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2Rotary Club San Jose For delivery March 3, 1993, 1:00 PM PST E c o n o m ic P r o sp e c t s for C a l ifo r n ia a nd t h e N a t io n in 1993 Robert T. Parry President, Federal Reserve Bank of San Francisco I. Today I’m going to discuss the outlook for both the nation and California, A. II. and their stories are different enough that we could almost call this "The Tale of Two Economies." 1. In the nation, we’re seeing more and more signs that we’re moving into a phase of sustained economic expansion. 2. Here in California, though, the economy presents a much different picture. So let me start with a look at developments in our region. A. To put it bluntly, California is in a long and deep recession. B. And this is unusual for us. 1. If you look back at our history, you see that we’re used to weathering recessions somewhat better than the nation. 2. When the national economy slumps, California’s economy typically just "hesitates." 3. Only once before, in 1970, did California do worse than the U.S. a. C. The current economic scene in California is unusual for another reason, as well. 1. Usually, as the nation heads into recovery, California picks up steam at the same time. 2. But not in this cycle. P:\WP51 \I’ARKY\SA N JO SE\3-1-93.2 But now we’re faced with an unemployment rate of 9.5 percent, more than two percentage points higher than the national rate. 1 D. a. According to the NBER, the U.S. economy has been in recovery—a sluggish recovery, but a recovery nonetheless—since March 1991. b. In California, though, we now have 360,000few er jobs than when the national recovery began. Now, from a lot of the news coverage, you might think that just a few industries are accounting for a lot of the employment losses. 1. For example, commercial real estate is seriously overbuilt in many parts of the state —especially in southern California. a. 2. 3. And the defense sector has been hit hard by cutbacks. a. Real defense spending in California has fallen more than 13 percent since its 1988 peak. b. And aerospace employment has fallen 31 percent since the beginning of 1990 —a loss of 78,000 jobs. But these aren’t the only industries facing hard times. a. E. In fact, both non-defense manufacturing and trade have lost more jobs than either construction or aerospace. It’s also tempting to put the focus on southern California, where, clearly, the problems have been most severe. 1. While the six southern California counties account for 57 percent of the state’s total employment, they account for around 80 percent of the jobs lost during the current downturn. a. That’s partly because defense is more important to the southern California economy, b. and the commercial real estate problems are worse in that part of the state. c. Overall, Southern California has lost 8 percent of its jobs. P: \ W P51\PARRY\SA N J O SE \3-1-93.2 As a result, more than a quarter of the construction jobs that existed three years ago are gone today. 2 2. F. But northern California is hardly immune. a. Since May of 1990, the Bay Area has lost nearly 4 percent of its jobs. b. That’s worse than the national economy, where the peak-totrough employment loss was only 2 percent. Since there’s little prospect for substantial improvement in southern California this year, it will continue to be a drag on the northern part of the state. 1. For one thing, business ties between northern and southern California are strong, with many Bay Area businesses selling their products and services in the L.A. area. 2. For another, lingering weakness in southern California will continue to hold down state tax revenues, leading to further fiscal problems throughout the state. a. G. When can we expect to see the state’s economy turn around? 1. Well, we did get some encouraging news in January’s employment report, a. which showed a gain of nearly 50,000 jobs during the month. b. Still, it’s much too soon to tell whether this first gain in six months represents the beginning of a trend. 2. But downward adjustments in defense and problems in commercial real estate are likely to last at least a couple of years. 3. And the state government is going to face some tough choices, which seem certain to intensify California’s short-term troubles. 4. The only real hope for any improvement during the next couple of years seems to be improved demand for the goods and services produced in California. P:\W P51\PA R RY \SA N JO SE\3-l-93.2 Current budget figures suggest that lawmakers will be facing the same kind of shortfall, and therefore the same daunting budget process, as they have for the past two years. 3 a. III. So now let me turn to the national economy, where the signs of sustained expansion seem to be building. A. After nearly three years of recession and sluggish growth, a pattern of moderate expansion took hold in the first half of 1992, when real GDP grew at a 2 'A percent rate. 1. Then, in the second half of the year, the economy registered a robust 4 percent growth rate. a. 2. B. IV. And that, in turn, depends to a large extent on how robust the national recovery is. In fact, growth in the fourth quarter alone was recently revised up from 3.8 percent to a strong 4.8 percent! That information has raised my confidence that the expansion will be sustained. In my view, monetary policy can take some of the credit for the acceleration in the economy. 1. Since economic growth began to slow about four years ago, the Fed has let short-term interest rates fall substantially. 2. The federal funds rate and other short-term rates are now about a third of what they were in early 1989. 3. Moreover, intermediate and long-term interest rates also have fallen substantially in recent years. As we look ahead to the remainder of 1993, I expect the expansion to continue. A. But there are a number of reasons to believe that it will be held to a moderate pace, probably in the neighborhood of 3 percent, rather than the 4-5 percent that would be normal early in an economic recovery. B. First, a number of our most important trading partners are going through slowdowns themselves, 1. and this will tend to hold back the volume of U.S. products we can sell abroad. P:\W P51\PARRY\.SANJOSE\3-l-93.2 4 2. C. The recent easing of monetary policies in Japan and much of Europe will help, but I still don’t expect to see robust growth abroad. Second, we’ve been importing foreign goods, especially computers, at a rapid pace in recent years, and we expect this trend to continue. 1. D. E. V. This cuts into demand for domestic products. Then, there s trouble in the commercial real estate market in many places not just California. 1. The vacancy rate nationally is high, at about 20 percent. 2. And it will probably take years to work off this much overhang. Finally, the large budget deficit and the end of the cold war have led the federal government to cut back, especially for defense. 1. And state and local governments, too, have been constrained in the face of their own deficits. 2. Of course, the outlook may change once we know how negotiations on Clinton’s budget proposal work out. Now, let me give you my outlook for inflation. A. Over the period of recession and slow growth, labor and product markets slackened, and this restrained growth in labor compensation and product prices. B. Since the economy is likely to grow only moderately this year, the pressures for disinflation should continue. 1. C. Another factor contributing to the disinflationary trend is the large increase in worker productivity in 1992— a. the largest of any year in the last two decades. b. If this continues, firms will have a better chance of meeting increased demand without having to increase prices. During 1992, core consumer inflation—which excludes the volatile food and energy component from the consumer price index—rose at around a 314 percent rate, P:\WI\S 1\1>A R RY \SA NJO SE\3-1-93.2 5 VI. 1. and I expect to see it decline to about 2!/^ percent this year and to be a little lower in 1994. 2. These numbers represent significant progress over the 4V2 percent core rate of consumer inflation in 1991. What does this mean for monetary policy? A. The main way in which the Federal Reserve can contribute to long-run economic growth is by providing an environment of low inflation. 1. So the continuing downward trend in inflation that I expect is very much in keeping with that long-term goal. B. Our progress in lowering inflation has been important also because it has given us greater latitude to respond to the weakness in the economy in recent years. C. I want to emphasize that while we’ll pursue policies consistent with the continuation of the economic expansion, 1. D. I think our efforts in both areas are paying off. P:\W P51\PA R RY \SA N JO Sfi\3-l-93.2 we also must be careful to preserve and advance hard-won gains against inflation. 6
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