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June 29-30, 2004 Appendix 1: Materials used by Ms. Johnson and Mr. Gagnon 156 of 203 June 29-30, 2004 STRICTLY CONFIDENTIAL (FR) CLASS II FOMC Materialfor the FOMCpresentationon U.S. External Adjustment Karen Johnson and Joseph Gagnon Exhibits by James Chavez June 29, 2004 157 of 203 June 29-30, 2004 158 of 203 Exhibit 1 06-28-04 External Adjustment: Alternative Perspectives External Balances Index, 200201 = 100 120 -- $ billions 100 0 -100 100 -200 Current Account -300 90 80 -400 , Broad Real Dollar V ,, I I I 1982 I I 1984 I I 1986 I I 1988 I I 1992 I I 1990 I I 1994 Dollar Exchange Rates - S '7 I I I 2000 I I 1998 2004 2002 -600 Net International Investment Position 2002Q1 = 100 ,. Broad Real Index I I I 1996 -500 - , ,, ;. - 0 105 95 5't 85 75 S,/- $ billions Percent -5 Level -500 Percent of GDP -1000 65 / OITP -2000 -2500 -30 -3000 - 45 Nominal Currencies Index I I I l ll l 1992 1994 1996 1998 2000 ,' I -20 55 -- 1990 -1500 -25 - -15 - 35 I 2002 I I 25 2004 Financial Flows I -35I I -3500 U.S. Saving and Investment $ billions $ billions, s.a.a.r. 2003 1. Current account 200401 -531 -580 2. Foreign official 249 364 -157 124 -218 s ,, -61 -134 , Net Foreign Lending 515 -72 s 800soo , 501 3. Pvt. foreign purchases of U.S. securities 4. Pvt. U.S. purchases of foreign securities (-) 5. Net direct investment / Net Domestic Investment 1000 6.Other* 600 400 *Primarily net flows reported by banking and non-banking concerns, acquisition of U.S. currency, and the statistical discrepancy. Net Saving I I 1990 I I II 1992 1994 I I 1996 1998 200 I II 2000 II I I 2002 2004 June 29-30, 2004 159 of 203 Exhibit 2 06-28-04 Financing Nominal Goods and Services $ billions K Change in Balance History 4- 2800 2400 2000 _ - . . . - * S, . "' - 1600 - Imports - 1200 800 Exports ; 400 04 Il__[1 980 1982 111111 1984 1986 11 I11 1988 1990 1992 1994 II 1996 l 1998 I I 2000 ~ Ill 2002 0 200.8 I I 2004 2006 I 2008 2010 Financial Flows Percent of GDP 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Foreign Official Holdings in the United States Foreign Private Holdings in the United States $ billions, end of period $ billions, end of period 2001 April 2004e Change 1074 728 1630 1092 556 364 3. Selected Asia* 476 4. Treasury 381 972 784 496 403 5. Other 6. Treasury 658 308 60 -39 598 347 'Selected Asia includes Japan, China, Taiwan, Korea, and Hong Kong. 200401e 1. Treasury Securities 330 715 2. Agency Securities 129 485 3. U.S. Corporate Debt 361 1553 4. U.S. Equities 550 1655 5. FDI in U.S. 1.Total 2. Treasury 1995 799 1621 -400 June 29-30, 2004 160 of 203 Exhibit 3 06-28-04 Orderly Adjustment Share of U.S. Assets Held by Foreigners Percent, 2004Q1 end of period Characteristics Share of Total * Financial markets function normally. Outstanding * More likely if returns improve abroad. Treasury Securities * Net financial inflows into U.S. economy 47.6 Official 30.9 continue. Agency Securities 11.1 Official * Dollar depreciation almost certainly 3.2 required. U.S. Corporate Debt 24.8 U.S. Equities 12.0 Foreign Portfolios of Bonds and Equities U.S. Merchandise Exports Percent, December 2002 Percent Share of Portfolio in: Share of Exports 2003 Domestic Securities U.S. Securities (1) (2) 1. Canada 1. Euro Area 2. Switzerland 3. United Kingdom 85.4 43.5 61.4 5.4 9.7 9.2 2. Western Europe 4. Canada 84.2 8.6 5. Japan 81.6 58.3 82.0 45.0 6.8 9.2 7.1 13.9 80.5 9.6 Share of Change 200201 to 200401 3. Mexico 4. Other Asia* 6. Other Latin America 5. 