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A meeting of the Federal Open Market Committee was held in the offices of the Board of
Governors of the Federal Reserve System in Washington, D.C., on Wednesday, November
12, 1997, at 9:00 a.m.
Present:
Mr. Greenspan, Chairman
Mr. McDonough, Vice Chairman
Mr. Broaddus
Mr. Ferguson
Mr. Gramlich
Mr. Guynn
Mr. Kelley
Mr. Moskow
Mr. Meyer
Mr. Parry
Ms. Phillips
Ms. Rivlin
Messrs. Hoenig, Jordan, Melzer, and Ms. Minehan, Alternate Members of the Federal
Open Market Committee
Messrs. Boehne, McTeer, and Stern, Presidents of the Federal Reserve Banks of
Philadelphia, Dallas, and Minneapolis respectively
Mr. Kohn, Secretary and Economist
Mr. Bernard, Deputy Secretary
Mr. Coyne, Assistant Secretary
Mr. Gillum, Assistant Secretary
Mr. Mattingly, General Counsel
Mr. Baxter, Deputy General Counsel
Mr. Prell, Economist
Mr. Truman, Economist
Messrs. Cecchetti, Goodfriend, Eisenbeis, Lindsey, Promisel, Slifman, and Stockton,
Associate Economists
Mr. Fisher, Manager, System Open Market Account
Messrs. Madigan and Simpson, Associate Directors, Divisions of Monetary Affairs
and Research and Statistics respectively, Board of Governors
Messrs. Alexander, Hooper, and Ms. Johnson, Associate Directors, Division of
International Finance, Board of Governors
Ms. Low, Open Market Secretariat Assistant, Division of Monetary Affairs, Board of
Governors
Ms. Pianalto and Mr. Rives, First Vice Presidents, Federal Reserve Banks of
Cleveland and St. Louis respectively
Messrs. Dewald, Hakkio, Rolnick, and Sniderman, Senior Vice Presidents, Federal
Reserve Banks of St. Louis, Kansas City, Minneapolis, and Cleveland respectively
Messrs. Bentley, Meyer, and Rosengren, Vice Presidents, Federal Reserve Banks of
New York, Philadelphia, and Boston respectively
Ms. Gonczy and Mr. Koenig, Assistant Vice Presidents, Federal Reserve Banks of
Chicago and Dallas respectively
Mr. Trehan, Research Officer, Federal Reserve Bank of San Francisco
By unanimous vote, the minutes of the meeting of the Federal Open Market Committee held
on September 30, 1997, were approved.
The Manager of the System Open Market Account reported on developments in foreign
exchange and international financial markets in the period since the previous meeting on
September 30, 1997. There were no System open market transactions in foreign currencies
during this period, and thus no vote was required of the Committee.
The Manager also reported on developments in domestic financial markets and on System
open market transactions in government securities and federal agency obligations during the
period September 30, 1997, through November 11, 1997. By unanimous vote, the Committee
ratified these transactions.
By unanimous vote, paragraph 1.A of the Authorization for Domestic Open Market
Operations was amended to raise from $8 billion to $12 billion the dollar limit on
intermeeting changes in System Account holdings of U.S. government and federal agency
securities for the intermeeting period through December 16, 1997. The Manager advised the
Committee that, as was usually the case at this time of year, the anticipated pattern of reserve
needs was such that he might want to add considerably to the System's outright holdings of
U.S. government securities over the coming intermeeting period. By unanimous notation
vote, the Committee subsequently approved a further increase in the intermeeting leeway to
$17 billion. The increase, effective December 8, was made on the recommendation of the
Manager who saw the need for substantially more outright purchases of Treasury obligations
than anticipated earlier, largely in light of much greater than projected growth in currency.
With Mr. Broaddus dissenting, the Committee authorized the renewal for an additional
one-year period of the System's reciprocal currency ("swap") arrangements with foreign
central banks and the Bank for International Settlements. The amounts and current maturity
dates of the arrangements approved for renewal are shown in the table that follows:
Foreign
Bank
Amount of
Term
Arrangement (months)
Maturity
Date
(millions of $
equivalent)
Austrian National Bank
250.0 12 mos.
