The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.
For release on delivery 9:05 a.m. CST (10:05 a.m. EST) February 10. 1995 Remarks of Susan M. Phillips Member. Board of Governors of the Federal Reserve System to the Economic Education Winter Institute St. Cloud, Minnesota February 10. 1995 I'm very pleased to have the opportunity to speak at this year's Economic Education Winter Institute. I'd especially like to commend the organizers of this session for their efforts to bring economics closer to students and the community. The study of economics is something that many people avoid, perhaps due to its reputation as the "dismal science." However, like it or not, economics is a part of our daily lives. Individuals, households, businesses, and governments all make economic choices every day, within the constraints of available resources. Initiatives to improve economic education such as this Institute help ensure that our economic choices will be informed--more rational and intelligent than they otherwise would be. My task today, as I perceive it, is to provide a broad overview of recent developments in the U.S. economy. I hope this analysis will provide a basis to assess U.S. economic prospects for the remainder of this decade and on into the next century. I hope also to identify some areas where improvement is needed to ensure sustainable economic growth and improved standards of living. As most of you probably know, performance of the economy has improved considerably in the past couple of years. Output has been growing rapidly. are increasing. Job opportunities Unemployment is at a low level. Factories - 2 - are h u m m i n g . S u r v e y s i n d i c a t e that c o n s u m e r s feel confident about the o u t l o o k . B u s i n e s s e s a p p a r e n t l y also feel c o n f i d e n t , j u d g i n g from their i n c r e a s e s in capital spending recently. Not so long ago, p r o s p e c t s seemed less h o p e f u l . The e c o n o m y came into the d e c a d e of the 1990s w i t h a n u m b e r of serious i m b a l a n c e s that had built up d u r i n g the recession developed 1980s. in the summer of 1990 and w a s m a d e w o r s e by r e p e r c u s s i o n s from oil price i n c r e a s e s after the Iraqi i n v a s i o n of K u w a i t . to an end A l t h o u g h the recession o f f i c i a l l y came early in 1991, the e c o n o m y then had t r o u b l e generating a normal recovery. The t r a n s i t i o n f r o m the s l u g g i s h c o n d i t i o n s of the early 1990s to the current strong e c o n o m y is to some extent a w o r k i n g out of fairly n o r m a l b u s i n e s s cycle f o r c e s . But no two b u s i n e s s cycles are alike. of s l o w growth that w e experienced The extended period earlier in the d e c a d e w a s , in part, a r e f l e c t i o n of d e v e l o p m e n t s that either w e r e u n i q u e to the m o s t recent b u s i n e s s cycle, or, in some w a y s , w e r e m o r e severe than similar f o r c e s had b e e n in the past. I'd like to spend a few m i n u t e s r e v i e w i n g t h o s e developments, A in order to give y o u a f l a v o r of h o w the b u s i n e s s cycle has been u n f o l d i n g over the past few y e a r s . -3- Recent Cyclical D e v e l o p m e n t s in the E c o n o m y One of the factors that kept the economy sluggish earlier in the decade was an unusually severe contraction in certain parts of the construction business. A boom in nonresidential construction activity in the middle part of the 1980s, encouraged by tax incentives, led to overbuilding of various types of structures, including m u l t i f a m i l y housing, office buildings, and other commercial structures. By the end of the last decade, vacancy rates had moved up. Market conditions for commercial properties w e r e deteriorating. N e w construction was plummeting. M u l t i f a m i l y housing fell to the lowest levels on record by late 1992 and early 1993. Construction of office space plunged by two-thirds from the m i d - 1 9 8 0 s to 1993. Industrial construction and other commercial construction also contracted. More recently, conditions have been improving in these m a r k e t s . M u l t i f a m i l y housing bottomed out in early 1993 at a very low level, but since has turned up sharply. Construction of new industrial space also is rising. Even the construction of new office space has picked up, in response to declining vacancy rates and firming market conditions. Another special factor that slowed the economy earlier in the 1990s was the unusual restraint that -4- developed in the credit markets. This so-called "credit crunch" occurred even as the Federal Reserve was shifting toward ease in an effort to shore up the economy. Reacting in part to what was happening in construction and commercial real estate markets, lenders became much more conservative in the late 1980s and early 1990s. Loans for some purposes became extremely difficult to obtain. Growth of the credit supplied by depository institutions turned down for a time, and growth of total nonfinancial debt became quite sluggish. But in the past two years, conditions in the credit markets have taken an expansionary turn. Lenders have once again become more aggressive in searching out loan opportunities, and the terms of lending have