Full text of Federal Open Market Committee Meeting Minutes, Transcripts, and Other Documents : Meeting, March 26, 1996 : Greenbook Part 1

View original document

The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.

Prefatory Note

The attached document represents the most complete and accurate version
available based on original copies culled from the files of the FOMC Secretariat at the
Board of Governors of the Federal Reserve System. This electronic document was
created through a comprehensive digitization process which included identifying the bestpreserved paper copies, scanning those copies, 1 and then making the scanned versions
text-searchable. 2 Though a stringent quality assurance process was employed, some
imperfections may remain.
Please note that this document may contain occasional gaps in the text. These
gaps are the result of a redaction process that removed information obtained on a
confidential basis. All redacted passages are exempt from disclosure under applicable
provisions of the Freedom of Information Act.

In some cases, original copies needed to be photocopied before being scanned into electronic format. All
scanned images were deskewed (to remove the effects of printer- and scanner-introduced tilting) and lightly
cleaned (to remove dark spots caused by staple holes, hole punches, and other blemishes caused after initial
printing).
2
A two-step process was used. An advanced optimal character recognition computer program (OCR) first
created electronic text from the document image. Where the OCR results were inconclusive, staff checked
and corrected the text as necessary. Please note that the numbers and text in charts and tables were not
reliably recognized by the OCR process and were not checked or corrected by staff.

Strictly Confidential (FR) Class II FOMC

March 21, 1996

SUMMARY AND OUTLOOK

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

Domestic Nonfinancial Developments

Overview
The economy appears to have ended
thought at the time of the

1995

on a weaker note than we

January Greenbook, with real GDP barely

rising in the fourth quarter.

However, the shortfall from our

expectation reflected a much slower pace of inventory accumulation,
and the greater progress in correcting the stock overhang has laid
the groundwork for stronger
the

output growth in early 1996.

In fact,

latest indicators of activity have been quite upbeat on the

whole,

confirming that the economy has maintained appreciable

momentum in the face of a series of adverse natural and manmade
shocks.

We now feel more confident that activity will remain on a

moderate uptrend over the course of 1996 and 1997.
real GDP will rise somewhat more than

We expect that

2 percent this year and slow

only minimally in 1997.

The GM strike has created some short-run turbulence; however,
we see no existing imbalances or exogenous forces that point
compellingly to a persistent deviation from essentially trend growth
of output over the forecast period.

To be sure, bond yields have

soared in the past few weeks, but we still believe that financial
conditions overall pose no serious impediment to expansion.

The

fiscal situation has remained static, with the probability of a
multiyear budget compromise seemingly still small; under the
circumstances, there appears little prospect of much further fiscal
restraint beyond that imposed by the notching down of discretionary
spending that has already occurred.

On the external front, domestic

firms are in a healthy competitive position at prevailing exchange
rates, and activity abroad appears to be moving in a direction
conducive to a continuation of substantial growth in U.S. exports.

I-2
The projected path of output implies that resource utilization
is likely to remain in the range observed for a while now--a
circumstance that we think implies a gradual deterioration in
The risk of noticeable

underlying wage and price trends.

acceleration in the near term appears greatest on the labor cost
side, where scattered "shortages" of qualified labor may result in
some bidding up of compensation.

On the price side, any pressures

from increased labor costs are likely to be damped by flatness in
prices of imported merchandise.

We thus expect core consumer price

inflation to rise only marginally over the next two years from the
2.9 percent pace of the past twelve months.

We are not anticipating

any sustained impulses to inflation from the food or energy sectors,
but the risks are not negligible, given the uncertainties attending
supply conditions in those markets.
Key Assumptions
In the last Greenbook, we assumed that the FOMC would hold the
federal funds rate target at 5-1/2 percent at least well into 1997.
Instead, the Committee cut the rate another 25 basis points.

This

came as no shock to the markets, and the action had little immediate
effect on bond prices.

Then, mainly in response to the incoming

news on the economy, long-term interest rates moved up sharply.
These developments have led to only relatively modest
adjustments to the financial elements of our forecast.

We had

expected that bond yields would rise as markets came to realize that
the economy was not as weak as data early in the year were read as
indicating.

In the event, bond rates increased more rapidly and to

a slightly higher level than projected;

although tamer economic data

may have a constructive effect on bond market psychology in the near
term, we are not anticipating that bond yields will deviate greatly
from the current level over the forecast period;

because we are now

I-3
also assuming maintenance of federal funds at or near the current
5-1/4 percent level, this implies a somewhat steeper yield curve
than before.

These conditions suggest, if anything, a more

favorable environment for banks, and we expect that any tightening
of lending terms and standards will be quite limited.

generally, credit should remain readily available to all but the
lowest-quality borrowers.

Meanwhile, equity prices have managed to rise further, on net,
in the face of the bond yield backup and are noticeably higher than
we had anticipated they would be at this point.

Indeed, market

valuations may be somewhat extended relative to "fundamentals," and
we have allowed for a modest near-term "correction"--to be followed
by a comparatively subdued uptrend through next year.

On average,

though, equity prices are higher in this forecast than in the last-a plus for aggregate demand.
We revised our fiscal assumptions in January because efforts to
enact a balanced budget plan had foundered.

The current forecast is

again predicated on the view that the Congress and the President
will remain stalemated on major changes in mandatory spending
programs and taxes.

(Although there is talk of possible deals on

welfare and Medicaid, any changes enacted are unlikely to have
significant effects on the budget before 1998.)

We continue to

expect that discretionary spending will be held down by lower
appropriations or a series of continuing resolutions.

However,

updated estimates of the amount of restraint in legislated
appropriations and the current continuing resolution suggest that
discretionary outlays will be only $16 billion below the OBRA-93
baseline in fiscal 1996 and fiscal 1997; our previous assumption was
a $20 billion reduction each year.

Broadly speaking, much of the

notch-down in spending has already been felt through the actions

I-4
taken since last fall (including the shutdowns),

and little further

fiscal contraction is expected in the coming quarters.
A few other details of the fiscal outlook have been revised.
The enactment of a farm bill is likely to increase farm subsidies
about $2 billion in both fiscal 1996 and fiscal 1997.

Under current

law, failure to pass a farm bill would result in substantially
higher subsidies--an alternative that is undesirable to both the
Administration and the Congress.

Also, the budget stalemate allowed

certain excise taxes to expire at the beginning of 1996, the largest
being the 10 percent tax on airline tickets.

We feel that in the

absence of a broad budget bill, actions to restore these taxes are
unlikely in the near term.

This development is expected to reduce

receipts by a few billion dollars in fiscal 1996 and by $5 billion
in fiscal 1997.

However, technical adjustments to our outlays and

receipts forecasts have offset these policy developments in our
deficit projection.

Under our policy and economic assumptions, we

put the unified budget deficit at $160 billion in fiscal 1996 and
$192 billion in fiscal 1997, about the same as in the previous
Greenbook.
With respect to the external sector, the trade-weighted dollar
in terms of other G-10 currencies has changed little on net since
January, and we have retained the assumption that the dollar will
remain near recent levels.

The outlook for foreign economic

activity is also little changed, with foreign real GDP (on a U.S.
export-weighted basis) projected to increase about 3-1/2 percent in
each of the next two years, compared with 2 percent in 1995.

The

price of crude oil has firmed recently as a result of the
unseasonably cold winter; it has been buffeted as well by shifting
views on the likelihood that Iraq will resume exporting oil.

Last

Greenbook, we had expected that the spot price of WTI would hold

I-5
steady in the first half of this year at its fourth-quarter average
of about $18 per barrel.

In the interim, the spot price has moved

above $19 per barrel on average this quarter, and we now expect it
The

to rise slightly above $20 per barrel early next quarter.

longer-term outlook for oil prices has not been revised, however:
We still expect that the spot price will settle at $18.50 by
midyear--with a downside risk associated with possible resumption of
oil exports by Iraq.
Recent Developments
Our forecast of real GDP growth in the first quarter now stands
at 1-1/2 percent--about 3/4 percentage point higher than in the
January Greenbook.

All of the upward revision is in final sales,

which are now expected to increase at a 2-1/4 percent rate.

The

pickup in GDP this quarter would have been stronger if not for the
GM strike, which we estimate to slice almost 3/4 percentage point
from real growth, assuming that production returns to normal in the
next few days.

SUMMARY OF THE NEAR-TERM OUTLOOK
(Percent change, at annual rates, unless otherwise noted)

Real GDP
Final sales

Jan
GB

1995:04
BEA
adv

Mar
GB

1996:Q1
Jan
Mar
GB
GB

1.9

0.9

0.3

0.8

1.5

1.8

1.9

1.4

2.2

-25.6

-11.7

Change in billions of chained (1992) dollars
Nonfarm inventory inv.

4.6

-14.7

-13.8

Of course, a great deal of uncertainty attaches to these
estimates--probably even more than is usual at this point in a

1. If the tentative strike settlement were not ratified or there
were other delays in resuming production, GDP growth would be
reduced by about 1/3 percentage point for each additional week of
lost GM output.

I-6
quarter, owing to weather-related distortions of the data.
Importantly, the weakness in employment and hours reported for the
survey week in January almost certainly was unrepresentative of the
month as a whole.