6. 7. 8. Japan Hong Kong Korea Singapore 9. Australia 7. China and Hong Kong 8. Korea 9. Middle East** 10. Australia *Includes Singapore, Taiwan, Indonesia, Philippines, Thailand, and Malaysia. "Includes Israel, Iran, Iraq, Kuwait, Qatar, Saudi Arabia, and UAE. June 29-30, 2004 161 of 203 Exhibit 4 Starting Adjustment: Growth & Depreciation 06-28-04 Implications for U.S. Economy Rate of change in real exchange rate, percent * Demand here and abroad shifts to U.S.-made goods. * U.S. domestic demand is reduced relative to U.S. production. * Fiscal contraction could contribute to domestic demand constraint. * Monetary policy maintains full utilization of resources. * Sectoral shifts in production may entail adjustment costs. -2 -1 0 1 2 Foreign minus U.S. real GDP growth rate, percentage pts. Disorderly Adjustment -- Abrupt adjustment entails asset price changes. -- Exchange rate depreciation at center. Magnitude and pace. -- Other U.S. asset prices could be affected. -- Implications for global asset prices. U.S. Corporate Debt Outstanding Foreign Holdings of U.S. Assets* $ billions, end 2003 K Total Foreign currency Euro Pound Yen Other Foreign currency share End 2003 12,202 Dollar billions 1. Total Foreign 2. Europe 3. United Kingdom 4. Canada 5. Japan 6. China 7. Other Asia 8053 4434 1102 487 1305 351 830 Percent of own GDP 32 37 61 56 30 25 35 *Bank positions netted; Caribbean and unknown holdings distributed to other countries pro rata. June 29-30, 2004 162 of 203 Exhibit 5 06-28-04 Disorderly Adjustment Scenarios Real Exchange Value of Dollar Deviation from baseline Percent i 0 - -.... Scenario 1 Scenario 1: 30 percent dollar depreciation absent responses in interest rates. U.S. and foreign policy interest rates follow Taylor rule. - - Scenario 2: Scenario 1 plus 250 b.p. increase in U.S. equity and bond premiums. Smaller financial shock in foreign Scenario 2 .- - - - economies. -- -30 Scenario 3: Scenario 2 with no zero bound on policy interest rates (quantitative easing). 2004 2005 2006 U.S. Output and Price Responses Deviation from baseline, percent Scenario 1 200504 2006Q4 (1) (2) Scenario 2 200504 2006Q4 (3) (4) Scenario 3 2005Q4 2006Q4 (5) (6) 1. GDP 2. Domestic Demand* 3. Net Exports* -1.9 -5.0 3.1 4. Core PCE Prices 0.8 1.0 5. Non-oil Import Prices 9.2 9.8 7.6 7.0 *Percent of GDP. Foreign GDP* Deviation from baseline Percent .... Scenario 1 Trade Balance Deviation from baseline Percent of GDP ---- Scenario 1 - - Scenario 2 - - Scenario 2 .. -- N .% --. _ N . \' Nz I \ II 1 I 2004 *U.S. export weights. 2005 2006 2004 2005 2006 June 29-30, 2004 163 of 203 Exhibit 6 06-28-04 Is Adjustment Under Way? Broad Real Dollar Index Balance on Goods and Services March 1973 = 100 Percent of GDP* -- 1 1979Q1-1990Q4 / 199601 1981 1998 1983 2000 1985 2002 1987 2004 1989 2006 1979 1996 1981 1998 I 1983 2000 I I 1987 2004 1985 2002 1989 2006 *4-quarter moving average. Real Import and Export Growth Rates 4-quarter percent change / Exports / , I I\ T \ // _ 1 / \ - .. 