become more liberal. Outside financing has become more readily available even for those activities--such as site development--where lender restrictions on the supply of credit previously had appeared to be the most stringent. Depository institutions have become more willing lenders of late: Bank lending actually increased fairly sharply in 1994. Indeed, so marked has the turnabout been from the situation of a few years ago that it seems as though yesterday's "headwinds" in the credit markets now have become "tailwinds," helping to propel the economy forward. A third factor that began to come into play in 1991 and 1992 was a sharp contraction of the defense industry. -5- In real terms, f e d e r a l o u t l a y s for d e f e n s e started to p l u m m e t after the end of the G u l f War, and they h a v e remained on a sharp downward trend c o m m u n i t i e s that depended gone through hard ever since. on d e f e n s e - r e l a t e d Many industries have times since these c u t b a c k s b e g a n . w o r k e r s in d e f e n s e - related employment elsewhere. Many i n d u s t r i e s h a v e had to seek I n d i c a t i o n s are, h o w e v e r , that d e f e n s e d o w n s i z i n g may be about at its end, and the drag on the e c o n o m y from this source should be d i m i n i s h i n g in the not-too-distant future. A fourth d e v e l o p m e n t e c o n o m y earlier in the corporate sector. that helped to slow the 1990s w a s the r e s t r u c t u r i n g of the M a n y large c o r p o r a t i o n s u n d e r w e n t m a j o r r e o r g a n i z a t i o n s , and f r e q u e n t l y , the r e o r g a n i z a t i o n s entailed sizable layoffs of b o t h w o r k e r s and supervisors. H o w e v e r , the f r e q u e n c y of these r e s t r u c t u r i n g s seems to have diminished a bit as the e c o n o m y has improved. Moreover, in c o n t r a s t to f e a r s that w e r e v o i c e d a few y e a r s ago, the r e s t r u c t u r i n g s do not seem to h a v e left us w i t h an army of unemployable workers. N e w jobs h a v e b e c o m e a v a i l a b l e , a l t h o u g h , to be sure, they may not be as good as the in m a n y c a s e s jobs that w e r e lost. E v e n h o u s e h o l d s and b u s i n e s s e s that w e r e not d i r e c t l y a f f e c t e d by the d o w n t u r n in c o n s t r u c t i o n , the - 6 - d e f e n s e c u t b a c k s , or the c o r p o r a t e restructurings became m o r e cautious in the early part of the had b o r r o w e d h e a v i l y overextended toward in the the end 1990s. 1980s, and m a n y felt of that decade, e s p e c i a l l y as e m p l o y m e n t p r o s p e c t s b e c a m e less c e r t a i n . retrenched and Households H o u s e h o l d s thus for a time, h o l d i n g down their p u r c h a s e s of h o m e s consumer durables. their f i n a n c i a l They slowed sharply the b u i l d u p of l i a b i l i t i e s , m a k i n g a d j u s t m e n t s to their c o n s u m e r debt p o s i t i o n s and r e f i n a n c i n g their home mortgages. O n c e this r e s t r u c t u r i n g of b a l a n c e sheets had its course, spending was ready to r e b o u n d . run Undoubtedly, t h e r e w a s c o n s i d e r a b l e pent-up demand from delayed purchases. O v e r the past two or three years, h o u s e h o l d s h a v e been i n v e s t i n g h e a v i l y in m o t o r v e h i c l e s , and their p u r c h a s e s of other h o u s e h o l d d u r a b l e s h a v e b e e n c l i m b i n g . F r o m all a c c o u n t s , i n v e s t m e n t s by h o u s e h o l d s in c o m p u t e r s and n e w c o m m u n i c a t i o n s t e c h n o l o g i e s h a v e b e e n soaring, w i t h no end in sight. A t t r a c t i v e n e s s of these i n v e s t m e n t s has b e e n enhanced by d e c l i n i n g prices and product rapid i m p r o v e m e n t s in quality. L i k e h o u s e h o l d s , b u s i n e s s e s w e n t t h r o u g h a period in the early 1990s in w h i c h they turned c a u t i o u s about s p e n d i n g and focused instead on s h o r i n g up their f i n a n c e s . I n v e s t m e n t e x p e n d i t u r e s and debt growth w e r e cut b a c k for a time, until economic footing seemed m o r e secure. More -7- recently, businesses have been operating from a position of strength. Profits have been high, and cash flow has been more than adequate. Strong investment spending has been achieved largely through internal funds. Total debt growth has picked up a bit in the business sector this past year, but the rate of growth has not been very large compared to past standards. The Federal Reserve, in its efforts to achieve sustainable economic growth in an environment of stable prices, has had to take into account both the normal effects of the business cycle and the special "headwinds" created by the legacy of the 1980*s imbalances. The Fed began to shift toward ease in 1989, when it became clear that a slowdown of the economy was under way. More moves toward accommodation followed in the next three years, as the economy struggled to move back into meaningful recovery. Only in early 1994, when it seemed that the economy finally had gained momentum did the Fed start to move back from a very accommodative position toward a more neutral stance. Further tightenings have since been undertaken to