However, in light of other labor market

indicators, the strength in employment reported for February is hard
to credit.

We thus anticipate that the next employment report will

be weak and are interpreting the labor input picture as consistent
with moderate output growth for the quarter.
We project that, among components of final demand, real
personal consumption expenditures will bounce back to a
2-1/2 percent rate of growth this quarter after a very modest
increase in the fourth quarter.

Retail sales were soft in January

but advanced strongly in February, paced by brisk motor vehicle
sales.
Outlays for producers' durable equipment

(PDE) in real terms

are expected to grow at a 4 percent annual rate in the first
quarter.

Nominal shipments and orders for computing equipment rose

in January and point to a solid advance in real outlays this
quarter--albeit one likely to pale by comparison with the almost
80 percent annual rate recorded in the fourth quarter.

Aircraft

shipments should be up, and available data suggest a bounce-back of
purchases of motor vehicles by businesses after a large decline in
the fourth quarter.

As for the remainder of PDE, we expect a small

decline in spending.
Housing market activity has strengthened further this quarter
in both the single-family and multifamily segments.

Real

residential investment should advance at about a 7 percent rate, in
light of the increase in housing starts to a 1.47 million unit
average in January and February from a 1.41 million unit average in
the fourth quarter.

I-7
Although we foresee--as in the last Greenbook--a decline in the
rate of inventory investment this quarter that reduces GDP growth
3/4 percentage point, the picture with regard to inventory-sales
ratios is much improved.

Firms evidently made surprising progress

late last year in correcting inventory imbalances, especially
outside of the motor vehicle sector.

This quarter, our projected

slowdown in inventory accumulation is confined to motor vehicles.
Some reduction in auto inventories was in train even before the GM
strike;

with the strike, dealer stocks will be drawn down sharply.

Setting aside vehicles, data for January show substantial jumps in
manufacturing and wholesale stocks.

Viewing these increases as

augmented by weather-induced delays in shipments, we anticipate
little or no accumulation, on net, of non-auto stocks in February
and March.

Overall, nonfarm inventory stocks are expected to

decline slightly in the first quarter.
One sign that inventory problems are limited is the firmness of
manufacturing production.

Although the net gain in output over the

first two months of the year was disproportionately concentrated in
the aircraft and computer sectors, the pattern of developments in
other industries was suggestive of only mild and localized inventory
overhangs.

It appears that manufacturing output will post a

1-1/4 percent annual rate gain this quarter, despite being reduced
by about 1-1/2 percentage points by the GM strike.
The three CPI reports received since the January Greenbook have
revealed no clear change in inflation trends.

The first-quarter

increase in the CPI excluding food and energy is expected to be
2-3/4 percent--close to the average pace over 1995.

The rise in

crude oil prices has boosted the energy component of the CPI, and
some further pass-through is likely over the next few months.
anticipate that energy price increases will push overall CPI

I-8
inflation above 3 percent in the first and second quarters.

noted earlier, though, crude oil prices are expected to subside
somewhat by midyear, paving the way for slightly lower retail energy
prices.
Hourly compensation in the employment cost index accelerated to
a 3-1/2 percent annual rate of increase in the final three months of
1995, as health insurance costs jumped.

Even so, the increase in

private industry compensation for the year ended December was just
2.8 percent--an all-time low for this series, which began in 1980.
Average hourly earnings for production or nonsupervisory workers
bounced around in January and February but recorded a net rise of
only 0.3 percent--lowering the twelve-month change to a tad under
3 percent.
The Longer-Run Outlook for the Economy
In broad terms, the current forecast for 1996 and 1997 is
essentially the same as the last.

Real GDP growth fluctuates around

the 2 percent trend of potential output; the unemployment rate holds
in its recent range; and CPI inflation runs at roughly 3 percent.
Compared with the 1-1/4 percent increase in real output last year,
the projected pickup in the pace of activity largely reflects a
cessation of restraint from inventories.

Indeed, inventories should

add slightly to growth in 1996, with the rebuilding of agricultural
stocks and the swing in nonfarm inventory investment each
contributing positively.
With regard to the outlook for final sales, the overall thrust
of fiscal policy is expected to be closer to neutral in the coming
quarters than was the case in the past several years, and financial
conditions appear to be consistent with output growth near trend.
The rise in longer-term interest rates should bring a halt to the
recent surge in residential construction, but the high level of

I-9
equity prices should help sustain consumer spending.

Real final

sales are projected to advance about 2 percent in 1996 and 1997,
close to the pace seen last year.

However, the predicted

composition of spending involves a step-up of growth in consumer
outlays that offsets a further cyclical moderation of growth in
business fixed investment.
SUMMARY OF STAFF PROJECTIONS
(Percent change, at annual rates, unless otherwise noted)
1995

1996

1997

1.2
1.5

2.2
1.8

2.0
2.0

1.9
1.9

2.1
2.0

2.0
2.1

PCE

2.0

2.5

2.4

BFI

7.3

3.0

3.8

5.5
5.6

5.6
5.6

Real GDP
Previous
Final sales
Previous

Civilian unemployment rate1
Previous

1. Average level in the final quarter of the year indicated.

Personal consumption expenditure.

We are projecting that the

rate of growth of real consumer outlays will move up from 2 percent
in 1995 to 2-1/2 percent in 1996 and 1997--a forecast that has
spending advancing a bit faster than disposable income.

contrast, consumption grew considerably more slowly than income in
1995.
Given the rise in household net worth associated with the
soaring stock market, it might have been expected that the personal
saving rate would have fallen, not risen, last year.

Although there

is a danger of overanalyzing noisy data that have yet to undergo the
usual sequence of annual revisions, some interpretation of this
surprise is necessary in thinking about the outlook.

Several

possible drags on consumer demand can be readily suggested;

(1) The

I-10
widely reported anxiety about job security may have prompted greater
precautionary saving, although such anxiety was not reflected in any
obvious way in the conventional indexes of consumer sentiment.
(2) Increased focus on the shaky finances of social security and
Medicare/Medicaid may have raised households' targets for retirement
saving.

(3) High returns on stocks may have elevated the expected

future yields on saving and encouraged the deferral of consumption.
(4) An increasing number of households may have encountered
limitations on their borrowing capacity.
We do not have a firm scientific basis for sorting out the
importance of the aforementioned hypotheses.

Still, the possibility

that one or more of them does capture a significant force currently
at work has led us to project that consumption will grow only a bit
more quickly than disposable income;

given the positive surprise in

the personal saving rate in the fourth quarter, this places the path
of the saving rate a few tenths of a percent above that in the
January Greenbook and above the annual average for 1995.

Although

this seems to us a reasonable place to be, we think there may be an
upside bias to the risks attending the consumption forecast; we have
assumed only a small effect of stock market wealth on consumption,
but a response more in line with some econometric estimates would
significantly augment the predicted growth of spending.

Moreover,

consumers are likely to continue enjoying ready access to credit,
despite some signs of greater concern on the part of lenders in
light of rising delinquencies; and the latest readings on consumer
sentiment have had a more bullish tone that could foretell near-term
strength in demand.
Residential investment.

Housing starts are projected to turn

down in coming months in response to the backup in mortgage interest
rates.

In light of the forecast that income will continue growing

I-11
moderately and the expectation that mortgage rates will remain
relatively attractive by the standards of the past few decades, only
a modest decline of starts is expected.

Single-family starts are

projected to fall from a 1.16 million unit rate this quarter to a
bit below 1.1 million units in 1997.

In the multifamily market,

activity is expected to continue its gradual recovery from the
extraordinarily low levels of building earlier this decade.

Starts

should edge up from 300,000 units this year to 310,000 units next
year.

Credit for construction and permanent financing of income

properties reportedly is readily available.
Business fixed investment.

The cyclical rebound in business

capital spending probably has run its course.

Real growth of

business fixed investment is projected to average 3 percent this
year and 4 percent next, a pace just a little below that in recent
quarters; growth averaged near 10 percent in 1993 and 1994.

The

most important cyclical factor--the output "accelerator," which
posits a relationship between the level of investment spending and
lags of the growth of output--is expected to restrain investment
slightly over the projection period.

Notably, declines in capacity

utilization over the past year indicate less need for additions to
plant and equipment in the industrial sector.
Real spending for producers' durable equipment is expected to
advance 3 percent in 1996 and 5 percent in 1997.

With technology

advancing rapidly and computer prices continuing to fall (encouraged
in the near term by the recent sharp declines in semiconductor
costs), demand for computers is likely to remain robust; we are
projecting annual percentage increases in the teens for real
computer outlays.

This rate of growth would be well below the pace

of the past few years, reflecting our belief that computers are

I-12
likely to share in the general deceleration of equipment spending-and also reflecting a sense that computer penetration in the
business market has reached the point at which demand is
increasingly determined by decisions to replace existing machines.
(A caveat:

No matter how high we forecast computer sales in the

past few years, our predictions quite consistently turned out to
have been too low!)

Business outlays for motor vehicles are

expected to decline a bit this year, though not as much as they did
in 1995, and then to turn up modestly in 1997.

