The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.
THE ECO NO M IC OUTLOOK FO R THE UNITED STATES A N D GEORGIA IN 1985 A N D B E Y O N D Remarks o f Mr. Robert P. Forrestal President Federal Reserve Bank o f Atlanta To the Rome Chapter o f the Bank Administration Institute, Calhoun, Georgia March 19, 1985 I am delighted to have an opportunity to speak to you tonight because my message, while not without certain concerns and caveats, is essentially hopeful. I would like to talk about the economic outlook for 1985, both fo r the nation and for Georgia. In a broader context, I would also like to discuss several factors that w ill fundamentally shape the longer term prospects for our economy. National Scene The outlook for 1985 cannot be assessed without reviewing the economy’s performance in 1984 and evaluating what the underlying conditions at year’ s end portend for the next 12 months. A t the beginning o f last year many economists had serious doubts about the recovery’s strength and durability, and most were predicting rather modest GNP growth. In addition, expectations were widespread that inflation would be higher than in 1983. the exchange rate On the brighter side, many economists forecast a decline in o f the dollar international trade situation. and, hence, some improvement in our nation’s My views were generally similar to this consensus outlook. A t that time, I projected that the economy was likely to slow to a growth rate o f around 5 percent and that unemployment would probably hover at the 8 percent level, perhaps -2dropping to 7 1/2 percent by the end o f 1984. In addition, I expected inflation to pick up to about 5 percent. Although these projections were not far o ff the mark, it was my happy experience to have erred on the side o f underestimating the enormous growth in GNP while overestimating both the inflation and unemployment that we actually experienced in 1984. As you all know, 1984 brought heady economic growth. GNP expanded at a rate far in excess o f what many, including myself, had anticipated, while inflation remained more moderate than generally expected. The full-year growth rate was nearly 7 percent, the highest in over 30 years. This expansion was led by consumers, whose purchases o f homes, cars, appliances, and a myriad o f durable and nondurable items spurred businesses to increase production, expand their work forces, and build their inventories in anticipation o f continued strong sales. Business investment, particularly in machinery and other equipment and, to a lesser extent, in new plants, also contributed significantly to the expansion we witnessed in manufacturing as well as construction. Despite a sharp slowdown in the third quarter that rekindled doubts about the longevity o f the expansion, we finished the year on a strong note. The annual growth rate o f GNP revived to 4.9 percent from the third quarter’s sluggish pace o f 1.6 percent. Buoyed by continued growth o f employment and personal income, consumers regained confidence and increased their spending almost 4 percent in the fourth quarter after essentially standing pat from the second to the third quarter. Advances in consumer spending together with strong capital investment by businesses and government purchases o f goods and services helped final sales rise over 8 percent in the last three months o f 1984 a fter declining 1 percent in the third quarter. was only half that o f the third quarter. Meanwhile, inventory growth This combination o f higher sales and lower -3inventory accumulation enabled producers and retailers to adjust their stocks to more desired levels, thereby setting the stage for renewed growth in factory orders, industrial output, and employment. inflation A t the same time the economy was regaining its momentum, continued to abate. Competition from imports and oil price reductions accounted for much o f this year-end deceleration in inflation. Y e t even service prices, which had been rising more rapidly than the overall price index, moderated in December. Most o f the indicators o f economic activity thus far in 1985 show a continuation of these favorable trends. Industrial production, residential construction, retail sales, and personal income have risen, while inflation eased further. Thus, concerns voiced only a month or two ago that our expansion might not last much longer have been quelled, and expectations are now widespread that growth will continue at a moderate but respectable pace throughout 1985. The expected slower growth rate is a welcome change from last year’ s pace, which, especially in the first half, was so rapid that it threatened to rekindle inflation. Few imbalances or weaknesses currently exist in the economy. Healthy monetary growth, perhaps overly so, together with the nearly complete inventory correction have laid the groundwork for economic growth in the coming months. Consumer purchases, investment by businesses, and expenditures by the government all should contribute to making 1985 a good year, with real GNP growth probably in the range o f 3 1/2 to 4 percent. Consumer spending is likely employment continue to advance. to remain healthy since personal income and However, growth on a par with 1984 is unlikely. Last year’s sharp gains were in large measure due to demand that accumulated during two, almost back-to-back recessions. Much of that deferred demand has been met. Business spending on capital goods should continue to support expansion in 1985, even -4though