head off a potential buildup of inflationary pressures as the economy moved to high levels of resource utilization. So far, growth has remained strong, and inflationary pressures have remained in check. - 8 - The Forces of Structural Change: Reshaping the Economy In addition to cyclical economic influences, there have been other recent developments that appear to transcend the business cycle. These developments are bringing about very fundamental changes in the fabric of our economy. To some extent these structural changes may be disruptive to the economy in the short run. But in the long run, they probably are taking us in the direction of a more efficient economy, in which faster growth of real living standards will be possible. One of these ongoing structural changes is, of course, the computer revolution, which is affecting almost everyone in the economy. Businesses are striving to keep pace with rapid technical advances on a number of fronts, and more and more households have started to buy into new computer technologies as well. At many companies, the workplace has been drastically altered as the computer revolution has gained momentum. Jobs that once were essential have been disappearing, and, at the same time, new types of jobs have opened up. A great deal of churning thus is taking place in labor markets. The ability of workers to retool--midway through their careers--is becoming more and more essential. To stand still with yesterday's skills is a strategy that is sure to lose ground. -9- B u s i n e s s o p e r a t i o n s are c h a n g i n g for are not solely related to the c o m p u t e r . m o m e n t ago that m a j o r years. I mentioned a r e s t r u c t u r i n g s h a v e taken p l a c e in the c o r p o r a t e sector in the of m a n a g e m e n t and reasons that 1990s. At m a n y c o m p a n i e s , systems c o n t r o l h a v e b e e n redesigned in recent L a y e r s of s u p e r v i s o r s h a v e b e e n thinned out, and the lines of c o m m u n i c a t i o n from the top to the b o t t o m have been shortened. O r g a n i z a t i o n a l s t r u c t u r e s are b e i n g all sorts of w a y s in an effort to find c o m b i n a t i o n s in w h i c h i n d i v i d u a l s can w o r k t o g e t h e r most e f f i c i e n t l y . short But, run, redrawn in In the these changes h a v e b e e n tough on many w o r k e r s . in the long run. a stronger e c o n o m y w i l l be the result. A n o t h e r big change in the w o r k p l a c e in recent y e a r s is the increased use of t e m p o r a r y and c o n t r a c t w o r k e r s . Influenced in part by the high cost e m p l o y e e s , m a n y firms h a v e opted temporary-help firms. of b e n e f i t s for new instead to look to E m p l o y e r s h a v e sought not just t r a d i t i o n a l c l e r i c a l w o r k e r s , but also f a c t o r y floor employees. looked H i r i n g w o r k e r s on a t e m p o r a r y b a s i s p r o b a b l y like an a t t r a c t i v e a l t e r n a t i v e w h e n labor m a r k e t s w e r e r e l a t i v e l y slack e a r l i e r in the the pickup 1990s. But even w i t h of the economy, h i r i n g of the so-called has b e e n p r o c e e d i n g at a h e f t y pace. Evidently, "temps" in a w o r l d marked by rapid change, m a n y firms h a v e continued to be a t t r a c t e d by the greater f l e x i b i l i t y that comes w i t h the h i r i n g of w o r k e r s on a t e m p o r a r y b a s i s . -10- In these c i r c u m s t a n c e s , w o r k e r s w h o come to the market l o o k i n g for disappointed. lifetime job security may w e l l be On the other hand, w o r k e r s w i t h the skills to adapt q u i c k l y to changing m a r k e t going to t h r i v e . c o n d i t i o n s p r o b a b l y are A w o r k f o r c e that a l r e a d y w a s m o r e a d a p t a b l e than in some other i n d u s t r i a l c o u n t r i e s p r o b a b l y is b e c o m i n g still m o r e f l e x i b l e and a d a p t a b l e . M a n y of the changes that have been u n d e r t a k e n at U.S. c o m p a n i e s and in U.S. labor m a r k e t s in recent y e a r s are. to a c o n s i d e r a b l e degree, a r e s p o n s e to the increased i n t e r n a t i o n a l i z a t i o n of the e c o n o m y . economies have been strengthening. of course, but Our l i n k a g e s to other This is not a n e w trend, it is one that has p e r s i s t e d . I n t e r n a t i o n a l i z a t i o n may even be g a i n i n g m o m e n t u m in v i e w of such things as N A F T A and the ever d e c l i n i n g costs of global telecommunications. longer For m a n y firms, the real c o m p e t i t i o n no is the factory in the next county or the next state. Instead, it's the p r o d u c e r in a f o r e i g n c o u n t r y . Making a better product more efficiently than a foreign firm will be the key to s t a y i n g in b u s i n e s s for m a n y U.S. c o n c e r n s in coming years. positioned rapidly My own v i e w is that w e are r e a s o n a b l y well- to t h r i v e and c o m p e t e s u c c e s s f u l l y in this changing international environment. -11- But, we should not underestimate the degree of the challenge. Ongoing retooling of the economy to take advantage of emerging technologies is an immense task. The nation's stock of physical capital, which has