'I. ' I ^ 1 1 1 11 1 1 1 1 1 1 1 I I I I I I 1985 1987 I 1 r IIII 1983 N \ l 1 1981 1 \ N - 1979 \I I i 1989 Foreign minus U.S. Growth 1991 1993 I 1 1 I I 1997 1995 1999 I 1 1 1 1 1 I 1 1 I 2001 2003 Net Securities Flows Difference in 4-qtr. Percent of GDP* , Official ,. I I 1979 1996 1981 1998 1983 2000 1985 2002 1987 2004 1989 2006 1996 I 2 Present-4 1t1 I I 1979 1996 -- I 1998 ,I I I 2000 *4-quarter moving average. I I 2002 I I 2004 I I 2006 -5 June 29-30, 2004 164 of 203 Exhibit 7 06-28-04 PCE Prices* Import Prices* 4-quarter percent change 4-quarter percent change it I ' 1979( 1 - 1990Q4 I - _ \ t 1979Q1 - 1990Q4 \ I/ 1 / / 1996Q1 -1i 1979 1996 1996Q1 / Present Pr esent i 1981 1998 I I 1983 2000 I I 1985 2002 I I 1987 2004 I I I 1989 2006 1979 1996 I I 1981 1998 I I 1983 2000 I 1985 1 1987 1989 2002 2004 2006 *Excluding food and energy. *Excluding natural gas, oil, computers, and semiconductors. Conclusions * U.S. external deficits are not sustainable. * Depreciation in 2002 and 2003 helped slow the widening trade deficit, but no evidence that adjustment has begun. * Substantial further dollar depreciation is required. * Orderly adjustment of 1980s associated with acceleration of foreign activity and brighter investment prospects abroad. * Disorderly adjustment more likely with loss of confidence in U.S. policies and prospects. -- Contractionary effects could be greater for foreign economies. -- Asset price declines depress output at home and abroad. -- Dollar depreciation boosts U.S. production and damps foreign production. * Effect on U.S. inflation is modest. June 29-30, 2004 Appendix 2: Materials used by Ms. Goldberg 165 of 203 June 29-30, 2004 166 of 203 EXHIBIT 1 International Trade Exposure of High-Trade-Oriented U.S. Industries Percent o0 Exports as a share of shipments * Imports as a share of consumption Q Imported inputs as a share of costs Chemicals (6.1%) Leather (0.3%) Computers (9.8%) Electrical (3.3%) Machinery (8.0%) Transportation (12.0%) Miscellaneous (4.5%) (Share of Manufacturing Employment) EXHIBIT 2 Trade Partner Shares of Total U.S. Exports and Imports, 2003 Destinations of U.S. Exports Rest of the World Euro Area Rest of the World 14% Sources of U.S. Imports Euro Area 15% 16% ___ Asia NIE exc. Korea 7% 15% Asia NIE exc. Korea 5% South America/Central America 7% South America/Central America 7% Canada 23% U.K . 5% Canada 18% U.K_ 3% Japan 10% Japan 7% Korea_ 3% China) 4% Mexico 14% China 13% June 29-30, 2004 167 of 203 EXHIBIT 3 Export Destinations and Import Sources of High-Trade-Oriented U.S. Industries Destinations of U.S. Exports Industries (NAICs) Sources of U.S. Imports (Percentage of Industry Exports) (Percentage of Industry Imports) Euro Area Japan China Euro Area Japan China Chemicals 25 7 4 42 8 3 Leather and allied products 11 14 6 12 0 61 Machinery, except electrical 15 6 4 26 23 11 Computer and electronics 17 7 5 8 12 21 Transportation equipment 16 6 3 17 22 1 Electrical equipment, appliances 12 4 2 11 7 28 Miscellaneous manufacturing 27 12 1 15 4 35 Total U.S. exports or imports 16 7 4 15 10 13 EXHIBIT 4 U.S. Manufacturing Employment in Industries with Different Degrees of Penetration by Chinese Products Made in China, As a share of U.S. Consumption by Industry Industry Share in Total U.S. Manufacturing Employment (Percent, 2003) Less than 