12/04/97
Bank of England
3,000.0 "
12/04/97
Bank of Japan
5,000.0 "
12/04/97
Bank of Norway
250.0 "
12/04/97
Bank of Sweden
300.0 "
12/04/97
4,000.0 "
12/04/97
600.0 "
12/04/97
1,250.0 "
12/04/97
Bank of Mexico
3,000.0 "
12/12/97
Bank of Canada
2,000.0 "
12/15/97
National Bank of Belgium
1,000.0 "
12/18/97
National Bank of Denmark
250.0 "
12/28/97
Bank of France
2,000.0 "
12/28/97
German Federal Bank
6,000.0 "
12/28/97
Bank of Italy
3,000.0 "
12/28/97
500.0 "
12/28/97
Swiss National Bank
Bank for International Settlements-Swiss francs
Other authorized European currencies
Netherlands Bank
Mr. Broaddus dissented because he believed that the Federal Reserve's participation in
foreign exchange market intervention compromises its ability to conduct monetary policy
effectively. Because sterilized intervention cannot have sustained effects in the absence of
conforming monetary policy actions, Federal Reserve participation in foreign exchange
operations risks one of two undesirable outcomes. First, the independence of monetary policy
is jeopardized if the System adjusts its policy actions to support short- term foreign exchange
objectives set by the Treasury. Alternatively, the credibility of monetary policy is damaged if
the System does not follow interventions with compatible policy actions, the interventions
consequently fail to achieve their objectives, and the System is associated in the mind of the
public with the failed operations. In these circumstances, he did not view renewal of the
existing swap lines as desirable because they are used primarily to facilitate market
intervention.
The Committee then turned to a discussion of the economic outlook and the conduct of
monetary policy over the intermeeting period ahead.
The information reviewed at the meeting suggested that economic activity continued to grow
rapidly in recent months. The further advance reflected a surge in business fixed investment
and consumer spending, while housing demand remained at a high level. Significant slowing
in exports and inventory investment provided only a partial offset to the strength.
Accordingly, production and employment recorded further large gains. Price inflation
remained subdued despite tight labor markets and a pickup in the pace of labor
compensation.
Nonfarm payroll employment rose substantially further in October. Manufacturing payrolls
recorded their largest rise in the current economic expansion, and aggregate weekly hours
worked increased significantly; most of the gain in payrolls occurred at durable goods
establishments. Hiring remained robust in the service- producing sector, led by sizable
increases at computer services and engineering and management services firms. The civilian
unemployment rate fell to 4.7 percent in October, its low for the current expansion.
Industrial production registered a large advance in the third quarter and apparently remained
strong in October. A third-quarter surge in the manufacture of durable goods, notably of
motor vehicles, aircraft, and information-processing equipment, more than offset weak
expansion in the output of nondurable goods and a decline in mining activity. Although the
step-up in manufacturing production boosted further the rate of utilization of manufacturing
capacity, the latter was somewhat below its most recent peak in January 1995.
Retail sales posted a sharp rise in the third quarter, though growth in sales of both durable
and nondurable goods moderated during the quarter. Consumer spending on services also
continued to increase at a relatively brisk pace. Growth in such spending was underpinned by
continuing substantial gains in incomes, the cumulative increase in household net worth over
the past several years, and the ready availability of credit to most consumers. Housing
demand remained strong in the third quarter in association with moderate interest rates and
very positive consumer assessments of homebuying conditions. Sales of both new and
existing homes increased a bit, and housing starts were little changed in the third quarter
from the high level recorded during the first half of the year.
Business fixed investment increased at an unusually rapid rate in the third quarter. The rise in
outlays was spread across all categories of producers' durable equipment, but the largest
gains were in office, computing, and communications equipment. Available data on new
orders pointed to further broad-based and robust expansion in equipment spending in coming
months. Nonresidential construction grew at a moderate pace in the latest quarter despite a
decline in September. Available information suggested that construction would trend upward
at a modest rate in coming months.