Outside of computers

and motor vehicles, investment in producers' durable equipment is
expected to be lackluster, with growth averaging only about
1 percent in real terms--despite an upturn in purchases of aircraft.
In the nonresidential construction area, a cyclical slowing of
outlays is also expected, reducing growth from 6 percent in 1995 to
3 percent in 1996 and 1 percent in 1997.

The recent downturn in

contracts and permits might be signaling a more pronounced
softening, but there are a number of indicators pointing
convincingly toward some buoyancy in building activity:

Vacancy

rates have been falling and rents firming in a number of sectors;
financing for commercial construction reportedly is in abundant
supply; and although the general view is that existing retail space
is excessive, many of the expanding chains continue to prefer
building new "big boxes."
Business inventories.

A slowing pace of inventory accumulation

restrained real GDP growth 3/4 of a percentage point over 1995,

firms acted to bring stocks into better alignment with slower
growing final sales.

As noted earlier, the lower-than-expected rate

of inventory accumulation in the fourth quarter appears to have
brought stocks considerably closer to desired levels, especially
outside of the motor vehicle sector, while the drawdown of auto

I-13
stocks this quarter is likely to result in a lean aggregate
inventory level in that sector.

After an expected resumption of

stockbuilding in the second quarter--which adds 1-1/4 percentage
points to GDP growth that quarter--we are projecting that
inventories will be a neutral factor for output growth.

The ratio

of stocks to sales is projected to edge down gradually as efforts to
economize on inventory costs continue.
Government.

Assumptions regarding federal purchases are little

changed from the previous Greenbook:

Real consumption and

investment expenditures are expected to decline 2-1/2 percent in
1996 and 1997.

The defense and nondefense components are projected

to decline at similar rates.
The fiscal position of state and local governments appears to
be relatively healthy in the aggregate.

Although pressure to cut

taxes may cause effective tax rates to edge down over the next two
years, these governmental entities should be able to increase real
purchases 2-1/2 percent in 1996 and 1997--close to the average so
far in the current expansion--without causing budgetary strains.

course, reforms in welfare or Medicaid, which would alter patterns
of grants to states considerably, could have effects on finances
within the sector; but at the moment, it is hard to see changes
being enacted that would have significant macro consequences within
the forecast period.
Net exports.

Although real exports are expected to grow fairly

rapidly, the high propensity to import in conjunction with the
projected step-up in GDP growth suggests that import growth will be
fast enough to cause some deterioration of our real net export
balance.

The trade sector is expected to directly reduce real GDP

growth about 1/4 percentage point in 1996 and somewhat less in

I-14
1997.2
complete

(See the International Developments section for a more
discussion.)

Labor markets.

The overall contour of the labor projection has

productivity advancing close to its trend rate of 1.0 percent and
the unemployment
monthly gains

rate holding at around 5.6 percent.

After March,

in payroll employment should average about 100,000.

Last year, although real GDP growth fell short

of potential, the

unemployment rate was little changed as the participation rate fell.

We expect the participation rate to retrace that decline this year-indeed, in January-February, it rose close to our estimate of its
"equilibrium" level--thus enabling real GDP growth to be a bit above
trend without putting downward pressure on the unemployment rate.
Also, the expected rebound of farm output adds a small positive
wedge this year between growth rates of GDP and labor input.
Wages and prices.

Perhaps the biggest news in data about labor

costs and prices received since the January Greenbook was the sharp
increase in health insurance expenses contained in the employment
cost index

(ECI) for the three months ending in December.

Overall

benefit costs jumped to a 5-1/2 percent annual rate of increase from
an average annual rate of growth of 1-1/2 percent in the first three
quarters of 1995.

We had been expecting that benefit costs would

accelerate from the very low rates of growth that prevailed earlier
in 1995, but the increment was well above our forecast.
variability of the quarterly numbers

Given the

(and the possibility that the

2. The outlook for real exports could be a bit weaker than our
forecast if BEA's estimates of prices of exported semiconductors are
We have found it puzzling that BEA
similar to figures used in 1995.
estimated that prices of semiconductor exports rose in 1995
following years of annual declines of at least 20 percent based on
If these prices would have declined, say,
hedonic indexes.
15 percent in 1995, real exports would have risen an additional
$13 billion (or nearly 2 percent) over the year. Prices of imported
semiconductors declined in 1995, as they had in prior years. Over
the forecast period, we have approximately neutralized the net
effect of diverging prices for exported and imported semiconductors
by projecting the same rate of decline for both series.

I-15
delay in the survey, owing to the government shutdowns, might have
distorted the results), we have reacted cautiously to the surprise
and raised our projection of the growth rate of ECI benefits less
than 1/2 percentage point.

Overall, we expect that the tightness of

the labor markets--and some pickup in consumer price inflation

(see

below)--will be reflected in a modest elevation of compensation
gains.

The ECI index for compensation of private industry workers

is expected to accelerate from growth of 2.8 percent in 1995 to
3.0 percent in 1996 and 3.3 percent in 1997.

SUMMARY OF STAFF INFLATION PROJECTIONS
(Percent change, Q4 to Q4, except as noted)

Consumer price index
Previous
Excluding food and energy
Previous
Employment cost index 1
Previous

1995

1996

1997

2.7
2.7

3.1
3.0

3.0
2.9

3.1
3.1

2.9
2.8

3.1
3.0

2.8
2.6

3.0
2.8

3.3
3.1

1. Compensation of private industry workers, percent change from
final month of previous year to final month of year indicated.

On the view that firms' profit margins are ample, only part of
the upward revision in the projection for labor costs has been
passed through to prices.

The core CPI is expected to increase

2.9 percent in 1996 and 3.1 percent in 1997, up a tenth of a point
each year compared with the January Greenbook.

Core inflation in

1996 is expected to be held down by more-favorable import prices and
the pass-through of recent declines in prices of raw materials and
intermediate goods.
The overall CPI is projected to increase about 3 percent in
both 1996 and 1997, up somewhat from the pace of the past couple of
years.

Because of the increases that have occurred in grain and

oilseed prices, we are anticipating that--even on the assumption of

I-16
normal crop yields--retail food prices will move up a little faster
than they have in recent years, at a pace about in line with core
inflation.

Apart from the uncertainties associated with the crop

outlook, a wild card in the food price projection is the potential
volatility of meat prices that could be set off by producers'
decisions about herd sizes and slaughter rates.

Although changes in

agricultural technology may have altered the timing and dimension of
livestock supply adjustments from what has been observed in the
past, we suspect that the squeeze on margins will prompt producers
to trim their herds this year after several years of buildup.
Indeed, if the anticipated selloff of herds turns out to be heavy,
increases in meat prices this year could be smaller than we are
forecasting--but with the twist that price increases farther down
the road might then turn out to be larger than we currently are
predicting.
As noted previously, developments in the oil market have
already left their mark on the CPI and will tend to boost the CPI
for a few more months.

Although we expect retail energy prices to

flatten out in the second half of the year, the less-favorable Q4/Q4
change in these prices is the biggest factor in our forecast of an
acceleration of the total CPI in 1996.

In 1997, the assumed

stability of the price of crude oil makes retail energy prices a
slight favorable factor in the overall consumer inflation outlook.
Alternative Simulations
We have run two model simulations in which the funds rate is
symmetrically raised or lowered relative to the assumption in the
Greenbook.

Deviations from baseline start at 50 basis points in the

second quarter of this year and increase to 100 basis points in the
third quarter and beyond.

In the lower-rate scenario, real GDP

growth is 1/4 percentage point higher this year and 3/4 percentage

I-17
point higher in 1997.

The unemployment rate is reduced

0.3 percentage point by the end of 1997, and core CPI inflation is
0.3 percentage point higher than in the baseline forecast.
effects of the tighter policy scenario are symmetric.
ALTERNATIVE FEDERAL FUNDS RATE ASSUMPTIONS
(Percent change, Q4 to Q4, except as noted)
1996

1997

Real GDP
Baseline
Lower funds rate
Higher funds rate

2.2
2.4
2.0

2.0
2.7
1.3

Civilian unemployment rate
Baseline
Lower funds rate
Higher funds rate

5.6
5.5
5.7

5.6
5.3
5.9

CPI excluding food and energy
Baseline
Lower funds rate
Higher funds rate

2.9
2.9
2.9

3.1
3.4
2.8

1. Average for the fourth quarter.

The

STRICTLY CONFIDENTIAL <FR>
CLASS II FOMC

STAFF PROJECTIONS OF CHANGES IN GDP, PRICES. AND UNEMPLOYMENT
(Percent, annual rate)

Norinal GDP

Real GDP

Consumer price index

March 21

1996

Uneinployment rare (level)