the growth rate in business investment, like that o f consumer spending, probably w ill be slower than in 1984. The sustained growth o f final demand should provide sufficient impetus for ongoing expansion in business investment this year. In addition, business investment in inventories will likely rebound somewhat, following the sharp deceleration in the fourth quarter o f 1984 and the improvement in final sales. A major source o f short-term strength is fiscal policy, which is highly stimulative. Defense expenditures in particular diould work to maintain substantial momentum in the nation’s factories, even if some cuts are applied in this area. Another stimulus is monetary growth, which rebounded smartly in recent months a fter a previous weakening, particularly in the growth o f M l. This growth and the associated declines in interest rates should encourage economic expansion in 1985. By making it relatively cheaper for builders to undertake new projects, reduced credit costs should spark an improvement in home building, as new data suggest, even though a return to the booming single-family construction that we saw in the recovery stage is unlikely since much o f the pent-up demand for housing has been filled. O f course, some potential problems and weaknesses loom in the months ahead, and certain sectors o f the economy are less likely to be sources o f expansion this year. Perhaps the foremost area o f continuing weakness is the international sector. The high exchange value o f the dollar and the slower recovery abroad have sapped considerable strength from American farming and manufacturing. Producers o f textiles, apparel, lumber, and other goods that are sensitive to foreign competition experienced weak growth in 1984, and their condition probably will not improve in 1985. In addition, industries with a heavy dependence on exports, such as agriculture and machine tools, cannot hope for much stimulus from foreign demand. In contrast to recent business -5cycles in which the adverse e ffe c t o f high real rates has been fe lt as Crowding out" o f construction and capital investment, foreign trade has suffered the most in this business cycle. While capital spending and residential building proceeded apace despite high real interest rates, the merchandise trade d eficit for 1984 totaled over $123 billion, far higher than the previous record shortfall o f $69 billion in 1983. a decline in the value o f the dollar is uncertain. The outlook for Despite narrowing interest rate differentials and large trade deficits, the trade-weighted index o f the dollar has risen considerably just since the beginning o f 1985. Even i f the dollar were to decline, it would take time to have a substantial e ffe c t on trade patterns. dampening factor is tax policy. A second potentially Uncertainty about possible tax changes may cause businesses to defer planned investment, particularly in the near term, until the nature o f tax changes likely to be enacted becomes more evident. On the other hand, investment could increase as businesses rush to take advantage o f current tax incentives before they are rescinded. Because o f the likelihood o f slower growth in consumer spending and business investment, unemployment w ill probably decline much less this year than it did in 1984. Still, I am quite hopeful that it will fall below the seven percent mark. Import competition, lower oil prices, and bountiful harvests should hold price increases to 3 1/2 to 4 percent, close to recent trends. Overall, I look for respectable economic growth consonant with this stage o f an expansion. Outlook for Georgia Georgia's economy will not only share the fruits o f this expected economic expansion; its growth in 1985 may outpace the nation as it did in 1984. Perhaps the -6most outstanding evidence o f Georgia's superior performance is its unemployment rate, which at the end o f 1984 stood at 5.7 percent compared to over 7 percent nationally. One reason for our state's enormous job-generating capacity is its continuing attraction to businesses and individuals from other areas. from continuing population growth. Georgia's economy benefits greatly Last year 50,000 new residents, the equivalent of one percent o f our population, flocked to Georgia. Among southeastern states only Florida has had more rapid population growth during the last decade, and Atlanta ranks as one o f the fastest growing cities in the nation. This continuing influx o f people stimulates demand for new homes, apartments, o ffices, shopping centers, restaurants, and health-care facilities, thereby boosting the construction, retail trade, and service sectors o f the local economy. Although residential construction might grow less rapidly than in the last tw o years, Georgia's housing market should remain healthy in 1985 because o f in-migration, the decline in interest rates, and the state's moderate inventory o f unsold new homes. O ffic e building and warehouse projects, especially in the Atlanta area, seem likely to sustain a strong pace in commercial construction at least through this year. However, excess capacity in o ffic e , hotel, and distribution space could cause some problems in the near term. Absorption has recently begun to fa ll behind the pace o f new building. Another important factor underlying Georgia’s economic strength is defense spending. The C-5B project at Lockheed and the Kings Bay submarine base prominently symbolize the signficant role military spending plays in Georgia. also