inflation has remained about unchanged
in the United Kingdom and Germany.

The CPI fell sharply in Japan in

June, offsetting some acceleration earlier in the year.
Despite the relative weakness of the European economies, no
significant improving trend in their external accounts has been evident
this year.

In both the United Kingdom and France, trade deficits

narrowed in May, but both countries still have large deficits for the
year so far.

The German current account recorded a $1 billion surplus

(n.s.a.) in May, but the cumulative surplus is still well below that of
the same period last year.
first quarter.

The Italian trade deficit widened in the

In contrast, the Japanese trade and current accounts have

continued to record large surpluses in spite of the domestic economy's

July 11,

1984
REAL GNP AND INDUSTRIAL PRODUCTION IN MAJOR INDUSTRIAL COUNTRIES
(PERCENTAGE CHANGE FROM PREVIOUS PERIOD, SEASONALLY ADJUSTED)

1983

Q4/Q4
1982

Q4/Q4
1983

CANADA
GNP
IP

-5.0
-11.8

7.1
16.7

1.8
3.1

FRANCE
GDP
IP

1.4
-1.8

GERMANY
GNP
IP

1984
Q1

1.9
4.3

1.2
3.1

.7
1.8

.4 -.1
1.0
.8

.7
.0

.4
1.3

-1.6
-5.4

2.9
5.9

1.2
2.2

-.1
.5

1.3
2.2

1.2
1.1

ITALY
GDP
IP

-2.3
-6.1

1.2
-1.0

-1.6
-4.7

1.1
1.8

1.0
1.4

N.A.
N.A.

JAPAN
GNP
IP

3.8
-2.7

12.4
8.5

1.1
1.6

1.5
3.3

9.3
2.5

-6.1
3.3

1.6
.1

3.6
4.9

-.5
.0

.6
2.0

1.7
1.4

6.2
15.0

2.3
4.3

1.9
5.1

1.2
2.5

UNITED KINGDOM
GDP
IP
UNITED STATES
GNP
IP

-1.7
-7.5

FEB.

1984
MAR.

*
1.7

*
-2.8

*
.5

*-8

-. 8

*
1.5

*
-3.0

*
1.0

*
-3.8

*
-.9

N.A.

*
.9

2.7

2.3
2.7

-1.1

APR.

MAY

*.
N.A.

-.9

-.2

1.1

.4 -1.6

* DATA NOT AVAILABLE ON A MONTHLY OR QUARTERLY BASIS.
+ IF QUARTERLY DATA, LATEST QUARTER FROM YEAR AGO.

JAN.

*
N.A.

LATEST 3 MONTHS
FROM YEAR AGO+
5.8
10.8

1.4
2.3

3.7
2.5

1.8

N.A.

1.2
-1.0

5.3
11.2

2.7
2.6
8.0
13.9

July 11, 1984
CONSUMER AND WHOLESALE PRICES IN MAJOR INDUSTRIAL COUNTRIES
(PERCENTAGE CHANGE FROM PREVIOUS PERIOD)

1983

Q4/Q4
1982

Q4/Q4
1983

CANADA
CPI
WPI

9.7
4.5

4.6
3.5

.6
.7

1.4
1.5

1.6
.9

FRANCE
CPI
WPI

9.5
8.5

9.8
14.6

2.7
2.5

2.8
4.0

2.1
3.7

GERMANY
CPI
WPI

4.7
3.1

2.6
.9

.5
-2.0

.6
.8

ITALY
CPI
WPI

16,6
12.4

12.8
9.1

3.6
1.6

JAPAN
CPI
WPI

-.6

1.9
-3.3

UNITED KINGDOM
CPI
WPI

6.2
6.5

5.1
5.5

.5
1.4

2.0
2.0

UNITED STATES
CPI (SA)
WPI (SA)

4.4
3.6

3.2
.9

-.0
-. 4

1.1 1.0
.2
.6

1.3

1984
Q1 Q2

1.2
1.6

N.A.
N.A.

1.9
3.6

1.7
3.3

N.A.
N.A.

1.0
.9

.5
1.2

1.0
1.7

.5
N.A.