Interval

S
ANNUAL

01/26/96

03/21/96 I

01/26/96

03/21/96

01/26/96

03/21/96

01/26/96

2.2
3.5
2.1
1.8
2.1

2.2
3.5
2.0
1.9
2.1

3.0
2.6
2.8
2.8
2.9

3.0
2.6
2.8
2.9
30

6.8
6.1
5.6
5.6
56

6.8
6.1
56
5.6
A

0.0

0. [

0.0

03121/96

1993
1994
1995
1996
1997

4.9
5.
4.7
4.5
4.6

4.9
5.8
4.5
4.3
4.8

QUARTERLY
---------------------- I

1994

Q I
Q2 I
Q3 1
Q4

1995

Q I
Q2
Q3
Q4

1996

Q I
Q2 I

Q3
Q4I
1997

QI
Q2 I
Q3
Q4
I

TWO-QUARTER
1994
1995
1996

Q2
Q4 I
1
Q2
Q4
Q2 I
Q4
Q4

FOUR-QUARTEI
1993
1994
1995
1996
1997

Q4 I
Q4 I
Q4
Q4
4
Q I

STRICTLY CONFIDENTIAL <FR>
CLASS II FOMC

REAL GROSS DOMESTIC PRODUCT AND RELATED ITEMS, QUARTERLY VALUES
(Seasonally adjusted, annual rate except as noted)

March 21, 1996

1993
Ql

1993
Q2

1993
Q3

1993
Q4

1994
Q1

1994
Q2

1994
Q3

1994
Q4

1995
QI

1995
Q2

6442.8
6327,0

6503.2
6353.7

65713
6390.4

6683.7
6463.9

6772.8
6504.6

6885.0
6581.5

6987.6
6639.5

7080.0
6691.3

7147.8
6701.6

7196.5
6709.4

0.0
0.9
-0.8
1.4

1.7
2.4
1.5
2.8

2.3
3.7
2.3
4.4

4.7
4.4
4.8
5.4

2.5
3.4
1.2
3.7

4.8
5.4
2.8
4.5

3.6
3.6
4.2
3.6

3.2
2.7
3.6
4.1

0.6
1.4
0.7
2.1

0.5
0.9
1.8
2,6

Personal cons. expend.
Durables
Nondurables
Services

0.7
0.8
-0.9
1.6

2.7
11.2
2.3
1.3

3.8
7.3
2.9
3.6

2-8
10.2
17
1.9

2.6
5.8
3.8
1.4

3.6
4.3
3.3
3.6

2.5
5.6
4.0
1.2

3.3
12.6
3.2
1.4

0.8
-8.7
2.4
2.1

3.4
7.0
1.9
3.4

Business fixed invest.
Producers' dur. equip.
Nonres. structures
Res. structures

6.0
7.1
3.5
2.1

6-3
11.4
-5.3
-5.1

4.7
6.3
0.8
13.2

17.5
21.7
7.5
24.3

7.3
15.6
-11.8
12.8

7.1
4.1
15.7
12.7

13.7
19.3
0.2
-1.8

12.2
11.9
13.0
-0.1

153
174
9.9
-63

3.6
37
3.4
13.3

Expons
Exports

0.4
9.6

7.9
14.5

-7.9
4.9

21.5
17.0

-0.6
7.5

14.8
19.1

12.2
11.0

15.3
9.3

2.6
8.7

4.6
7.7

-4.7
-13.1
-15.6
1.7

0.
-4.9
-5.2
3.9

1.0
-2.9
-5.8
3.8

1.5
-0.7
-0.5
3.0

-4.2
-11.1
-17.0
0.7

-0.8
-5.3
0.7
2.2

7.0
11.5
13.3
4.2

-1.4
-5.9
-16.1
1.6

11
-6.3
-7.0
2,3

0.9
-1.
0.9
2.1

19.4
26.0
-55.2

21.6
26.7
-67.0

20.1
30.9
-89.1

18.0
22.1
-86.2

40.8
29.8
-101.3

75.1
54.1
-112.2

64.9
50.1
-113.3

57.9
53.3
-105.8

3.8

4.3

7.0

5.4

6.8

6.1

5.4

109-7
7.2

110.4
7.1

111.0
6.8

111.8
6.6

112.7
6.6

113.6
6.2

114.5
6.0

115.3
5.6

116.1
5.5

1164
5.7

3.7
80.6

0.5
80.3

3.2
80.4

5.5
81.1

8.4
82.2

7.0
83.2

4.6
83.4

6.4
84.3

3.9
82.9

-1.4
82.6

Units

EXPENDITURES
Nominal GDP
Real GDP

I Bill. S
I Bill. Ch. S

Real GDP
Gross domestic purchases
Final sales
Private dom. final purch.

S%change
I

Imports
Government purchases
Federal
Defense
State and local
Change in bus. invent
Nonfarm
Net exports
Nominal GDP

SBil Ch. S

% change

54.5
58.1
-119.0

3.9

30.6
33.8
-126.8

2.8

EMPLOYMENT AND PRODUCTION
Nonfarm payroll employ.
Unemployment rate

I Millions

Industrial prod. index
Capacity utiL rate-mfg

Housing starts
Light motor vehicle sales

I Millions
I

1.16
S 13.23

1.25
14.11

1.31
13.69

1.47
14.53

1.36
15.45

1.44
14.76

1.47
14.65

1.51
15.44

1.31
14.A0

1.28
14.35

I Bill $
1% change
I

S6458.4
4.3
S -5.7
-8.1
S 4.2

6512.3
3.4
8.8
5.2
4.8

6584.8
4.5
2-9
1.1
4.2

6684.5
6.2
8.3
5.0
4.7

6773.6
5.4
-3.3
-5.3
2.8

6876.3
6.2
13.6
10.1
4.2

6977.6
6.0
4.2
2.1
4.1

7062.2
4.9
6.5
4.0
4.2

7140.5
4.5
7.1
3.6
4.8

7187.0
2.6
4.5
0.0
4.0

S -1.2
S 6.6

22-9
6.9

19.7
7.1

422
7.7

-37.5
6.7

84.7
7,7

14.5
7.9

14.6
8.1

-6.4
7.8

1.1
7.8

-283.7
S 80.5
S 13.3

-249.2
89.1
22.0

-253.5
94.9
28.1

-232.4
115.0
48.5

-212.9
94.8
29.0

-169.9
105.2
41.1

-186.3
99.6
37.9

-190.4
99.3
39.4

-173.3
99.0
40.2

-160.5
99.0
40.9

3.8
3.1
3.5

2.1
2.8
3.5

1.9
1.7
2.4

2.2
3.4
2.9

2.8
2.2
2.9

1.9
2.5
2.9

2.4
3.6
3.1

2.2
2.2
2.3

3.2
3.2
3.3

2.3
3.2
3,6

4.2

3.5

3.4

3.0

3.4

3.3

2.6

2.3

2.9

-3.9
1.0
5.1

-1.7
2.7
4.5

2.1
2.0
-0.1

1.6
1.1
-0.5

-2.5
3.3
5.9

1.9
2.1
0.2

2.6
1.2
-1.4

0.9
3.3
2.4

-11
3.7
4.9

3.0
5.4
2.3

I%
191

INCOME AND SAVING
Nominal GNP
Nominal GNP
Nominal personal income
Real disposable income
Personal saving rate
Corp. profits, IVA & CCAdj
Profit share of GNP
Federal govt. surpl/def.
State/local surpl def.
Ex- social ins. funds

1%
% change
ill
Bill.$

PRICES AND COSTS
GDP implicit deflator
CPI
Ex. food and energy
ECI, hourly compensation
Nonfarm business sector
Output per hour
Compensation per hour
Unit labor cost

I% change

S
S
S

STRICTLY CONFIDENTIAL <FR>
CLASS II FOMC

REAL GROSS DOMESTIC PRODUCT AND RELATED ITEMS, QUARTERLY VALUES
(Seasonally adjusted, annual rate except as noted)

March 21. 1996

Projected
Units

I
I

1995
Q3*

1995
Q4

1996
QI

1996
Q2

1996
Q3

1996
Q4

1997
QI

1997
Q2

1997
Q3

1997
Q4

7298.5
6768.3

7335.9
6773.3

7416.7
6797.9

7523.0
6855.3

7603.8
6885.6

7695.2
6925.2

7788.5
6960.6

7880.1
6996,3

7962.6
7026.7

8061 7
7066.7

EXPENDITURES
Nominal GDP
Real GDP

.ill.
ill Ch. S

Real GDP
Gross domestic purchases
Final sales
Private dom. final purch.