5 percent 69.3 Between 5 and 10 percent 22.6 Between 10 and 20 percent 6.2 More than 20 percent 1.9 June 29-30, 2004 168 of 203 EXHIBIT 5 Real Dollar Exchange Rates Index: January 2000=100 140 130 120 Yen _ 110 ' _Peso Yuan 'I.f %-- ~----- 100 ,,r I) ,_ - 90 - -- ~--I. Can 9 I, i 80 70 Jan-00 Jul-00 Jan-01 Jul-01 Jan-02 Jul-02 Jan-03 Jul-03 Jan-04 EXHIBIT 6 Dollar Depreciation Experienced by High-Trade-Oriented U.S. Industries 2/1/02 to 6/25/04 (In Percent) Industries (NAICs) Chemicals Leather and allied products Machinery, except electrical Computer and electronics Export-Partner Weighted* 15.8 7.0 13.5 9.8 Import-Partner Weighted* 26.6 3.8 18.0 5.2 Transportation equipment 16.6 Electrical equipment, appliances 10.4 5.5 Miscellaneous manufacturing 18.4 7.4 15.3 *Constructed using real bilateral exchange rates and respective trade weights. June 29-30, 2004 169 of 203 EXHIBIT 7 Import Price Elasticity to Exchange Rate Movements Industry Data included in Analysis Industry (SITC) Weight (%) Late 1970s/Early 1980s -2004:Q2# 1990:Q1 -2004:Q2 All commodities 0.54 0.75 All commodities except fuels 0.46 0.27 (0.9) Beverages and tobacco 0.19 0.01 (2.1) Crude materials, inedible, except fuels 0.74 0.82 Mineral fuels, lubricants, and related 0.29 1.73 Chemicals and related products 0.39 0.37 (12.2) Manufactured goods (classified) 0.72 0.69 (41.8) Machinery and transport equipment 0.41 0.17 (17.1) Miscellaneous manufactured articles 0.40 # 0.16 (13.9) (7.7) Indicated in bold are data significantly different from zero. # 2004:Q2 data use April and May 2004 import prices and consensus forecast for GDP. EXHIBIT 8 Industry Contribution to Total U.S. Exports and Imports, 2003 U.S. Exports Miscellaneous Textiles 1% U.S. Imports Apparel App Leather Leather Miscellaneous C m l59 Chemicals 14% 14% TextilesApparel 1% 5% Leather 2l h Chemicals 8% Other Industries 30% Machinery 11% Machinery 6% Other Industrie: 34% Computers 17% Computers 18% Electrical 3% Transportation 18% Electrical 3% June 29-30, 2004 Appendix 3: Materials used by Mr. Kos 170 of 203 June 29-30, 2004 171 of 203 Page 1 Current U.S. 3-Month Deposit Rates and Rates Implied by Traded Forward Rate Agreements March 15, 2004 - June 28, 2004 LIBOR Fixing 3M Forward 6M Forward Percent 3.50 4/2 March NFP +308K 3.00 5/4 FOMC 4/14 March Core CPI +0.4% 9M Forward 6/8 Chairman’s Speech to IMC 5/7 April NFP +288K Percent 3.50 6/15 Core May CPI +0.2% 3.00 2.50 2.50 2.00 2.00 1.50 1.50 1.00 3/15 3/30 4/14 4/29 5/14 5/29 1.00 6/28 6/13 Target Federal Funds Rate and 2-Year Treasury Note January 1, 2002 - June 28, 2004 Percent Percent 4.00 4.00 3.50 3.50 3.00 3.00 2.50 2.50 2.00 2.00 1.50 1.50 1.00 1.00 0.50 0.50 Jan-02 Basis Points May-02 Sep-02 Jan-03 May-03 Sep-03 Jan-04 May-04 Yield Spread between 2-and 10-Year Treasury Notes Basis Points March 15, 2004 - June 28, 2004 240 5/4 FOMC 230 220 5/14 April CPI 6/8 Chairman’s Speech to IMC +0.3% 6/15 Core May CPI +0.2% 240 230 220 4/14 March Core CPI +0.4% 210 210 200 200 190 190 180 180 3/15 3/30 4/14 4/29 5/14 5/29 6/13 6/28 June 29-30, 2004 172 of 203 Page 2 TIPS Breakeven Inflation Rates February 1, 2004 through June 28, 2004 Basis Points 280 4/14 March NSA CPI +1.2 Basis Points 280 5/4 FOMC 260 260 Jan 2014 BEI 240 240 6/8 Chairman’s Speech to IMC 220 