2.9
1.6

2.3
2.3

3.5
3.3

2.8
3.2

2.1
N.A.

-.1
.9
-1.9 -1.0

2.1
.2

1.3
-. 6

1.3
.8

1.1
1.3

1.1
.4

MAR.

1984
APR. MAY

.6
N.A.

JUNE

LATEST 3 MONTHS
FROM YEAR AGO

N.A.
N.A.

4.8
4.4

.5
N.A.

N.A.
N.A.

8.1
15.5

.1
-.2

.4
N.A.

3.0
5.0

.6
N.A.

11.2
11.2

2.1
N.A.

.0
-. 4

.4
-. 1

-1.0
N.A.

2.7
-.7

.6
1.9

N.A.
2.3

.3
1.0

1.3
1.2

.4 N.A.
.3
.2

5.2
6.3

1.2
1.1

N.A.
N.A.

.2
-.0

N.A.
N.A.

4.5
2.8

July 11, 1984
TRADE AND CURRENT ACCOUNT BALANCES OF MAJOR INDUSTRIAL COUNTRIES 1/
(BILLIONS OF U.S. DOLLARS; SEASONALLY ADJUSTED)

1982

CANADA
TRADE
CURRENT ACCOUNT
FRANCE
TRADE 2/
CURRENT ACCOUNT 2/
GERMANY
TRADE
CURRENT ACCOUNT (NSA)
ITALY
TRADE
CURRENT ACCOUNT (NSA)
JAPAN
TRADE 2/
CURRENT ACCOUNT
UNITED KINGDOM
TRADE
CURRENT ACCOUNT 2/
UNITED STATES
TRADE
CURRENT ACCOUNT

1984

1983
Q3
Q

1982

1983

14.8
2.1

14.4
1.4

4.1

3.5
.5

4.3
1.1

3.1
-.2

3.5
.0

3.6
-. 1

-14.0
-12.1

-5.9
-4.2

-2.9
-2.4

-3.5
-3.9

-1.7
-.9

-.6
.3

-.2
.3

20.9
3.5

16.4
4.0

5.1
2.2

4.1
.7

3.7
-2.3

-12.8
-5.8

18.8
6.9

4.1
9.6

-36.5
-9.2

FEB.

MAY

1.1

1.3

-1.5
-1.3

-. 6

-. 3

-. 5

3.4
3.4

4.3

1.7
.2

1.3
.7

1.1
-.2

N.A.
1.0

-1.6

1984
MAR.
APR.

-2.6
-.7

-3.0
-2.0

-1.4
.6

-2.1
1.0

-1.3
.9

-2.5
N.A.

-.4

-.8

N.A.

31.5
21.0

4.0
1.6

6.5
3.5

8.1
6.0

8.8
6.1

8.1
5.5

10.0
7.2

3.1
1.9

3.3
2.4

3.9
3.6

3.6
2.5

1.8
3.6

.3
2.4

-. 7
-.1

-. 4
1.2

-.0
.9

-. 1
1.2

.7
1.1

-.3
.1

-1.2
-.8

-.4
-.1

-7.8

-.8
4.4

-61.1
-41.6

-11.2
-6.3

-9.3 -14.9 -17.5 -19.4
-9.6 -11.8 -17.2
-2.9

-25.6
-19.4

1/ THE CURRENT ACCOUNT INCLUDES GOODS, SERVICES AND PRIVATE AND OFFICIAL TRANSFERS.
2/ QUARTERLY DATA ARE SUBJECT TO REVISION AND ARE NOT CONSISTENT WITH ANNUAL DATA.
* COMPARABLE MONTHLY OR QUARTERLY CURRENT ACCOUNT DATA ARE NOT PUBLISHED.

-7.5
*

-9.3
*

-10.7

-7.6

IV-22

strong performance.

The cumulative trade surplus through May has already

reached $17-1/2 billion (s.a.).
In recent weeks, central bank lending rates were raised in several
countries including Germany, Sweden, and the United Kingdom.
In Japan, first-quarter GNP figures confirm earlier indications
of a vigorous recovery.