Schange

3.6
2.8
3.4
3.3

0.3
-0.8
1.9
1.8

1.5
1.8
2.2
2.9

3.4
3.5
2.1
2.5

1.8
2.3
1.6
2.5

2.3
20
2.4
2.3

2.1
2.0
2.1
2.5

2.1
2,2
2.0
2.4

1.8
2.3
1.7
2.5

2.3
2.2
2.4
2.5

Personal cons. expend.
Durables
Nondurables
Services

2.8
9.4
0.5
2.6

1.1
2-1
-0.7
1.8

2.5
9,5
-0.7
2.7

2.4
3.4
1.8
2.5

2.7
4.8
2.2
2.5

2.5
3.4
2.2
2.5

2.5
2.9
2.2
2.5

2.3
2.4
22
2.4

2.4
3.3
2,2
2.4

2.5
3.5
2.2
2.4

Business fixed invest.
Producers' dur.equip.
Nonres. structures
Res. structures

5.2
4.8
6.2
9.2

5.4
6.2
3.4
4.4

4.2
3.9
5.2
6.6

1.9
2.2
1.0
6.7

2.9
3.1
2.3
-2.8

2.9
3.2
2.0
-2.5

4.0
4.8
1.7
-1.2

3.8
4.7
1.1
0.0

3.7
4.6
1.1
0.8

3.5
4.8
-0.2
0.4

Exports
Imports

8.0
1.0

10.5
0.6

5.1
7.4

9.5
9.8

4.1
7.6

11.6
7.9

7.0
6.2

10.8
10.7

5.0
8.3

11.3
9.2

Government purchases
Federal
Defense
State and local

-0.7
-5.9
-8.1
2.7

-3-7
-11.9
-11.6
1,7

0.7
-3.2
0.5
3.0

0.7
-1.9
-5.2
2.2

0.2
-3.4
-3.6
2.2

1.1
-0.9
-1.3
2.1

0.3
-3.5
-3.9
2.5

0.9
-2.0
-2.5
2.5

0.5
-3.1
-2.9
2.5

1.0
2.3
-1.6
2.7

Change in bus. invent.
Nonfarm
Net exports

ill, Ch. S

Nominal GDP

i change

33.2
38.3
-114.3

95
127
-95,9

-2.7
-1.1
-102.0

20.0
19.1
-104.9

23.9
21.5
-113.6

22.1
19.6
-108.6

21.3
18.7
-108.8

22.0
19.4
-111.4

23.5
20.8
-120.6

22.4
19.6
-118.8

5.8

2.1

4.5

5.9

4.4

4.9

4.8

4.3

5.1

116.8
5.6

117.2
5.5

117.6
5.6

118.0
5.6

1183
5.6

118.7
5,6

119.0
5.6

119.3
5.6

119.7
5.6

120.0
5.6

3.2
826

0.4
82-0

0.9
81.4

5.3
81.7

2.7
81.5

3.1
81.4

2.7
815

27
81.5

2.2
81.4

3.2
81.6

EMPLOYMENT AND PRODUCTION
Nonfarm payroll employ.
Unemployment rate

dillions
,b

Industrial prod. index
Capacity util. rate-mfg

Schange
S

Housing starts
Light motor vehicle sales

lillions

1.42
15.04

1.41
14.91

1.47
15.00

1.44
14.60

1.40
14.65

1.39
14.70

1.39
14.74

1.39
14.75

138
14.77

1.38
14-80

Nominal GNP
Nominal GNP
Nominal personal income
Real disposable income
Personal saving rate

lil. $
o change

7283.0
5.5
S 5.0
4.5
4.4

7334.9
2.9
5.3
3.8
4.9

7414.7
4.4
6.3
3.8
52

7514.3
5-5
4.8
0.1
4.7

7596.1
4.4
4.9
3.5
4.9

7682.6
4.6
4.6
1.6
4.7

7778.6
5.1
5.7
3.2
4.9

7865.0
4.5
4.7
1.7
4.7

7950.6
4.4
5-0
2.3
4.7

8043 1
4.7
5.5
2.3
4.7

Corp. profits. IVA & CCAdj
Profit share of GNP

E change

Federal govt. surpl./def.
State/local surpl./def.
Ex. social ins. funds

3il $

I
I

INCOME AND SAVING

&
e

44.I
8.4

-12.6
8.1

-55
7.9

14.7
8.1

-0.2
8.0

7-7
8.0

5.3
8.0

4.1
8.0

1-8
8.0

0.4
7.9

-161.6
S 93.9
S 35.8

-159.7
88.1
30.5

-187.8
84.5
27.2

-147.5
85.2
28.3

-162.2
85.3
28.7

-171.7
87.0
30.7

-176.8
88.3
32.3

-175.9
90.8
35.0

-174.4
89.2
33.6

-184.8
92.0
36.6

PRICES AND COSTS
GDP implicit deflator
CPI
Ex. food and energy
ECI, hourly compensation
Nonfarm business sector
Output per hour
Compensation per hour
Unit labor cost
* Published

o change

2.2
2.1
2.5

1.8
2.1
2.5

3.0
3.2
2.7

2.4
3.4
2.8

2.5
2.9
3.0

2.8
3.0
3.1

2.7
3.0
3.1

2.5
3.0
3.1

2.7
3.0
3.1

2.3

3.5

2.9

3.0

3.1

3.2

3.3

1.4
3.6
2.1

1.1
3.9
2.8

1.1
3.8
2.6

0.6
3.8
3.1

1.3
3.9
2.5

17
4.3
2.5

-1.0
3.0
3.5

2.1
6.4
4.2

-0.4
0.8
1.2

0.6
3.7
3-1

STRICTLY CONFIDENTIAL <FR>
CLASS II FOMC

CONTRIBUTIONS TO GROWTH IN REAL GROSS DOMESTIC PRODUCT AND RELATED ITEMS

March 21, 1996

Projected
Item

1995
Q3*

1995
Q4

1996
QI

1996
Q2

1996
Q3

IProjected
1996
Q4

1997
Ql

1997
Q2

1997
Q3

1997
Q4

I
1

95Q4/
94Q4

96Q4/
95Q4

97Q4/
96Q4

Real GDP
Gross domestic purchases

1
I

3.6
2.8

0.3
-0.8

1.5
1.8

3.4
3.6

1.8
2.3

2.3
2.0

2.1
2.1

2.1
2.2

1.8
2.3

2.3 1
2.2 1

1.2
.1

2.2
2.4

2.0
2.2

Final sales
Private dom. final purch.

3.4
2.7

1.8
1.4

2.2
2.4

2.1
2.1

1.6
2.0

2.4
1.9

2.1
2.1

2.0
2.0

1.7
2.1

2.4 1
2.1 1

1.9
2.0

2.1
2.1

2.0
2.1

1.9
0.8
0.1
1.1

0.8
0.2
-0.1
0.7

1.7
0.8
-0.1
1.0

1.6
0.3
0.4
1.0

1.8
0.4
0.5
1.0

1.7
0.3
0.5
1.0

1.6
0.2
0.5
0.9

1.7
0.3
0.4
0.9

1.7
0.3 1
0.5
0.9 I

1.4
0.2
0.2
0.9

1.7
0.5
0.3
1.0

1.7
0.3
0.5
0.9

0.5
0.4
0.2
0.3

0.6
0.5
0.1
0.2

0.5
0.3
0.1
0.3

0.2
0.2
0.0
0.3

0.3
0.2
0.1
-0.1

0.3
0.3
0.1
-0.1

0.4
0.4
0.0
-0.0

0.4
0.4
0.0
0.0

0.4

0.2
0.3
-0.1

-1.4
-1,5
0.1

-0.7
-0.8
0.1

1.4
1.2
0.1

0.2
0.1
0.1

-0.1
-0.1
0.0

-0.0
-0.1
0.0

0.7
0.9
0.1

1.1
1.2
0.1

-0.4
0.6
1.0

-0.2
1.1
1.3

-0.5
0.5
1.0

0.3
1.4
1.1

-0.1
-0.4
-0.4
-0.0
0.3

-0.7
-0.9
-0.6
-0.3
0.2

0.1
-0.2
0.0
-0.2
0.3

0.1
-0.1
-0.2
0.1
0.3

0.0
-0.2
-0.2
-0.1
0.3

-0.0

-0.2

-0.0

0.0

Personal cons. expend,
Durables
Nondurables
Services
Business fixed invest.
Producers' dur. equip.
Nonres. structures
Res. structures
Change in bus, invent.
Nonfarm
Farm
Net exports
Exports
Imports
Goverment purchases
Federal
Defense
Nondefense
State and local
GDP Residual

1
1
1

I
I

* Published
Components may not sum to total due to rounding.

0.0
0.0

0.4
04
-0.0 I
0.0 I

0.7
0.6
0.1
-0.1

0.3
0.3
0.1
0.1

0.4
0.4
0.0
-0.0

0.0
0.0
0.0

0.1
0.1
0.0

-0.1 I
-0.1 1
0.0

-0.7
-0.6
-0.1

0.2
0.1
0.1

0.0
-0.0
0.0

-0.0
0.8
0.9

-0.2
1.3
1.5

-0.5
0.6
1.2

0.1
1.4
1.3 1

0.1
0.7
0.6

-0.2
0.9
1.1

-0.1
1.1
1.2

0.2
-0.1
-0.1
-0.0
0.3

0.1
-0.2
-0.2
-0.1
0.3

0.2
-0.1
-0.1
-0.0
0.3

0.1
-0.2
-0.1
-0.1
0.3

0.2 1
-0.1
-0.1
-0.1
0.3

-0.2
-0.5
-0.3
-0.1
0.3

0.1
-0.2
-0.1
-0.1
0.3

0.0

0.0 I

0.0

0,0

0.0

0.4

Strictly Confidential (FR)
Class II FOMC

STAFF PROJECTIONS OF FEDERAL SECTOR ACCOUNTS AND RELATED ITEMS
(Billions of dollars except as noted)
Fiscal year

Item

1994

1995&

1995

1996

1997

1996
Q3

Q4b

1997
Q3

Not seasonally adjusted

UNIFIED BUDGET
1

Receiptsi
Outlays
1
Surplus/deficit
On-budget
Off-budget
Surplus excluding
2
deposit insurance
Means of financing
Borrowing
cash decrease
3
Other
Cash operating balance,
end of period