Business inventory investment appeared to have moderated substantially in the third quarter
from the rapid rate of the previous quarter, and on balance stocks were at relatively low
levels in relation to sales. In manufacturing, stocks rose somewhat further in September, but
the inventory-to-shipments ratio for the sector declined to the low end of its range for the past
twelve months. Wholesale inventories posted another sizable advance in September; the
inventory-sales ratio for this sector was just above the high end of its range for the past year.
Retail stocks fell in August (latest available data), more than reversing their July increase.
The inventory-sales ratio for the sector also was at the low end of its range for the past year.
The nominal deficit on U.S. trade in goods and services widened substantially on balance
over July and August from its rate in the second quarter. Exports of goods and services
changed little on net in the July-August period but imports rose considerably; the largest
increases in imports were for aircraft and automotive products, but sizable gains also were
recorded for computers, semiconductors, and industrial supplies. Available indicators of
economic activity in the third quarter pointed to robust expansion in all the major foreign
industrial countries except Japan, where activity rebounded only moderately from a sharp
second-quarter decline. Although timely data were sparse, the economies of many Asian
countries probably were weakening as their exchange rates came under pressure, problems in
their financial sectors were revealed, and their monetary and fiscal policies moved toward
restraint.
Consumer price inflation remained subdued in September. The increase in both overall
consumer prices and the prices of consumer items other than food and energy was modest.
For the twelve months ended in September, prices of consumer items other than food and
energy increased by a considerably smaller amount than in the year- earlier period. At the
producer level, the September rise in prices was the largest monthly increment since January
1991; nonetheless, the overall index was unchanged over the past twelve months after a
sizable rise over the previous twelve-month period. The core index also decelerated on a
year-over-year basis. The rate of increase in the hourly compensation of private industry
workers was unchanged in the third quarter, but the advance over the past four quarters was
somewhat larger than that for the previous four. Growth in average hourly earnings picked up
in September and October, perhaps partly reflecting the effects of an increase in the federal
minimum wage.
At its meeting on September 30, 1997, the Committee adopted a directive that called for
maintaining conditions in reserve markets that were consistent with an unchanged federal
funds rate averaging around 5-1/2 percent. The Committee retained a tilt in the directive
toward a possible firming of reserve conditions during the inter- meeting period, reflecting its
view that the risks continued to be skewed toward rising inflation. Reserve market conditions
associated with this directive were expected to be consistent with some moderation in the
growth of M2 and M3 over coming months.
Open market operations were directed throughout the inter- meeting period toward
maintaining reserve conditions consistent with the Committee's intended level of around
5-1/2 percent for the federal funds rate, and the rate averaged close to that level over the
period. Other financial markets became quite volatile from time to time. Share prices in
equity markets fluctuated widely in occasionally turbulent trading activity and were down
somewhat on balance over the period; equity markets in other countries, notably in Asia, also
were volatile, and very large declines were recorded in some of those markets. Against this
background, U.S. short-term interest rates registered small mixed changes over the period
since the September 30 meeting, while Treasury bond yields declined somewhat on balance.
Unexpectedly strong incoming data on U.S. producer prices, employment, and wages tended
to exert upward pressures on bond yields on some days, but these were more than offset by
investor desires for safety and quality, the continuing moderation in consumer inflation, and
the perception engendered by international financial developments that inflation pressures
were likely to remain subdued.
The dollar also was affected by the spreading financial turmoil in developing countries,
appreciating significantly over the intermeeting period against the currencies of a number of
Asian and Latin American countries. Much of the increase was counterbalanced, however, by
a sizable decline in the dollar's trade-weighted value in terms of the currencies of the other
G-10 countries. The dollar's decline against the German mark and other European currencies
partly reflected diminished market expectations of potential tightening in the United States
and a snugging of monetary conditions by the Bundesbank and other continental European
central banks. Further progress in resolving uncertainties surrounding the European
Monetary Union also may have contributed to the rise in European currencies. The dollar
appreciated slightly on balance against the Japanese yen.
Growth of M2 and M3 apparently moderated further in October, though the expansion of
these aggregates remained brisk. A sharp slowing of inflows to money market mutual funds
accounted for much of the deceleration of M2, and an easing in the pace of issuance of large
time deposits, evidently reflecting a smaller rise in bank credit, also contributed to a modest
reduction in M3 growth. For the year through October, M2 expanded at a rate that was at the
upper bound of the Committee's range for the year and M3 at a rate substantially above the
upper bound of its range. Total domestic nonfinancial debt increased in recent months at a
rate somewhat below the middle of its range.