important is the e ffe c t o f our many military bases. payroll comes from military salaries. Lesser known but Two percent o f the state's Thus, the four percent pay increase slated for -7U.S. m ilitary personnel could add almost $70 million in personal income to the state's economy this year. Other sectors o f the state are less likely to fare as well as construction and defense-related manufactuing. Agriculture faces a somewhat clouded year. Weak foreign sales and high real interest rates make it difficu lt for financially troubled farmers to improve their credit situation. Farmers who rely on soybeans should have the most d ifficu lty because o f weak prices, and soybeans claim more acreage than any other crop in Georgia. products is bright. Fortunately, the outlook for two other major Georgia farm Peanuts, the largest revenue producer, had record yields in 1984, and government price supports should sustain prices at least through this year. Georgia i broiler farmers also enjoyed good revenues and low costs in 1984, and the outlook for continued profitability is good, especially through the first half o f 1985. Some manufacturing industries also are likely to be weak this year. Georgia's important textile and apparel industry has been hit hard by competition from imports, and local lumber producers have come under increasing pressure from Canadian suppliers. The near term holds little promise o f relief. The continuing strength o f the dollar in the face o f our large trade deficit and recently narrower differences between real interest rates here and abroad baffles many economists and makes it unclear when the dollar might fall. Even if it did, the e ffe c t on our state's adversely affected industries would not be fe lt immediately because trade patterns adjust more slowly than financial markets. Fortunately, some sectors o f these industries have been able to prosper despite exchange rate problems and foreign competition. North Georgia's carpet manufacturers, -8for example, have invested heavily in technologically advanced equipment. Their efficien t production techniques together with strong demand for carpets generated by the rapid nationwide pace o f o ffic e building, residential construction, and auto sales should provide strong orders fo r carpets through 1985. enjoy another year o f prosperity. On the whole, Georgians should While the state’s economic expansion is likely to proceed at a slower pace than last year, it should still be strong and surpass the rest o f the nation. Intermediate Range Problem s I am basically optimistic about the future, but some areas remain weak and in need o f change in the next few years. These problems include inflation, unemployment, the deficit, real interest rates, and international trade. The rate o f price increases did decelerate dramatically in the early 1980s and has remained a moderate four percent despite the rapid economic growth we experienced last year. Nonetheless, little more than a decade ago four percent was deemed sufficiently high to warrant the imposition o f wage and price controls. Clearly, we have room for more improvement on this front. Similarly, the progress we have made toward reducing the unemployment rate from double-digit levels is cause for enormous satisfaction with our economy's capacity to rebound. Still, the current jobless rate indicates we are short o f the full-employment level to which we as a nation have been committed since the end o f World War II. Moreover, unemployment industries and areas. remains much higher than the national average in many Certainly, we must strive to lessen the human suffering and unrealized economic potential implied by these statistics. -9A third problem is the very large federal budget deficit. to reduce the d eficit has thus far been disappointing. Congressional action As macroeconomic growth moderates and the deficit increases in absolute terms, the federal budget deficit, even adjusted to the level that could be expected if we had full employment, is likely to remain around 3 1/2 to 4 percent o f GNP throughout 1985 compared to an average o f about 1 percent since the mid-sixties. reasons. rates. This d eficit is extremely troubling for several Large federal budget deficits tend to exert upward pressure on real interest High real rates increase business costs generally and discourage investment. Consumer demand for houses, autos, appliances, and home furnishings is also dampened in such an environment. D eficit problems a ffe c t the international sector as well because high real U.S. rates make dollar-denominated investments more attractive to foreigners. The higher return from holding dollars raises our currency’s exchange rate and thereby worsens our trade d eficit by raising prices foreigners must pay for exported U.S. goods and lowering prices Americans pay for imports. I have already mentioned that the dollar’s strength is seriously hurting American exports and sharply increasing imports. Additionally, a continuation o f the current international situation could result in a resurgence o f protectionism. It is understandable that some firms would welcome protectionist measures to help them ride out what many economists view as an abnormal exchange rate situation. However, protectionism tends to adhere to Newton’s TTiird Law in the sense that action by one country is usually followed by countermeasures in other countries. It may take years o f negotiations to return to the degree o f free trade that