220 5/14 April NSA CPI +0.6 Jan 2007 BEI 200 200 6/15 May NSA CPI +1.1 180 180 2/1 2/19 3/8 3/26 4/13 5/1 5/19 6/6 6/24 Primary Dealers Net Outright Positions in TIPS February 1, 2004 through June 23, 2004 $Millions 3000 $Millions 3000 Average Net Position, January 1998 - June 2004 2000 2000 1000 1000 0 0 -1000 -1000 -2000 -2000 2/1 2/12 2/23 3/5 3/16 3/27 4/7 4/18 4/29 5/10 5/21 6/1 6/12 6/23 1-Year Inflation Forward Rates Derived from CPI Swaps Percent 3.5 Percent 3.5 June 28, 2004 3.0 3.0 May 4, 2004 April 1, 2004 2.5 2.5 2.0 2.0 10Y 1Y 2Y 3Y 4Y 5Y 6Y 7Y Expiry of Implied 1-Year Forward 8Y 9Y June 29-30, 2004 173 of 203 Page 3 Primary Dealer Net Outright Positions May 5, 2003 - June 23, 2004 $Billions $Billions 150 150 100 100 Corporates MBS 50 Agencies (excl. Discount Notes) 0 0 -50 -50 -100 -100 Treasuries (excl. TIPS and Bills) -150 -200 50 -150 Source: FR2004 May-03 Thousands of Contracts -200 Jul-03 Sep-03 Nov-03 Jan-04 Mar-04 May-04 Net Non-Commercial Positions in 10-Year Treasury Futures Thousands of Contracts May 1, 2003 - June 22, 2004 100 100 50 50 0 0 -50 -50 -100 -100 -150 -150 -200 Source: CFTC May-03 Jul-03 -200 Sep-03 Nov-03 Jan-04 MBS and Corporate Debt Spreads January 1, 2004 - June 28, 2004 Basis Points 120 High Yield and EMBI+ Spreads January 1, 2004 - June 28, 2004 Basis Points Investment Grade Corporate Index OAS OAS of 30-Year Conventional MBS Index 20 Jan-04 Feb-04 Mar-04 Apr-04 May-04 Jun-04 600 550 80 500 60 5/4 FOMC 120 100 Source: Lehman Brothers 60 40 May-04 Basis Points Basis Points 100 80 Mar-04 600 450 450 40 400 400 20 350 5/4 FOMC EMBI+ Merrill Lynch High Yield Bond Index OAS Source: Merrill Lynch, JP Morgan Jan-04 Feb-04 Mar-04 Apr-04 May-04 Jun-04 550 500 350 June 29-30, 2004 174 of 203 Page 4 Select Foreign Currencies Versus U.S. Dollar Index: 100 = 4/1/04 Index: 100 =4/1/04 April 1, 2004 - June 28, 2004 120 115 120 U.S. Dollar Appreciation 115 110 110 Canadian Dollar Japanese Yen 105 105 Euro 100 95 90 100 Swiss Franc British Pound 95 U.S. Dollar Depreciation 90 4/1 4/17 5/3 Yield on the 10-Year Japanese Government Bond April 1, 2004 through June 28, 2004 Basis Points 2.0 6/8 Q1 GDP +6.1% y.o.y 5/19 6/4 6/20 Japanese 3-Month to 30-Year Government Bond Yield Curve Basis Points 2.0 Basis Points 3.0 Basis Points 3.0 1.9 1.9 2.5 2.5 1.8 1.8 2.0 2.0 1.7 1.7 1.5 1.5 1.6 1.6 1.0 6/28/2004 1.0 6/13/2003 1.5 1.5 1.4 1.4 0.5 0.5 0.0 4/1 4/18 5/5 5/22 6/8 6/25 3M 6M 1Y 2Y 5Y 10Y 20Y 0.0 30Y 2-Year U.S. and German Government Debt Yields March 15, 2004 through June 28, 2004 Percent 3.0 Percent 3.0 2-Year German Bond Yield 2.5 2.5 2.0 2.0 2-Year Treasury Yield 1.5 1.0 3/15 1.5 3/30 4/14 4/29 5/14 5/29 6/13 1.0 6/28 1 /2 / 2 0 0 4 1 /2 / 2 0 0 3 1 /2 / 2 0 0 2 1 /2 / 2 0 0 1 2004 2003 2002 2001 0.00 2000 1999 1998 1997 1996 1995 1994 0.05 1 /2 / 2 0 0 0 1 /2 / 1 9 9 9 1 /2 / 1 9 9 8 1 /2 / 1 9 9 7 1 /2 / 1 9 9 6 1 /2 / 1 9 9 5 1 /2 / 1 9 9 4 0.30 1993 1992 1991 1990 1989 1988 1987 percentage points 0.35 1 /2 / 1 9 9 3 1 /2 / 1 9 9 2 1 /2 / 1 9 9 1 1 /2 / 1 9 9 0 1 /2 / 1 9 8 9 1 /2 / 1 9 8 8 1 /2 / 1 9 8 7 percentage points June 29-30, 2004 175 of 203 Page 5 Daily Intra-Day Standard Deviations of the Federal Funds Rate Annual averages of daily values 0.25 0.20 0.15 0.10 Annual medians of daily values Daily