Real GNP advanced at a 7.2 percent rate

(s.a.a.r.) in the first-quarter -- the largest quarterly increase in six
years and more than double the rate of growth in the fourth quarter.
Growth was divided about equally between domestic and external
components.

Private consumption, which had been lagging recently,

accelerated to a 4.5 percent (s.a.a.r.) rate of growth, and private plant
and equipment investment continued to be strong (12.5 percent growth,
s.a.a.r.).

In the external sector, exports continued to move ahead

briskly, while imports showed a marked deceleration.

Other indicators --

including the industrial production index which increased strongly in
April and May -

suggest that activity is continuing on a strong upward

course.
Wholesale prices in Japan have moved within a narrow range in
recent months.

A 0.3 percent increase in May partly offset declines in

the previous two months and left the WPI at the same level as at the end
of 1983.

Despite a fall in June by almost 1 percent, the CPI increased

at an average annual rate of about 3 percent in the second quarter.

The

current account surplus contracted in May by over $1 billion (s.a.) from
April's record $3-1/2 billion level.

The cumulative current account

surplus for the first five months has already surpassed $13 billion, and
the trade surplus $17-1/2 billion.

IV-23

In late May, the U.S. Treasury and Japanese Ministry of Finance
announced agreement on a set of measures designed to liberalize Japanese
financial markets and internationalize the yen including:
--

relaxation of restrictions on Euro-yen bonds and yen-CDs;
permission for foreign banks to enter the trust banking
business in Japan;

permission for foreign banks to deal in Japanese government
securities; and

commitments to establish a yen-denominated bankers acceptance
market and to liberalize some deposit rates in Japan.

In Germany, GNP decelerated slightly in the first quarter to just
under 5 percent (s.a.a.r.), but the deceleration was more abrupt if
adjustments are made for calendar irregularities.

The seven-week

metalworkers' strike, which had shut down the automobile industry, ended
in the first week of July.

The strike settlement covers the period to

October 1986, and provides for both a 3.3 percent increase in wages from
July 1984 to March 1985 and a one-time bonus payment of about $100.

From

April 1985 to October 1986, the average contractual work-week will be
reduced from 40 to 38-1/2 hours, and hourly wages will increase by 2.2
percent.

The settlement also gives employers greater flexibility in

tailoring working hours to the requirements of individual plants and
production processes.
Although the strike contributed to recent weakness of economic
activity in Germany, the pace of recovery had slowed even before the
strike.

Industrial production fell almost 4 percent (s.a.) in March and

had not recovered by May.

Data on the volume of incoming orders also

IV-24

showed weakness in March and April.

The rate of unemployment, after

briefly dipping under 9 percent early this year, returned to 9.3 percent
(s.a.) in June, a level which is only slightly below that of its most

recent peak.
Consumer prices increased at an annual rate of about 2-1/2 percent

during the three months to June, when the CPI was less than 3 percent
above last year's level.
$1 billion (n.s.a.).

The current account showed a surplus in May of

The surplus of $1.3

billion so far this year

compares with last year's $2.8 billion figure for the corresponding fivemonth period.
On June 28, the Bundesbank raised its discount rate by 50 basis
points in a technical adjustment that did not affect market rates.

The

German cabinet has proposed a tax-cut package of approximately DM 20
billion (0.8 percent of 1983 GNP) to take effect in 1986 and beyond.

an apparent shift from earlier plans, it was announced that the tax cut
is no longer intended to be partly offset by increases in indirect
taxes.
In Canada, the slowing of the rate of economic expansion that was
evident at the end of 1983 continued through the first quarter.

Real GNP

grew at rates of 4.8 and 3.2 percent (s.a.a.r.) in the fourth quarter of
1983 and the first quarter of this year, respectively -- down
considerably from average growth of almost 8 percent in the first three
quarters of 1983.

A major source of strength in Canada continues to be

the stimulus to its export sector provided by recovery in the United
States, particularly in the automotive sector.

In June, the unemployment

rate declined by 0.5 percentage points to 11.2 percent (s.a.) after

IV-25

rising steadily since December.
Consumer price inflation has continued to slow.