The staff forecast prepared for this meeting suggested that the economy would continue to
expand for a time at a pace considerably above its potential, but growth was expected to
moderate to a more sustainable rate later. Further rapid increases in business investment
would provide strong impetus to income growth in the near term, and the rise in household
wealth so far in 1997 would stimulate robust consumer demand going forward. The projected
strength of domestic demand would be offset to some extent by a considerable weakening in
the growth of exports in response to the lagged effects of the earlier appreciation of the dollar
and sharp anticipated reductions in the economic growth of Asian and other developing
countries.
In the Committee's discussion of current and prospective economic developments, members
focused on widespread indications of a continued solid advance in economic activity, spurred
by strength in all major sectors of the domestic economy, and the persistence of subdued
increases in prices. The current momentum of the expansion, together with broadly
supportive financial conditions and favorable business and consumer sentiment, suggested
that economic growth was likely to be well maintained, especially over the nearer term. As a
consequence, the members agreed that there remained a clear risk of additional pressures on
already tight resources and ultimately on prices that could well need to be curbed by tighter
monetary policy. But the members also focused on two important influences that were
injecting new uncertainties into this outlook. Turmoil in Asian financial markets and
economies would tend to damp output and prices in the United States. To date, it appeared
that the effects on the U.S. economy would be quite limited, but the ultimate extent of the
adjustment in Asia was unknown, as was its spillover to global financial markets and to the
economies of nations that were important U.S. trading partners. The second influence was the
apparently sharp increase in productivity in the second and third quarters. This was an
encouraging development, although it was too early to judge the persistence of the uptrend in
productivity growth and the extent to which it might reduce the additional price pressures
that would be generated in the event of an extended period of further robust economic
expansion.
Strength in consumer spending had provided an important underpinning for robust economic
expansion, and substantial growth was likely to persist, sustained by increases in
employment and incomes, high levels of confidence, and the cumulative effects of very large
gains in stock market wealth over the past several years. The outlook for capital spending
also remained quite favorable because the factors that were contributing to the ongoing surge
in such spending--its potential for lowering production costs in highly competitive markets
and the ready availability of finance on attractive terms--were likely to persist. While private
domestic demand most likely would continue to display considerable strength, both
consumption and investment were somewhat vulnerable to developments in financial
markets, perhaps arising from further difficulties in Asia. Increased uncertainty about asset
values could engender greater caution on spending, and of course a substantial decline in
equity values would reduce household wealth and raise the cost of equity capital. Some
members also commented that additional appreciation of the dollar, perhaps in association
with possible further turbulence in Asia and weakness in foreign economies, would have
adverse implications for net exports, which already were seen as a somewhat negative factor
in the economic outlook. At the same time, of course, a stronger dollar would have a positive
effect on domestic inflation over the projection horizon.
In the course of their discussion, the members gave consider- able emphasis to recent
developments in labor markets. Statistical indicators of rising levels of employment, low and
falling rates of unemployment, and a diminishing supply of new workers were reinforced by
anecdotal evidence of tight labor markets throughout the nation. The demand for many types
of workers exceeded the supply in many regions, and a number of members reported that
growth of economic activity in various parts of the country was being held back by the
scarcity of labor. While labor compensation had accelerated, the pickup was moderate in
light of the taut conditions in labor markets and some of it reflected the legislated rise in the
minimum wage. Nonetheless, members cited numerous examples of efforts to attract or
retain workers in especially scarce supply through a variety of bonus payments and other
incentives that were not included in standard measures of labor compensation.
The effects on costs and prices of somewhat faster increases in compensation evidently were
being muted by what appeared to have been a sharp advance in productivity growth in the
last two quarters. The acceleration in productivity seemed to be related in part to the surge in
capital spending, which had been stimulated by the ability of new equipment to enhance
efficiency and hold down costs, suggesting that productivity might be on a higher trend for a
time. But it also could be attributed to some extent to the strengthening in economic output;
such strengthening often is associated with a pickup in productivity as producers react
initially to the upturn in demand by stretching available labor further. If the pace of the
economic expansion were to moderate in line with current expectations, the growth in
productivity could also be expected to slow, but to an uncertain extent.