prevailed at the outset, even when protectionist policies are conceived as mere interim measures. Moreover, by curtailing the incentives for innovation, -10improvement, and necessary reform, protectionism businesses and workers it is intended to protect. ultimately weakens the very Another adverse consequence o f protectionism today could be to snuff out the weak economic recovery in many developing countries by reducing their access to American markets, eliminating a major source o f tiie limited growth they have achieved. The situation in developing nations is important for another reason. Many less developed countries are heavily indebted, and while default by a third-world nation is highly unlikely, the problem o f LDC debt is a serious and long-lasting one. continuing surveillance and careful consideration as we It requires fashion or modify policies intended to correct domestic economic problems and promote growth in the United States. Longer Term Outlook Let me turn now to the outlook for the ftiture in a broader context and over a longer term period, say, to the end o f the century. Looking beyond 1985, it is, o f course, much harder to project accurately how the economy will fare. Nonetheless, it is possible to identify the fundamental forces o f strength and weakness as well as changes that seem to be occurring in the structure o f the economy. In my judgment, there are at least three critical environmental factors at work in our economy and our society generally that w ill shape our destiny for years to come. demographic changes, and the evolution o f a global economy. these in turn as well as their implications for public policy. These are technology, I w ill discuss each o f -11When historians and other observers look back in another 50 years to the era o f the 1980s, they will no doubt compare our technological revolution to the industrial revolution o f the 1800s. Even though, in typical human fashion we are becoming used to our new technology and even taking it fo r granted, the fa ct remains that we are witnessing and living through a miraculous time in history in terms o f technological breakthroughs—going into space, computerization, miniaturization, to say nothing o f the advances in medical science and associated surgical procedures such as the mechanical heart. These are truly wonderful developments that will enrich the lives o f people everywhere. In economic terms, the application o f new technology generally results in higher productivity and greater economic growth in the aggregate. historically been a technological leader. The United States has Experiences o f the last two decades have made us forget that terms like ingenuity and innovation are virtually synonymous with Am erica and that technological leadership is fundamentally related to our political and economic leadership among nations. In the last recession, American businesses learned, or rather relearned, the importance o f investing in technologically advanced equipment and methods in order to compete in the global marketplace. yet fe lt the full e ffe c t o f that investment. Nonetheless, we have not Productivity grew about two percent last year, the postwar average rate for the second year o f an expansion. The longer term challenge w ill be to find ways to foster greater productivity gains, especially in the service sector. This part o f the economy is likely to provide a vast portion o f the new jobs in the future, and services historically have been manufacturing to technology-induced productivity advances. less amenable than -12A second environmental factor that w ill a ffe c t us and our policies is the demographic changes that are occurring in our society. First, we have the "graying” o f the population and, second, the maturing o f the postwar baby-boom generation. The aging o f our population has profound implications for the way in which we structure our work force, retirement, Social Security, and our health care and health delivery systems. With respect to the "baby-boomers," absorption o f these men and women into the labor force is virtually complete. Consequently, finding entry-level jobs should be less difficult than over the last decade and a half. As the postwar generation passes through its peak spending period, demand for all sorts o f consumer goods should be strong. Productivity should also increase as a larger proportion o f the nation's work force consists o f experienced workers, who tend to be more productive. Since the number o f students now entering school is generally less than when the baby boomers were moving through the educational system, the need to invest in bricks and mortar to accommodate larger student populations should abate. That w ill leave a larger share o f public funds for improving the quality o f education, a trend that should add to gains in productivity expected from other factors. A third environmental factor is the evolution o f a truly global market economy. We have come to realize, I hope, that the United States no longer buys and sells only within its own borders. With the possible exception o f the Soviet bloc, the world is truly one marketplace. The obvious implication o f this development is that U.S. industry and business must learn to compete more e ffe c tiv e ly with foreign producers. I do not for a moment believe that we need to berate ourselves, as we often do, about our performance relative to other economies. In the first place, our manufacturing sector is not nearly as