1257
1461
-203
-259
56

1351
1514
-164
-226
62

1417
1577
-160
-228
68

1463
1655
-192
-248
56

307
380
-73
-85
12

404
381
23
-11
34

333
373
-40
-43
2

324
380
-56
-69
14

316
397
-81
-92
11

423
396
27
-13
40

354
404
-50
-54
3

338
415
-77
-81
4

317
419
-102
-113
11

441
407
34
-4
38

367
414
-47
-50
3

348
433
-86
-87
2

-210

-181

-169

-195

-79

-42

-59

-84

-52

-78

-103

-47

-86

185
17
1

171
-2
-5

162
-22
20

193
0
0

66
8
0

26
-42
-7

20
23
-2

33
17
5

59
6
17

-2
-27
3

73
-18
-5

55
25
-3

74
20
9

12
-45
-1

52
0
-5

64
25
-3

NIPA FEDERAL SECTOR
Receipts
Expenditures
Consumption expend.
Defense
Nondefense
Other expenditures
Current account surplus
Gross investment
Current and capital
account surplus
FISCAL INDICATORS

March 21, 1996

Seasonally adjusted, annual rate
1354
1554
450
307
143
1104
-200
67

1459
1630
455
304
151
1175
-171
65

1519
1685
447
298
149
1238
-165
61

1590
1764
446
299
148
1317
-174
61

1449
1623
455
303
152
1168
-173
65

1483
1644
456
305
151
1188
-161
67

1487
1648
453
301
152
1195
-162
63

1489
1650
451
299
152
1198
-160
57

1502
1692
449
299
150
1242
-190
62

1543
1691
444
297
147
1247
-148
62

1544
1706
443
296
147
1264
-163
62

1563
1735
445
298
147
1290
-172
61

1581
1757
447
299
148
1310
-176
61

1600
1773
447
299
148
1326
-174
61

1617
1789
446
299
147
1343
-172
61

1636
1817
447
300
146
1371
-181
61

-267

-237

-226

-235

-238

-227

-225

-217

-252

-210

-225

-234

-238

-235

-233

-242

-263

-262

-252

-269

-265

-248

-253

-243

-274

-238

-253

-265

-272

-271

-270

-282

High-employment (HEB)
surplus/deficit
Change in HEB, percent
of potential GDP
Fiscal impetus (FI),
percent, cal, year

-.6
-6.4

0
-5.6

-. 1

-.3

-.2

-.1

-.5

-7.7

-2 7

-1.9

-.8

-1.4

-4 6

-2 2

-1.7

-. 1

- 1

-1.1

-.7

- 9

-.7

1. OMB's March 1996 baseline deficit estimates (assuming discretionary spending at OBRA93 caps, and an extension of the expired trust fund excise
taxes) are $161 billion in FY96 and $144 billion in FY97. CBO's December 1995 baseline deficit estimates (including the fiscal dividend from assumed
Budget receipts, outlays, and surplus/deficit include
enactment of congressional budget program) are $172 billion in PY96 and $182 billion in FY97
corresponding Social Security (OASDI) categories. The OASDI surplus is excluded from the on-budget deficit and shown separately as off-budget, as
in FY90
outlays
beginning
in
off-budget
deficit
is
included
Postal
Service
classified under current law. The
2 OMB's March 1996 baseline deficit estimates (assuming discretionary spending at OBRA93 caps, and an extension of the expired trust fund excise
CBO's December 1995 baseline deficit estimates
taxes), excluding deposit insurance spending, are $169 billion in FY96 and $148 billion in FY97.
(including the fiscal dividend from assumed enactment of congressional budget program), excluding deposit insurance spending, are $180 billion in
FY96 and $186 billion in FY97.
3. Other means of financing are checks issued less checks paid, accrued items, and changes in other financial assets and liabilities.
4. HEB is the NIPA current and capital account surplus in current dollars, with cyclically sensitive receipts and outlays adjusted to the level
of potential output generated by 1.8 percent real growth and an associated unemployment rate of 6 percent. Quarterly figures for change in HEB and
FI are not at annual rates. Change in HEB, as a percent of nominal potential GDP, is reversed in sign. FI is the weighted difference of discretionary
For change in HEB and FI,
changes in federal spending and taxes (in chained 1992 dollars), scaled by real federal consumption plus investment.
negative values indicate restraint.
a--Actual
b--Preliminary

DOMESTIC FINANCIAL DEVELOPMENTS
Summary

The announcement of an easing in monetary policy after the
January FOMC meeting led to further declines in short-term interest
rates, and market participants seemed to expect additional
reductions in the funds rate by early summer.

In recent weeks,

however, interest rates have risen sharply as incoming information
dashed the notion that the economy was lapsing into a period of
seriously subpar performance and the prospects for a broad fiscal
agreement continued to fade.

Three-month bill rates are up 2 basis

points since late January, and the short-term rate curve indicates
that no policy easing is expected.

In the coupon sector, interest

rates on Treasury notes and bonds have climbed 55 to 65 basis
points, on net, despite some decline in recent days.

The rise in

rates on private market bonds has about matched that on Treasuries,
keeping quality spreads historically low.
Equity prices have run counter to bond prices, with most major
stock indexes advancing 3 percent to 5-1/2 percent over the
intermeeting period in active and volatile trading.

On Friday,

March 8, after the unexpectedly strong employment report was
released, the broader indexes fell an extraordinary 3 percent; there
were no signs of panic, however, and the market turned up nicely in
the following week.
The resilience of equity prices in the face of rising bond
yields has been all the more surprising given that over the past
several weeks securities analysts have, if anything, revised down
their estimates of corporate earnings for 1996.

Price-to-earnings

ratios, whether measured with backward-looking earnings or analysts'
expectations of future profits, now appear somewhat elevated
compared with readings over the past year or two.
I-23

However, these

I-24
and other measures of relative returns on equities have not been
particularly helpful in the past in foreshadowing significant
declines in stock prices--that is, apparent "overvaluations" have
often persisted until a major shock, often a substantial tightening
of monetary policy, triggered a correction.
The broad monetary aggregates have grown swiftly of late.

expanded at a 5-1/4 percent annual rate in February following a
4-3/4 percent rise in January; M3 advanced at a 10 percent pace last
month, up from a 7-1/4 percent pace in January.

Both aggregates

have gotten a lift from money market mutual funds, which became more
attractive as their returns lagged the drop in short-term market
yields.

Data for early March point to an acceleration of M2 and

continued rapid growth of M3, pushing both aggregates further above
their respective annual ranges.
In contrast, bank credit expansion slowed to a 3-1/2 percent
rate in February, as weaker loan growth more than offset a rise in
securities purchases.

Consumer loans were about flat, and real

estate lending slowed.

Demand by investors for paper backed by

consumer receivables, home equity loans, and fixed-rate mortgages
has remained strong, inducing banks to securitize these types of
credits.

However, even after adjusting for securitizations,

consumer loans at banks expanded at just over half the average rate

recorded in the past year.

Business loans at banks rose at a

6 percent rate last month, down from January but about the same pace

registered in late 1995.

Moderate growth of business loans does not

appear to reflect supply constraints:

Banks reportedly have

continued to compete aggressively for commercial and industrial
loans, and in February the average spread over the federal funds
rate was the narrowest in a decade.

I-25
Gross public

offerings of corporate bonds were strong until

mid-February, when the backup in interest

rates prompted

postponements

Even so,

or outright cancellations.

nonfinancial firms last month was up
the elevated pace

bond issuance for

from January and

in the fourth quarter of 1995.

about matched

Financing for

corporate restructuring has been an important factor boosting
issuance of bonds and adding to the growth of nonfinancial
commercial paper.
Gross equity issuance also increased in February and remained
high in early March.

The strong stock market has

provided a

particularly favorable environment for initial public offerings by
young firms;

IPOs have accounted for about half the nonfinancial

equity issued since late 1995.
resulting from mergers

Nonetheless,

share retirements

and acquisitions and from share repurchases

continued to exceed new issues by a substantial margin.
Available data for the household sector suggest that
has been well maintained in recent months.
credit in January was about
half of 1995,

Growth of total consumer

unchanged from the pace in the second

although lending at banks implies there was some

slowing in February.

Mortgage borrowing appears to have risen

during the current quarter;
those

borrowing

however, loan applications--especially

for refinancing rather than home purchase--declined sharply in

response to the recent backup in rates.

The latest readings on

consumer and mortgage loan delinquencies, covering the closing
months of 1995,

show some further deterioration, but there are no

signs that this worsening in loan quality has resulted in major
shifts in overall credit demand or supply.
State and local governments, like corporations, had been taking
advantage of lower interest
and

rates by refinancing higher-cost debt,

gross issuance of tax-exempt bonds dropped sharply in

I-26
mid-February when potential interest savings evaporated.

Overall,

state and local debt continues to contract owing to the large volume
of pre-refunded securities now being retired as call dates arrive.
The enactment of legislation temporarily resolving the
debt-ceiling impasse allows the Treasury to meet its financing needs
through March 29,

and borrowing is expected to total nearly

$60 billion in the first quarter.
Outlook
The staff's economic projection assumes no change in the
federal funds rate over the forecast period.