Intra-Day Standard Deviations of the Fed Funds Rate - medians of rolling 10-day periods 0.80 0.70 0.60 0.50 0.40 0.30 0.20 0.10 0.00 1 /2 /2 0 0 4 1 /2 /2 0 0 3 1 /2 /2 0 0 2 1 /2 /2 0 0 1 1 /2 /2 0 0 0 1 /2 /1 9 9 9 1 /2 /1 9 9 8 2004 2003 2002 2001 2000 1999 1998 1997 1996 1995 1994 0.04 1 /2 /1 9 9 7 1 /2 /1 9 9 6 1 /2 /1 9 9 5 1 /2 /1 9 9 4 1993 1992 1991 1990 1989 1988 1987 percentage points 0.18 1 /2 /1 9 9 3 1 /2 /1 9 9 2 1 /2 /1 9 9 1 1 /2 /1 9 9 0 1 /2 /1 9 8 9 1 /2 /1 9 8 8 1 /2 /1 9 8 7 percentage points June 29-30, 2004 176 of 203 Page 6 Absolute Deviations of Daily Effective Federal Funds Rate from Target 0.22 0.20 Annual averages of daily values 0.16 0.14 0.12 0.10 0.08 0.06 Annual medians of daily values 0.02 0.00 Daily Effective Fed Funds Rate less Target Rate - medians of rolling 10-day periods 0.40 0.30 0.20 0.10 0.00 -0.10 -0.20 -0.30 -0.40 5/1/2004 4/1/2004 3/1/2004 2/1/2004 1/1/2004 12/1/2003 11/1/2003 10/1/2003 9/1/2003 8/1/2003 7/1/2003 6/1/2003 5/1/2003 4/1/2003 3/1/2003 2/1/2003 1/1/2003 12/1/2002 11/1/2002 10/1/2002 9/1/2002 8/1/2002 7/1/2002 6/1/2002 5/1/2002 4/1/2002 3/1/2002 2/1/2002 1/1/2002 12/1/2001 11/1/2001 10/1/2001 9/1/2001 8/1/2001 7/1/2001 6/1/2001 percent June 29-30, 2004 177 of 203 Page 7 High-Low Range, Effective Rate, & Primary Credit Rate, minus the Target Rate June 2001 - May 2004 4 3 2 Primary credit facility rate minus Fed funds target rate 1 0 -1 -2 Ranges are truncated at 4 percentage points above/below the target rate -3 -4 June 29-30, 2004 178 of 203 Reference Chart Requirements (Total and Clearing Balances) and Federal Funds Target 40 10 Total Requirements 36 9 32 8 Funds Rate Target 28 7 20 5 4 12 3 8 2 Clearing Balance Requirements 4 1 2004 2003 2002 2001 2000 1999 1998 1997 1996 1995 1994 1993 1992 1991 1990 1989 1988 0 1987 0 Chronology of Select Events Influencing Funds Rate Volatility late 1990 - deteriorating financial position of banking sector amid recession Dec 1990 - reserve requirements eliminated on non-transaction and eurodollar deposits Apr 1992 - reserve requirement ratio on transaction deposits reduced from 12 to 10 percent Feb 1994 - FOMC begins to publicly indicate policy changes 1996 to 1998 - period of most rapid growth in bank sweep account programs Aug 1998 - shift to lagged reserve accounting Q4 1998 - fallout from financial turmoil in emerging markets 1999 - preparations ahead of Y2K Sep 2001 - extra liquidity provided in the wake of 9/11 attacks Jan 2003 - introduction of the primary credit facility Jun 2003 - Federal funds rate target reaches historic low percent 6 16 $billions 24 June 29-30, 2004 Appendix 4: Materials used by Messrs. Oliner, Wilcox, and Sheets 179 of 203 June 29-30, 2004 STRICTLY CONFIDENTIAL (FR) CLASS I-FOMC* Material for Staff Presentation on the Economic Outlook June 30, 2004 *Do wngra ded to Class II upon release o f the July 2004 Monetary Po licy Rep ort. 180 of 203 June 29-30, 2004 181 of 203 June 29-30, 2004 182 of 203 June 29-30, 2004 183 of 203 June 29-30, 2004 184 of 203 June 29-30, 2004 185 of 203 June 29-30, 2004 186 of 203 June 29-30, 2004 187 of 203 June 29-30, 2004 188 of 203 June 29-30, 2004 189 of 203 June 29-30, 2004 190 of 203 June 29-30, 2004 191 of 203 June 29-30, 2004 192 of 203 Chart 12 International Financial Markets