In April and May,

prices rose at an annual rate of about 3 percent compared with a 4
percent rate in the previous two quarters and 6 percent in the two
quarters previous to that.

During the first

five months of this year,

Canada registered an accumulated trade surplus of $6.2 billion (s.a.),
virtually the same figure as that recorded during the comparable period
in 1983.

The volume of exports increased by almost 9 percent in the

first quarter, two-thirds of which was in the automotive sector.
Nevertheless, a large service account deficit produced a first-quarter
current account deficit of about $100 million (s.a.).
In June, John Turner, a Toronto lawyer and former Finance Minister
in the early years of the Trudeau regime, became the new leader of the
Liberal Party and Prime Minister.

New Federal elections are

constitutionally mandated to be held by February 1985, but they may be
called as early as August.

At the end of June, the Canadian Parliament

approved a bill doubling the statutory ceiling on the foreign bank share
of domestic banking assets from 8 to 16 percent.
Economic activity in France has remained weak in recent months.
Industrial production declined by 3 percent (s.a.) in April, more than
reversing the rise of the previous month and lowering the year-over-year
increase in industrial production to 0.8 percent.

Real GDP in the first

quarter advanced by only 1.5 percent (s.a.a.r.).

Unemployment in May was

unchanged at 9.8 percent (s.a.) following six consecutive monthly
increases that raised the unemployment rate by a full percentage point.
The inflation rate has continued to ease slightly.

Consumer prices in

IV-26

May increased by 0.5 percent, lowering the year-over-year inflation rate

to 7.7 percent.
The French trade deficit vanished in May after monthly deficits in
the first four months of the year that averaged more than $500 million

(s.a.).

The current account recorded a deficit of $1.3 billion (s.a.) in

the first quarter, compared with a $300 million surplus in the previous
quarter.
In the United Kingdom real GDP expanded by 3.5 percent (s.a.a.r.)
during the first quarter, reflecting the continuation of the recovery
that began in the second half of 1981.

However, industrial production

declined in April for the third consecutive month.

The April fall was at

least in part the result of the coal miners' strike which has been going
on since mid-March.

The negotiations between the miners' union and the

National Coal Board, which broke down shortly after they began in midJune, are about to resume, but resolution of the strike does not appear
imminent.

During the strike so far, the production of coal has been

substantially reduced, but the effects on other industries remain
limited.

In May, retail prices rose to a level 5.1 percent above that of

a year earlier, a rate of inflation that has been about unchanged since
the start of the year.
The U.K. trade and current accounts were in deficit in April and
May, following near balance (s.a.) in the trade account and a $1.2
billion surplus in the current account during the first quarter.

The

combined $1.6 billion trade deficit and the $0.9 billion current account
deficit in April and May are thought to result in part from the effects
of the coal strike.

IV-27

On July 6, the major London clearing banks announced increases in
base lending rates from 9.25 to 10 percent.

At the same time, the Bank

of England raised some of its short-term money-market intervention rates.
These increases failed to bring an end to downward pressure on the
pound, and on July 11 Bank of England intervention rates and clearing
bank base rates were raised again to 12 percent.
In the first four months of this year, industrial production in
Italy was about 2 percent (n.s.a.) above the level for the same period in
1983.

Other indicators, such as data on orders and consumer surveys,

point to a continuation of economic expansion.
continues to moderate.

Consumer price inflation

In June, consumer prices were 11 percent above

their year-earlier level, representing a deceleration of over 4
percentage points from the corresponding period ending in June 1983.
On June 8, the Craxi government won Parliamentary approval of its
modified incomes policy.

The new law set limits on the scala mobile

adjustments, but only for the first 7 months of this year.

The law also

holds increases in certain administered prices to 10 percent.

Treasury

Minister Goria is expected to announce soon new fiscal measures designed
to bring current spending of the general government sector (including
social security expenditures) exclusive of interest payments into line
with current revenues.

In 1983, the current budget deficit was 6.2

percent of GDP, compared with an overall budget deficit of 12.2 percent
of GDP.
The Swedish Central Bank announced a 1 percentage point increase in
its discount rate (to 9.5 percent) on June 28.