been built up over many decades, is substantially larger than annual gross investment. It may therefore take a relatively long time before efficiencies that are embodied in recent innovations become fully rolled into the entire stock of capital. Similar arguments apply to human capital. The skills of the work force at any particular moment in time depend on investments in education and training that were undertaken in the past--sometimes the distant past. With the speed of innovation in new technologies in recent years, I think it probably is accurate to say that many workers, if not most, still are trying to catch up to yesterday's innovations, let alone today's. It is quite possible that much of the progress from the computer revolution and the other efforts to retool the economy still may be in the pipeline. There is considerable potential for increases in productivity and rising living standards as we move ahead. However, high rates of investment are going to be needed to make that potential a reality. Technology does not make its way through the economy like pollen on the breeze. Rather, it becomes reality through particular types of investments in physical and human capital. It is only through such investments that - 1 2 - we can be sure of not falling behind the curve in a highly competitive and rapidly changing world economy. That raises an additional challenge. Investment of the magnitude that we need will require a good deal of saving. On that score, this country has not had a very good record in recent years. Our national saving rate has been low. both in comparison to historical experience and in comparison to the rates of saving in many other industrial countries. In addition, the uses of U.S. domestic saving are far from optimal. A sizable portion of the pool of private saving has been drained off in recent years to finance large and persistent Federal budget deficits. The amount of domestic saving that is left for private investment in plant and equipment is thereby diminished. In these circumstances, we've been depending for a number of years on large inflows of capital from abroad to make up for our own saving shortfall. In a very real sense, we consume more as a nation than we produce. Like any household, a nation can live beyond its means for a time if it starts out with sufficient assets or income to service its debt comfortably. But, there also clearly are limits as to how far this process can, or should, go. Over the years, many representatives of the Federal Reserve have taken the view that steps to lower the federal -13- d e f i c i t and foster a h i g h e r n a t i o n a l desirable. I certainly saving rate would be share these v i e w s . Inflation I h a v e not, inflation. to this point, It's a topic, m i n d s of most you probably talked m u c h about in fact, that has not b e e n on the people n e a r l y as m u c h as it once w a s . recall the late 1970s and early M a n y of 1980s w h e n u n d e r l y i n g rates of i n f l a t i o n in the U.S. e c o n o m y w e r e percent or m o r e . 10 I n f l a t i o n in those days came to be like sand in the gears of our e c o n o m y . H o u s e h o l d s and b u s i n e s s e s alike b e g a n to devote enormous amounts of time to t r y i n g to figure out h o w best to survive a s i t u a t i o n in w h i c h inflation was dollar. rapidly eroding the p u r c h a s i n g power of the Uncertainties mounted. Long-run planning became extremely difficult. Out of that e x p e r i e n c e a strong n a t i o n a l c o m m i t m e n t developed to b r i n g i n f l a t i o n down to the point w h e r e it w o u l d no longer be a s e r i o u s f a c t o r in the d e c i s i o n s of h o u s e h o l d s and b u s i n e s s e s . M a k i n g good on that c o m m i t m e n t took a long time b e c a u s e i n f l a t i o n is d i f f i c u l t to w r i n g out of the e c o n o m y once it is e n t r e n c h e d . eventually, considerable progress was made. But, Over the past four years, w e ' v e seen the longest stretch of r e l a t i v e l y low p r i c e i n f l a t i o n in a full g e n e r a t i o n . of the sand out of the gears, but We h a v e gotten m u c h it's not yet all gone. -14The task ahead is to make sure that we make further progress in achieving price stability, as the economy goes forward at sustainable levels of growth. Summary I've covered a lot of ground in a hurry. briefly summarize my main points. Let me The economy went through a period of unusually sluggish growth earlier in the 1990s, but most of the forces that had helped to retard growth have since dissipated. Growth of activity has been quite brisk over the past three years, and resource utilization rates have risen to quite high levels by recent historical standards. The country also is making progress in pulling together a formula for the longer run. Among the main ingredients in that formula are improved productivity through innovation, high levels of saving and investment, and price stability. Not all of these ingredients are accomplished at this point, but significant gains have been made. I believe that we will begin seeing more clearly the results of those gains in measures of macroeconomic performance as we move on through the remainder of this decade and into the 21st century. Thank you.
@FedFRASER