Bond yields are

expected to change little, possibly retracing a touch more of their
recent run-up in yields in coming weeks.

Although moderate economic

growth and inflation should be compatible with further gains in
corporate profits, current share valuations seem optimistic, and we
expect that the stock market will face difficulty in extending its
uptrend.
The recent easings of monetary policy, which have narrowed the
spread of short-term market interest rates over the deposit interest
rates offered to households, are likely to continue to boost M2 for
a while longer; growth in 1996 is expected to be somewhat above its
annual growth range.
small decline.

As in 1995, M2 velocity seems likely to post a

The strong expansion of M3 in 1995 should be

sustained this year, although bank credit growth is likely to remain
moderate.

Banks are anticipated to put greater emphasis on deposit

funding, in part owing to the absence of insurance premiums.

With

market interest rates assumed stable in 1997, the rates of expansion
of the broad monetary aggregates are projected to ease off slightly
and velocity to flatten out.
Growth of domestic nonfinancial debt, which was 5-1/2 percent
in 1995, is projected to be 5 percent in 1996 and 4-3/4 percent in

I-27
1997.

The reduction reflects a slowing of growth in credit to

households and businesses.

A pickup in federal debt growth, owing

to a rise in the deficit, will somewhat offset the moderation in
nonfederal debt.
Growth of business debt is projected to slow to 4-1/2 percent
next year and 4-1/4 percent in 1997,
last year.

compared with 6-1/2 percent

We are not anticipating a significant slackening in the

pace of equity share retirements, but borrowing demands are likely
to be less robust as a consequence of reduced inventory accumulation
and slower growth of business fixed investment.
Although the rise in bond yields has deterred issuance in
recent weeks, we expect that borrowers will return as market
conditions stabilize.

Meanwhile, banks most likely will remain

eager lenders over the period ahead as nothing in the outlook
suggests the emergence of severe credit quality problems that would
prompt a significant tightening of standards or terms for business
borrowers.

Banks are likely to remain highly profitable, and the

additional capital will tend to encourage lending.
In the household sector, home mortgage debt growth is expected
to remain close to its current levels, in line with our expectations
of a moderate rise in nominal outlays for residential construction.
Growth of consumer credit is projected to slow. in part because
repayment volumes will be rising in reflection of the rapid rise of
borrowing in the past few years; the subdued growth of outlays for
big ticket items points to relatively modest increases in
extensions.

Already high debt levels may limit the potential for

borrowers to qualify for additional credit, and rising delinquency
rates are likely to make banks and other lenders more cautious;
however, we think this will prove to be a limited shift in
availability, affecting mainly a small segment of primarily lower

I-28
income households.

Total household debt is projected to rise about

6-3/4 percent in 1996 and 6 percent in 1997 down from the 8 percent
rate of 1995 but still faster than the projected rise in nominal
personal income.
State and local debt outstanding is expected to continue to
contract in 1996 and 1997 but at a slower pace than in 1994 and
1995.

The volume of scheduled retirements of pre-refunded bonds is

estimated to be shrinking.

Nonetheless, retirement volume remains

sizable and should more than offset an expected increase in issuance
of tax-exempt securities to fund a rise in governmental
construction.

Confidential FR Class II
March 21, 1996

CHANGE IN DEBT OF THE DOMESTIC NONFINANCIAL SECTORS '
(Percent)
Nonfederal
MEMO

Households

Total

Federal
govt.

Total

Home
mtg.

Cons.

credit

Business

State and
local
govt.

1986
1987
1988
1989
1990

Quarter (seasonally adjusted annual rates)
1995:1
2
3
4

6.4
6.6
3.9
4.5

7.6
5.7
1.8
1.2

-4.3
-1.5
-10.6
-2.4

1996:1
2
3
4

5.3
5.0
5.0
4.2

5.6
3.5
7.4
3.4

-1.3
2.5
-7.5
-3.2

1997:1
2
3
4

5.3
4.3
4.5
4.4

8.0
3.8
4.8
4.1

-2.9
-1.9
-3.3
-0.6

1. Data after 199 5 :q4 are staffprojections. Changes are measuredfrom end of the preceding periodto
end of period indicatedexcept annual nominal GDPgrowth, which is Q4 to Q4. On a quarterly average
basis, total debt grows 5.5 percent in 1995, 4.9 percent in 1996, and 4.7 percent in 1997. Federal
debt rises 4.4 percent in 1995, 4.5 percent in 1996, and 5.3 percent in 1997. Nonfederal debt
increases5.9 percent in 1995, 5.0 percent in 1996, and4.5 percent in 1997.
2.6.3 FOF

Nominal
GDP

Confidential FR Class II
March 21, 1996
FLOW OF FUNDS PROJECTIONS: HIGHLIGHTS 1
(Billions of dollars)
Calendar year

1994

1995

1996

1997

1996

1995 -

1997 -

Seasonally Adjusted Annual Rates
Net funds raised by domestic
nonfinancial sectors
1 Total
2 Net equity issuance
3 Net debt issuance

572.1
-44.9
617.0

640.7
-76.0
716.7

623.9
-65.8
689.7

628.7
-60.0
688.7

430.8
-98.8
529.6

541.2
-77.2
618.4

639.0
-95.6
734.6

656.1
-50.4
706.5

645.0
-64.4
709.4

555.4
-52.8
608.2

650.3
-59.3
709.6

607.1
-60.8
667.8

Borrowing sectors
Nonfinancial business
4 Financing gap 2
5 Net equity issuance
6 Credit market borrowing

4.1
-44.9
144.3

58.9
-76.0
250,8

9.7
-65.8
193.9

15.0
-60.0
181.9

66.5
-98.8
178.3

6.5
-77.2
205.5

1.9
-95.6
211.1

10.3
-50.4
204.6

15.5
-64.4
180.3

11.0
-52.8
179.5

9.1
-59.3
179.4

20.8
-60.8
184.4

Households
7 Net borrowing, of which:
8 Home mortgages
9 Consumer credit
10 Debt/DPI (percent)3

360.3
196.7
121.2
88.7

373.1
207.1
130.8
90.8

336.9
219.0
100.5
92.6

327.7
225.8
78.0
93.7

401.8
246.0
109.6
91.0

396.5
196.3
161.8
91.7

335.2
216.0
108.7
91.8

346.0
218.0
102.7
92.6

333.8
220.0
97.7
92.7

332.6
222.0
92.7
93.2

329.2
224.8
80.5
93.4

326.2
226.8
75.5
93.9

11
12

State and local governments
Net borrowing
Current surplus 4

-43.4
107,4

-51.5
104.7

-25.2
98.8

-22.2
105.9

-116.2
106.9

-26.1
89.0

-13.7
97.4

26.3
98.0

-80.2
98.5

-33.2
101.3

-24.7
104.7

-19.7
107.1

13
14
15

U.S. government
Net borrowing
Net borrowing (quarterly, nsa)
Unified deficit (quarterly, nsa)

155.9
155.9
185.2

144.4
144.4
146.4

184.1
184.1
181.5

201.3
201.3
200.8

65.8
19.9
40.2

42.4
33.3
55.9

202.0
58.8
81.2

129.7
-2.4
-26.9

275.5
72.6
50.1

129.3
55.2
77.0

225.7
85.7
68.4

176.9
115.6
132.4

16 Funds supplied by depository institutions

198.3

284.0

200.4

205.7

284.5

155.2

196.7

194.7

202.7

207.7

209.7

201.7

MEMO: (percent of GDP)
17 Domestic nonfinancial debt3
18 Domestic nonfinancial borrowing
19 U.S. government 5
20
Private

185.4
8.9
2.2
6.7

186.6
9.9
2.0
7.9

188.1
9.1
2.4
6.7

188.2
8.7
2.5
6.2

187.1
7.3
0.9
6.4

188.1
8.4
0.6
7.9

188.3
9.9
2.7
7.2

188.1
9.4
1.7
7.7

188.4
9.3
3.6
5.7

188.3
7.9
1.7
6.2

188.2
9.1
2.9
6.2

188.3
8.3
2.2
6,1

1. Data after 1995:q4 are staffprojections.
2. Forcorporations:Excess of capital expenditures over U.S. internalfunds.
3. Average debt levels in the period (computed as the average of period-enddebt positions) divided by nominal GDP.
4. NIPA surplus less retirementfunds plus consumption offixed capital.
5. Excludes government-insuredmortgage pool securities.
2.6,4 FOF

INTERNATIONAL DEVELOPMENTS

Recent Developments
The weighted-average foreign exchange value of the dollar in
terms of the other G-10 currencies depreciated 1-1/4 percent, on
balance, since the January FOMC.

The dollar weakened 3/4 percent

against the German mark and most other ERM currencies,

1-3/4 percent

against sterling, and about 1/4 percent in terms of the yen.

The

Mexican peso declined 1-1/4 percent against the dollar.
During the first half of the intermeeting period, the dollar
moved down as market participants came to believe that further
monetary easing in Germany, and thus

in most other European

countries, was unlikely in the near term.