Ten-Year Government Bond Yields Three-Month Eurocurrency Futures Percent Weekly Percent 7 Jan. FOMC 7 June 28, 2004 Jan. 28, 2004 6 6 5 5 United Kingdom Sterling 4 4 Euro Germany 3 3 2 United States 2 U.S. Dollar Japan 1 1 Yen 2002 2003 2004 0 Weekly 2005 2006 Stock Price Indexes Nominal Exchange Rates Foreign currency/U.S. dollar 0 2004 Index, Jan. 4, 2002=100 Index, Jan. 4, 2002=100 110 Weekly Jan. FOMC 120 Jan. FOMC 100 Yen Broad Dollar* 100 TOPIX 90 S&P 500 80 Sterling 80 DJ Euro Euro 60 70 FTSE-350 60 2002 *Trade-weighted. 2003 2004 40 2002 2003 2004 June 29-30, 2004 193 of 203 Chart 13 Outlook for the Foreign Economies Real GDP Projections* Percent change, a.r.** 2004 2005 H1 H2 1. Japan 2. China 3. Other Emerging Asia 4. Germany 5. Other Euro Area 6. Canada 7. Latin America 8. Total Foreign 5.0 11.3 5.9 1.2 2.3 3.2 5.2 4.2 2.8 6.3 5.1 1.2 2.0 3.6 4.2 3.6 Global recovery now under way. Inflation likely to remain contained. 2.4 7.3 4.7 1.5 2.0 3.5 3.8 3.5 New risks have emerged: -- High and volatile oil prices. -- Rising interest rates. -- Hard landing in China. *Aggregates weighted by U.S. exports. **Year is Q4/Q4; half years are Q2/Q4 or Q4/Q2. Rebound in Japan Exports and Corporate Profits 5 Percent of sales Investment and Labor Market Index, 1994:Q1=100 180 100 Percent Index, 1994:Q1=100 Real Exports 4 Manufacturing Profits 160 Real Business Fixed Investment 90 80 150 140 130 Offers to Applicants 140 3 70 2 1 Nonmanufacturing Profits 1994 1996 1998 2000 2002 110 100 100 40 2004 Household Sector 12 60 50 120 120 1994 1996 1998 2002 2004 90 Bank Credit and Land Prices Percent Index, 1994:Q1=100 Index, 1994:Q1=100 130 Household Saving Rate* 10 2000 110 100 Bank Credit 120 90 Real Consumption 8 110 80 Urban Land Prices 6 4 2 70 100 Real Compensation 2003:Q1 1994 1996 1998 2000 2002 60 2004 *Source: National Income Accounts; 4-quarter moving average. 90 1994 1996 1998 2000 2002 2004 50 June 29-30, 2004 194 of 203 Chart 14 Divergence in the Euro Area Real Consumption per Capita Employment Index, 1994:Q1=100 Index, 1994:Q1=100 130 120 130 120 Euro Area ex. Germany Euro Area ex. Germany 110 110 Germany 100 1994 1996 1998 2000 2002 2004 100 Germany 90 1994 1996 1998 2000 2002 2004 90 Inflation Abroad Japanese Prices Outlook for Consumer Prices 4-quarter percent change 4-quarter percent change 2003 Q1 2004 Q2 0.5 2005 H2 0.0 -----projection----- 1. Average Foreign* 2.1 1.8 2.4 2.5 2.1 2. 3. 4. 5. 6. 7. 2.0 -0.4 1.3 1.7 2.6 4.0 Euro Area Japan United Kingdom Canada China Mexico 1.6 -0.3 1.2 0.9 2.8 4.3 2.3 -0.3 1.6 1.9 4.3 4.3 2.1 0.1 1.3 1.8 3.7 3.9 1.9 0.3 1.8 1.7 1.6 3.8 -1.5 Q1 2002 140 Index, Jan. 1994=100 -1.0 PCE Deflator *Weighted by U.S. non-oil imports. Oil and Non-fuel Commodity Prices -0.5 CPI of which: 2003 2004 2005 Selected Commodity Prices Dollars per barrel Monthly WTI Spot Index, Jan. 8, 2002=100 42 38 130 350 300 30 110 100 Soybeans 26 22 250 200 Steel Scrap 18 90 150 14 70 Non-fuel Primary Commodities* 1994 1996 1998 2000 400 Weekly 34 120 80 -2.0 2002 *IMF component indexes weighted by U.S. imports. Cotton 100 10 2004 6 Copper 2002 2003 2004 50 June 29-30, 2004 195 of 203 Chart 15 Debt Burdens Corporate Sector Debt* Household Debt* Index, 2000:Q1=100 United Kingdom Index, 2000:Q1=100 140 United Kingdom 130 140 130 120 