bad o ff as some would have us believe, and the potential for significant advances in productivity is at hand. I firm ly believe that American management is as -13good as, if not better than, management anywhere in the world. Nevertheless, improvement can be made, and we do need to raise our productivity and the quality of our products so as to compete more e ffe c tiv e ly in world markets. As pointed out in a recent report o f the Committee for Economic Development, one way to improve our productivity and product quality and thereby enhance our global competitiveness is to remove government barriers and regulations to the greatest possible extent and to allow free market forces to work in our economy. o f saying, le t’s get the government o ff our backs. This is a polite way I f we need any evidence that this is the right way to go, we need only compare our nation’s economic performance during the recovery to that o f many developed and developing countries. Too frequently, their economic growth has been constrained and stifled by a large public sector’s unintended effects on the economy and its ability to adapt to change. Cradle-to-grave welfare systems are limiting economic recovery in Europe and perpetuating high unemployment rates. In LDCs, measures such as price regulations on certain basic goods are distorting their economies, bloating development. their underground sectors, and generally retarding their I f our government will retreat from the private sector, i f the public sector is diminished, market forces will hone our com petitive edge and, thereby, enhance our position in world markets. Finally, let me add one other environmental factor. I believe that we are now emerging from a period of deep negativism in our country to a far healthier attitude of hope and positive thinking. During the 1970s, our nation underwent enormous changes such as the shock o f oil price increases following the formation o f OPEC and the implementation o f a new series o f regulations designed to make our products and work places safer and our environment freer o f pollution. In addition, the momentum of -14far-reaching social change begun in the 1960s continued into the 1970s. Once barriers to racial and sexual equality began to be removed, as a society we began to address more subtle and harder-to-remove vestiges o f inequality. It is not surprising that in this environment o f profound social, political, and economic change that Americans i began questioning and criticizing some o f the fundamental aspects o f our culture. The changes that occurred exacted a considerable toll, although future generations will probably look back and thank us for making most o f the decisions that we did. Fortunately, the pains o f this transition are essentially behind us, and along with that, I believe people are becoming more positive about our nation’s performance, economically and in other spheres. I am grateful that we are moving away from our period of malaise and that Americans are more upbeat about themselves and more adaptable to the economic realities o f the 1980s, particularly the implications o f global competition. Still, we must nourish this renewed faith in our nation’ s institutions. not become misled by the bad news we often hear and read in the media. We should As an open and free society, we are often our own severest critic; so it is natural that bad news rather than good fills most o f our headlines. A t the same time, we must keep our focus on the substance o f news reports and on the underlying forces at work in our economy and our nation lest we lose the com petitive edge that comes with well-founded self-confidence. Policy Implications In assessing and evaluating these forces in our economy, I would o ffe r the following prescriptions to ensure that we have sustainable, noninflationary growth through -15the end o f the century: (1) take advantage o f new technology and improve productivity; (2) invest in human capital by well-chosen policies designed to improve the quality of education and the working environment; and, most importantly, (3) reduce the federal budget deficit over the next five years so that the mix o f fiscal and monetary policies works more e ffe c tiv e ly to create an environment for stable economic growth. We 1 cannot afford to have future generations pay the price for our failure to keep our fiscal house in order. Let me conclude where I began. Nineteen Hundred Eighty-Five will be a year of good economic growth, with relatively low inflation and unemployment. and always will be dangers, problems, and uncertainties. There are When you add to the economic concerns I have already mentioned, other problems such as the Middle East, Central America, arms control, terrorism—and the list goes on and on—it is obvious we live in a dangerous and difficu lt world. But I am an optimist, and I think we optimists have proven over tim e to be the realists. I really believe the future holds promise. This country has always been a strong, proud, progress-oriented nation with a deep-seated belief that today is better than yesterday and tomorrow will be better than today. are at the threshold o f a new world, but we are also at a crossroads. We I f we can solve our problems, we have the chance to create an economy and a society that will provide unparalleled prosperity fo r us, our children, and our grandchildren in the years ahead. We can succeed i f we have the wisdom and the will to do it. I believe we can.
@FedFRASER