Data showing rapid growth

in German M3 and moves by Bundesbank officials to hold their repo
rate fixed at 3.30 percent contributed to expectations of no further
cuts in official

rates soon.

Evidence that Japanese economic

activity was recovering enhanced prospects for monetary tightening
sometime soon in Japan and contributed to the downward pressure on
In late February, signs that the U.S. economy was

the dollar.

generally stronger than had been expected and that economic
developments abroad were less positive than they had seemed fed a
rebound in the dollar.

In addition, the dollar may have been

supported by very heavy intervention purchases by the Bank of Japan
in February.
Long-term interest rates rose over the intermeeting period in
most of the major foreign industrial countries, but less than the
U.S.

ten-year Treasury rate increased.

Exceptions were Japan and

Switzerland, where long-term rates were about unchanged on balance.
The rise in rates in continental Europe is somewhat surprising in
light of indicators suggesting that economic activity remains
sluggish.

On average, short-term interest rates abroad are little

I-31

I-32
changed.

Rates moved down in France, the United Kingdom, Canada,

and Sweden in response to reductions in official

lending rates.

The Desk did not intervene in foreign exchange markets over
the intermeeting period.

Economic growth remained subdued in most major foreign
industrial countries toward the end of last year with the exception
of Japan;

recent indicators suggest divergent performance this

quarter.

Real GDP declined during the fourth quarter in Germany and

France, as domestic demand fell in both countries.

In Germany,

industrial production recovered somewhat in January, but orders
fell.

Unemployment rose further through February. In France, a

bounceback in economic activity from the fourth-quarter strikes can
be

seen in the rebound in January of consumption of manufactured

products.

In the United Kingdom, real GDP rose moderately in the

final quarter of last year.

Although overall industrial production

fell in January, manufacturing output increased.

The unemployment

rate edged down through February from its end-1995 level.
In contrast, indicators of economic activity in Japan are
generally positive.

Real GDP grew briskly in the fourth quarter,
After rising in the

led by stronger public and private investment.

fourth quarter, manufacturing orders and housing starts increased
further in January.

The Bank of Japan's February survey

(Tankan)

was slightly less negative than the previous November survey.
Canada, real GDP rose slightly during the fourth quarter.

recent indicators suggest a pickup in growth as manufacturing orders
and shipments and retail sales rose in January;

employment growth

was buoyant from November through February.
Inflation in the major foreign industrial countries remains
low.

Prices have declined further in Japan.

In Germany, France,

I-33
and

Canada,

the most

earlier have been
inflation has

recent

2 percent

increases in consumer prices from a year
or less whereas

but has

other countries,

in the

recently.

improved

The U.S. nominal
the same

trade

Both exports

from November to December.

deficit narrowed substantially.
quarter while

imports

Exports

contributed

The

from the

current

fourth quarter.

a reduced

rose

quarter, the

2.2 percent

percent.

sharply in the

lower trade deficit,

investment income

rose

about

and imports

For the fourth

declined 0.5

account deficit also narrowed
addition to the

goods and services was

balance in

in December as in November.

1 percent

third

Italian inflation remains

been under 3 percent.

considerably higher than that

in the United Kingdom

deficit on net

to the improvement in the current

account.
After

the average price
of

fourth quarter of

remaining unchanged in the

agricultural

of U.S.

rose

Prices of non-oil

of nonagricultural

imports declined

the northern hemisphere
of WTI

and political

uncertainties in Saudi Arabia.

fell back more than $2

oil

for a limited sale of oil.

prices have become more

those talks.

Unusually

volatility in prices as

per barrel

during

negotiate with the United

Since the end of January, spot

volatile as markets

await the

outcome

low inventories have contributed to the
refiners

possible decline in prices.
balance,

rose sharply in

colder-than-normal weather in

January on news that Iraq would proceed to
Nations

stopped falling.

oil

of imported

The price

quarter.

exports

somewhat in January, as they had

December and January, reflecting the

The spot price

sharply in January, as prices

exports continued an upward trend that began early

last year and prices

in the fourth

exports

last year,

seek to

The price

avoid

restocking ahead

of spot WTI has

in February and March and is currently $20.95

of a

risen, on
per barrel,

I-34
with the July futures contract for WTI trading at $18.80 per barrel.
Outlook
The staff projects that total foreign real GDP growth
(weighted by U.S. bilateral exports) will average about 3-1/2
percent this year and next, up slightly from the final quarter of
last year and faster than the growth projected for U.S.

real output,

The dollar is expected to remain near current levels over the
forecast period.

With imports more responsive to U.S.

income growth

than are exports to foreign income growth, real imports are
projected to grow a bit faster than real exports this year and at
about the same rate as exports next year.
imports

Because the level of

is larger than that of exports, this outlook results

decline in real net exports

in a

(as measured in chained 1992 dollars).

After being essentially neutral during 1995, real net exports are
expected to make a small negative contribution to real GDP growth
during 1996-1997.
The dollar.

We project that the foreign exchange value of the

dollar in terms of the other G-10 currencies will remain little
changed from its recent levels throughout the forecast period.
is the same level projected in the previous Greenbook.

This

We expect

that the CPI-adjusted value of the dollar in terms of the currencies
of key developing countries will depreciate at a moderate rate both
this year and next.

In particular, from current levels the Mexican

peso is expected to appreciate in real terms over the forecast
period, as its nominal value against the dollar depreciates more
slowly than the rate by which Mexican inflation exceeds U.S.
inflation.
Foreign G-7

countries.

growth in the foreign G-7
export

The staff projects that real GDP

countries

(weighted by bilateral U.S.

shares) will strengthen from an annual rate of 1 percent

I-35
during the final quarter of
and

1997.

The

rebound

1995

to about

2-1/2

percent during 1996

in activity is expected to be widespread.

In Japan, recovery is already under way, owing to past
monetary easing and fiscal
about

a 2-1/2

stimulus, and is expected to continue

percent rate this

year and next.

In Germany, activity is expected to remain
the first
about

half of this year but then to

2-1/4 percent

Past declines

during the

second half of

quite weak during

grow at an

annual rate

remainder of the forecast period.

in short-term interest

further decline,

rates

and a small

projected

along with depreciation of the mark during the

1995 and early 1996,

should

strengthen German

economic activity.
In France,
percent annual
disruptive

percent

responds to

output growth

rate during the

effects

are reversed.
2-1/2

real

of public

Output

first half of this

sector strikes

and is

percent annual

year as the

as domestic demand

rates.

In the United Kingdom, real
during 1995

to a 2

strengthen further,

year and during 1997,

interest

rebound

in November and December

growth is projected to

late this

lower

is forecast to

output

growth remained moderate

expected to continue this

rate observed in the

year at about the

fourth quarter before

strengthening slightly next year.
Canadian

real GDP growth

percent during the
percent

performance

that began
of

rise from less than

fourth quarter of last year to

at an annual

economic

is projected to

rate over the forecast
in the United States

last year are

expected

about 2-1/2

period.

Improved

and the monetary easing

to contribute to the stronger

pace

expansion.
The

has been

staff outlook

for inflation in the foreign G-7

lowered slightly.

countries

When weighted by bilateral U.S.

import

I-36

shares, consumer price inflation is projected to rise only very
slightly, from 1 percent in 1995 to 1-1/4 percent in 1996 and 1997.
The staff forecast incorporates the assumption that short-term
interest

rates abroad will move down slightly further, on average,

through mid-1996 before rising over the subsequent six quarters.
German short-term market interest rates are assumed to move down
with some further easing of official

rates in the near term before

rising as the pace of economic expansion increases later in the
forecast period.

Japanese short-term market rates are assumed to be

near their trough and to rise next year as the economy strengthens.
On average, long-term interest rates abroad are expected to retrace
much of their intermeeting rise in the near term, with the assumed
easing of short-term rates in Europe.

Long-term rates are assumed

to remain fairly stable through the rest of 1996 before moving back
up a bit by the end of 1997.
Other countries.

The real GDP of major developing-country

trading partners of the United States
nonagricultural

(weighted by U.S.

export shares) is projected to increase about 5-1/2

percent per year during 1996-97, compared with an estimated 3-1/2
percent growth during 1995

(on a Q4/Q4 basis).

The pickup in growth

in 1996-97 largely reflects recovery in Mexico.
Real GDP in Mexico fell 6.6 percent in 1995,
less than was expected.

substantially

The marked expansion of activity in the

fourth quarter, following a slight expansion in the third quarter,
is consistent with our previous forecast that Mexico had passed its
recession trough and has begun to recover.

We project that real GDP

in Mexico will grow at an average rate of about 5 percent per year
during 1996-97,

recovering to its pre-recession level by mid-1997.

Our major trading partners in Asia are expected to continue to
experience strong growth over the forecast period, although growth
is projected to decline from an average rate of about 7-1/2 percent

I-37
in

1995

to 7 percent

in 1996-97.

with

our projection that

half

of last year will lead

exports

the

yen's

real exports

growth of total

computer and

real

and imports

of goods

exports was boosted

Full text of Federal Open Market Committee Meeting Minutes, Transcripts, and Other Documents : Meeting, March 26, 1996 : Greenbook Part 1

FRASER