The trend in productivity gains was a key factor in the outlook for unit costs and ultimately
for price inflation. As had been true for an extended period, inflation had remained relatively
subdued in comparison with past experience under broadly similar economic conditions. The
reasons for the relative quiescence of inflation were not fully understood, but they
undoubtedly included a number of special factors beyond higher productivity such as a
lagged response to earlier appreciation of the dollar and unusually damped increases in the
cost of health benefits. As they had at previous meetings, members suggested that these
favorable influences were likely to erode over the year ahead. A number of members again
cited reports of increases in health insurance premiums next year and subsequently. More
fundamentally, it was difficult to predict whether anticipated increases in labor compensation
would be fully offset by productivity gains in coming quarters and whether, in turn,
competitive market conditions would allow firms to raise prices to compensate for any
increases in their costs. On balance, the members felt that the risks remained in the direction
of rising price inflation though the extent and timing of that outcome were subject to
considerable debate.
In the Committee's discussion of policy for the intermeeting period ahead, all but one
member endorsed a proposal to maintain an unchanged policy stance, and all agreed that the
risks remained tilted toward rising inflation. While developments in Southeast Asia were not
expected to have much effect on the U.S. economy, global financial markets had not yet
settled down and further adverse developments could have greater-than-anticipated spillover
effects on the ongoing expansion. In this environment, with markets still skittish, a tightening
of U.S. monetary policy risked an oversized reaction. Some members also emphasized that
the relatively favorable trends in productivity, costs, and prices continued to raise questions
about the strength and timing of any pickup in inflation. Other members stressed that the
unsustainable pace of domestic demand and rising resource utilization seemed to call for a
near-term tightening of policy. Some of these members noted that overall financial conditions
remained quite supportive despite the recent market turmoil and high real short-term interest
rates. Credit from a wide variety of lenders appeared to be amply available on favorable
terms, perhaps overly so in present circumstances. Nonetheless, all but one of the members
believed that in light of the uncertainties about the economic outlook, an immediate policy
tightening was not needed in the absence of firmer indications that inflationary pressures
might be emerging. In the view of one member, however, aggregate final demand was so
strong that, with economic activity and the associated demand for labor having expanded at
an unsustainable pace for some time, one could be reasonably confident that inflation would
most likely pick up in the absence of policy action.
In their discussion of possible adjustments to policy during the intermeeting period, the
members indicated that they wanted to retain in the operating paragraph of the directive the
existing asymmetry toward restraint that was initially adopted at the May meeting. Such a
directive was consistent with their view that the risks continued to be biased toward rising
inflation. Accordingly, the members continued to view the next policy move as more likely to
be in the direction of some firming than toward easing.
At the conclusion of the Committee's discussion, all but one member supported a directive
that called for maintaining conditions in reserve markets that were consistent with an
unchanged federal funds rate of about 5-1/2 percent and that retained a bias toward the
possible firming of reserve conditions and a higher federal funds rate during the intermeeting
period. Accordingly, in the context of the Committee's long-run objectives for price stability
and sustainable economic growth, and giving careful consideration to economic, financial,
and monetary developments, the Committee decided that a somewhat higher federal funds
rate would be acceptable or a slightly lower federal funds rate might be acceptable during the
intermeeting period. The reserve conditions contemplated at this meeting were expected to be
consistent with moderate growth in M2 and M3 over coming months.
The Federal Reserve Bank of New York was authorized and directed, until instructed
otherwise by the Committee, to execute transactions in the System Account in accordance
with the following domestic policy directive:
The information reviewed at this meeting suggests that economic activity
continued to grow rapidly in recent months. In labor markets, hiring has
remained robust and the civilian unemployment rate fell to 4.7 percent in
October, its low for the current economic expansion. Industrial production
increased very rapidly in the third quarter, and appears to have remained strong
in October. Retail sales also rose sharply in the third quarter, though at a
moderating pace as the summer progressed. Housing starts, while fluctuating
from month to month, were little changed on balance in the third quarter.