The penalty rate, which

is levied on borrowings that exceed a certain level and has more

IV-28

importance for daily market rates, was increased by 2 percent to 13.5
percent.

The Swedish government announced on the same day that it was

lifting the general price freeze that it had imposed in April, although
the freeze on rents and dividend payments will be retained.

The

government's inflation goal for 1985 remained unchanged at 3 percent, and
Swedish unions and employers' organizations recently agreed to keep 1985
wage increases within the government's goal of 5 percent -- a figure that
is based on the 3 percent inflation goal.

IV -

Debt Situation in Selected Developing Countries
Argentina continues to negotiate with the IMF and has eliminated
interest arrears through early April.

Mexico, Brazil, Chile and Peru

so far are operating successfully under IMF programs, but compliance
for the latter three may become more difficult later this year.

Colom-

bia continues to lose reserves, and its largest bank is seeking reschedulings.

Mexico's bank creditors are willing to negotiate a multi-year

rescheduling.

Venezuela's bank creditors may agree to a rescheduling

without a formal IMF program if private sector interest arrears are
reduced.

The Philippines has taken some--though insufficient-steps

toward an IMF program.
Argentina has sent a letter to the Managing Director of the IMF,
outlining its planned adjustment program.

The letter does not contain

the usual paragraphs specifying quantitative performance criteria and
fails to reconcile apparently conflicting objectives.

The major areas

of disagreement are the budget, interest rate policy, exchange rate
policy, and wage policy.

On June 20, Argentina made a $100 million

payment to its foreign bank creditors to eliminate interest arrears
substantially through January 24.

On June 29, Argentina and the banks

announced an arrangement whereby Argentina eliminated interest arrears
through early April by using an additional $225 million of its reserves
and drawing on a new $125 million short-term credit from the 11 banks
that constitute the working committee for Argentina.

The new credit is

for 45 days, with the understanding that a 45-day extension would be
granted if Argentina and the IMF reach agreement on an adjustment program by mid-August; it is secured by Argentine deposits at the Federal

IV - 30

Reserve Bank of New York.

The $100 million short-term credit that the

same banks provided on March 30, when interest arrears were eliminated
through the fourth quarter of 1983, was rolled over for 90 days.

The

repayment of $300 million borrowed from Brazil, Colombia, Mexico, and
Venezuela as part of the March 30 arrangement fell due on June 28 and
was postponed for 30 days.

The U.S. Treasury's conditional commitment

to lend Argentina $300 million as a bridge to the IMF credit, to be
used to repay the four countries, has lapsed, but the Treasury said
that it would consider an Argentine request for such a loan once
Argentina and the IMF agree on a letter of intent acceptable to the
Managing Director.
Brazil registered a trade surplus of over $5.9 billion during the
first six months of the year, compared with $2.9 billion over the first
six months of 1983, due largely to strong growth in exports.

It is

likely that Brazil will exceed its $9 billion trade surplus target for
the year.

Inflation was slightly over 229 percent for the twelve month

period ending in June compared with 211 percent over the twelve months
of 1983. Strong export growth has led to a pickup of economic activity
and real GDP is expected to grow 2 percent this year.

Although com-

plete information is not yet available on Brazil's compliance with
second quarter IMF performance criteria, it appears that Brazil may
have trouble achieving the nominal public sector borrowing requirement,
given greater than expected inflation and the recent large net placements of government securities.
Colombia's international reserves continue to decline.

At the

end of April, reserves excluding gold were about $1 billion, much of

IV - 31

them not liquid, down $900 million since the end of 1983.

Gold holdings

have also declined, reflecting sales in international markets.

Colom-

bia faces a prospective $2-1/2 billion current account deficit this
year, maturing medium- and long-term debts of about $700 million, and
short-term obligations of nearly $3-1/2 billion.

The financial diffi-

culties experienced by some important Colombian banks are continuing to

constrain their access to foreign financing.

Nearly 15 percent of the

total assets of the domestic financial system are estimated to be nonperforming.