120 Euro Area 110 110 100 100 Euro Area Japan 90 80 Japan 2000 2001 2002 90 2003 2004 80 70 2000 *Bank loans and securities; percent of GDP. 2001 2002 2003 2004 70 *Percent of GDP. Vulnerabilities in Latin America EMBI+ Spreads 2500 Latin American Debt Issuance Basis points Basis points Weekly Billions of dollars 1500 Gross* Brazil EMBI+ 2000 30 25 1200 20 1500 900 1000 600 500 0 2000 May Q1 0 2001 2002 2003 2004 0 1994 1996 1998 2000 2002 2004 *12-month moving average. **4-quarter moving average. Vulnerability Indicators Current Account (% of GDP) Gross External Debt* (% of GDP) Reserves* ($ billions) Short-term External Debt* (% of reserves) 1993 2003 1993 2003 1993 2003 1993 2003 1. Mexico -5.8 -1.5 33.9 20.8 22.6 59.0 116.8 64.7 2. Chile -5.7 -0.8 34.0 48.1 9.6 16.0 50.9 64.7 3. Brazil -0.0 0.8 32.3 48.8 32.2 50.5 106.6 81.8 4. Argentina -3.2 6.1 31.0 114.1 13.8 14.6 101.2 177.9 *End of period. 10 5 Net of Repayments** 300 Mexico 1999 15 -5 June 29-30, 2004 196 of 203 Chart 16 A Hard Landing in China? Real GDP and Investment Spillovers 4-quarter percent change 40 Percent of GDP 20 Q1 30 Exports Net Exports to China* of Commodities** (1) (2) 15 Real Investment* 2002 2004 2005 *Deflated by corporate goods price index. Equity Prices Index, Jan. 4, 2002=100 Weekly Korea Taiwan Singapore 130 110 90 2002 2003 2004 8.2 -7.2 2.7 7.6 5. Japan 2.1 -3.1 2.0 13.1 7. Russia 0 3. Korea 1.9 14.7 8. Brazil 1.2 2.8 9. Euro Area 2003 0.6 0.8 -1.7 10. Canada 0.5 5.2 -0.6 12. United States 0.4 -1.1 13. Mexico 2001 11.4 11. United Kingdom 0.4 0 5 -5.3 6. Argentina Real GDP 10 17.4 4. Chile 10 1. Taiwan 2. ASEAN-5 20 0.3 1.0 70 *Includes to Hong Kong; 2003 data. **Food and beverages, crude materials, and fuels; 2002 data. U.S. External Sector Real GDP and Broad Real Dollar 105 100 95 Index, 2002:Q1=100 Real Exports and Imports Percent change, a.r.* Total Foreign GDP** U.S. GDP H1 Percent change, a.r.* 6 Exports Imports H2 5 12 H2 10 4 Broad Real Dollar 14 H1 8 90 3 6 85 2 80 1 75 2002 2003 2004 *Years are Q4/Q4; half years are Q2/Q4 or Q4/Q2. **Weighted by shares of U.S. exports. 2005 0 4 2 2002 2003 2004 *Years are Q4/Q4; half years are Q2/Q4 or Q4/Q2. 2005 0 June 29-30, 2004 197 of 203 Chart 17 ECONOMIC PROJECTIONS FOR 2004 FOMC Range Central Tendency Staff -------------Percentage change, Q4 to Q4-----------Nominal GDP February 2004 Real GDP February 2004 Core PCE Prices 6 to 7 6¼ to 6¾ 6.4 (5½ to 6½) (5½ to 6¼) (6.2) 4 to 4¾ 4½ to 4¾ 4.4 (4 to 5½) (4½ to 5) (5.3) 1½ to 2 1½ to 1¾ 2.0 --------------Average level, Q4, percent--------------Unemployment rate 5¼ to 5½ 5¼ to 5½ 5.4 February 2004 (5¼ to 5½) (5¼ to 5½) (5.3) Central tendencies calculated by dropping high and low three from ranges. ECONOMIC PROJECTIONS FOR 2005 FOMC Range Central Tendency Staff -------------Percentage change, Q4 to Q4-----------Nominal GDP Real GDP Core PCE Prices 4¾ to 6½ 5 to 6 5.0 3½ to 4 3½ to 4 3.6 1½ to 2½ 1½ to 2 1.6 --------------Average level, Q4, percent--------------Unemployment rate 5 to 5½ 5 to 5¼ 5.3 June 29-30, 2004 Appendix 5: Materials used by Mr. Reinhart 198 of 203 June 29-30, 2004 199 of 203 June 29-30, 2004 200 of 203 June 29-30, 2004 201 of 203 June 29-30, 2004 202 of 203 June 29-30, 2004 203 of 203
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