Business fixed investment posted unusually strong increases in the latest quarter,
and available indicators point to further sizable gains in coming months. The
nominal deficit on U.S. trade in goods and services widened substantially on
average in July and August from its rate in the second quarter. Price inflation has
remained subdued despite some increase in the pace of advance in labor
compensation.
Short-term interest rates have registered small mixed changes since the day
before the Committee meeting on September 30, 1997, while bond yields have
fallen somewhat. Share prices in U.S. equity markets have fluctuated widely in
turbulent trading activity and are down on balance over the period; equity
markets in other countries, notably in Asia, have been volatile as well and some
have registered very large declines. In foreign exchange markets, the tradeweighted value of the dollar in terms of the other G-10 currencies declined
somewhat on balance over the intermeeting period. The dollar appreciated
significantly, however, in terms of the currencies of a number of Asian and Latin
American countries.
Growth of M2 and M3 appears to have moderated further in October from the
unusually brisk rates of August. For the year through October, M2 expanded at
the upper bound of its range for the year and M3 at a rate substantially above the
upper bound of its range. Total domestic nonfinancial debt has expanded in
recent months at a pace somewhat below the middle of its range.
The Federal Open Market Committee seeks monetary and financial conditions
that will foster price stability and promote sustainable growth in output. In
furtherance of these objectives, the Committee at its meeting in July reaffirmed
the ranges it had established in February for growth of M2 and M3 of 1 to 5
percent and 2 to 6 percent respectively, measured from the fourth quarter of 1996
to the fourth quarter of 1997. The range for growth of total domestic
nonfinancial debt was maintained at 3 to 7 percent for the year. For 1998, the
Committee agreed on a tentative basis to set the same ranges as in 1997 for
growth of the monetary aggregates and debt, measured from the fourth quarter of
1997 to the fourth quarter of 1998. The behavior of the monetary aggregates will
continue to be evaluated in the light of progress toward price level stability,
movements in their velocities, and develop- ments in the economy and financial
markets.
In the implementation of policy for the immediate future, the Committee seeks
conditions in reserve markets consistent with maintaining the federal funds rate
at an average of around 5-1/2 percent. In the context of the Committee's long-run
objectives for price stability and sustainable economic growth, and giving
careful consider- ation to economic, financial, and monetary developments, a
somewhat higher federal funds rate would or a slightly lower federal funds rate
might be acceptable in the intermeeting period. The contemplated reserve
conditions are expected to be consistent with moderate growth in M2 and M3
over coming months.
Votes for this action: Messrs. Greenspan, McDonough, Ferguson, Gramlich,
Guynn, Kelley, Meyer, Moskow, Parry, Mses. Phillips and Rivlin.
Vote against this action: Mr. Broaddus.
Mr. Broaddus dissented because he believed that a modest tightening of policy
would be prudent in view of the recent strength in aggregate demand for goods
and services; such demand appeared to be growing considerably more rapidly
than the sustainable rate at which it could be supplied without an increase in
inflation. While he recognized that a tightening at this meeting presented risks in
view of recent financial and economic developments in East Asia, he believed
these risks were outweighed by the risk that policy would have to be tightened
more aggressively if action were delayed, demand remained robust, and the
recent apparent reduction in inflationary expectations were reversed. The
negative impact on economic activity in such circumstances would be markedly
greater than if a more modest action were taken at this meeting.
Rules Regarding Availability of Information
By notation vote the Committee unanimously approved in final form certain revisions to its
Rules Regarding the Availability of Information. The final rules take account of comments
received from the public on the Committee's proposed revisions to the rules that were
published earlier in the Federal Register. The purpose of the revisions is to bring the rules
into conformity with the Electronic Freedom of Information Act of 1996 (EFOIA), which
amends the Freedom of Information Act (FOIA). The new rules take effect on December 17,
1997.
It was agreed that the next meeting of the Committee would be held on Tuesday, December
16, 1997.
The meeting adjourned at 1:10 p.m.
Donald L. Kohn
Secretary
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