Colombia's largest commercial bank is seeking rescheduling

of about $500 million in short-term external debts and another $160
million used to finance a public sector entity that is now unable to
pay.

The government recently announced a plan to promote restructuring

of private sector external debts over 6 years with 3 years' grace.
Creditor participation is voluntary.

Because of the recession, the

government is reluctant to tighten fiscal and monetary policy in order
to reduce the external deficit and is instead relying on direct import
restrictions.

On June 29, banks made the first disbursement under Mexico's $3.8
billion new money loan.

On July 9, Mexico and its Bank Advisory Com-

mittee began negotiations on a multi-year rescheduling of public sector
debt.

The decline in economic activity appeared to have run its course

in the first quarter, when industrial production was only 0.8 percent
lower than in the same period last year.

The annualized rate of

increase in the CPI in the first six months of 1984 was about 70 percent, down from 99 percent in the same period of 1983.

A 20 percent

increase in the minimum wage was announced on June 6. Together with

IV - 32

the 30 percent increase which took effect on January 1, this brings the
minimum wage to 56 percent above the December level.

The trade surplus

for January-April was about $5 billion, $400 million more than in the
same period of 1983.

The first-quarter current account surplus was

about $2 billion, about $800 million higher than in the first quarter
of 1983.

The spread between the "free" market exchange rate and the

rate in U.S. markets narrowed to about 5 percent at mid-June, and was
fluctuating around 7 percent in early July.
Chile received $390 million of its $780 million credit from banks
on June 29.

Two other tranches of $195 million each will be contingent

on compliance with Chile's IMF program.

The authorities hope that this

credit will close the foreign exchange gap, but their projections have
been based on an average 1984 copper price of 71 cents per pound, and
world prices recently have been below 65 cents.

(One cent on the cop-

per price is worth about $27 million to Chile at an annual rate.)
Inflation, at about 20 percent so far this year, is on target, but
unemployment has been edged up over the past few months.

The govern-

ment hopes to activate a clause in the IMF program allowing for somewhat larger fiscal deficit to stimulate private sector activity.
Peru reached agreement with its Paris Club creditors on June 5 on
a rescheduling of debt falling due from May 1984 through July 1985.
The fiscal deficit for the year now appears likely to exceed the 4.1
percent stipulated by the IMF program.
At the end of June, Venezuela and its creditor banks renewed discussions on rescheduling $14-1/2 billion of public sector debt.

Under

a series of moratorium agreements with banks, public sector principal

IV - 33

payments have been rolled over since March 1983.
expires July 31.

The current moratorium

Banks are likely to agree to a rescheduling in the

absence of a formal IMF program based on an IMF "endorsement" of the
Venezuelan adjustment program.

The IMF completed Article IV consulta-

tions with Venezuela on June 18 and has stated that the adjustment program is on the right track; the main disagreements concern the estimated
size of the 1984 budget deficit, the timetable for establishing a
unified exchange rate, and some questions regarding the flexibility of
administration of price controls and private sector employment guidelines.

The Fund and Venezuela agree that the current account is likely

to be in surplus in 1983.

Banks are not likely to reschedule public

sector debt until private sector interest arrears, currently estimated
at more than $1 billion, are cleared up.

Venezuela does not plan to

ask for any new money from banks in 1984.
The Philippines has taken various measures to prepare the way for
a new IMF stabilization program.

In early June the peso was devalued

from 14 to 18 to the dollar, but very little trading has taken place at
the new rate.
dollar.

The black market rate has been about 23 pesos to the

Other actions taken included an increase in the import sur-

charge, cuts in government budget expenditures, restrictions on borrowings by government corporations, and a 30 percent tax on export
proceeds.

The measures taken fall short of those considered necessary

as a basis of an IMF program, but were deemed sufficient to justify the
resumption of serious negotiations.
in early July.

A Fund mission was sent to Manila

Interest rates in the interbank market have fluctuated

between 37 and 65 percent.
higher than a year earlier.

In May, consumer prices were 42 percent

Full text of Federal Open Market Committee Meeting Minutes, Transcripts, and Other Documents : Meeting, July 16-17, 1984 : Greenbook Part 2

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