CABINET COUNCIL ON ECONOMIC AFFAIRS -- JANUARY 21 MEETING

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP84T00109R000100040025-0
• Release Decision: RIPPUB
• Original Classification: K
• Document Page Count: 28
• Document Creation Date: December 20, 2016
• Document Release Date: July 25, 2007
• Sequence Number: 25
• Publication Date: January 19, 1982
• Content Type: MEMO

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DATE
TRANSMITTAL SLIP I 22 Jan 82
TO:
ROOM NO.
BUILDING
REMARKS:
Pls return to NI0/Econ
FROM:
NI0/Econ
ROOM NO.
BUILDING
EXTENSION
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I woo FOR:
Date
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 CABINET AFFAIRS STAFFING MEMORANDUM
1/19/82
?
NUMBER: DUE BY:
VBJECT: CABINET COUNCIL ON ECONOMIC AFFAIRS -- January 21 Meeting
ALL CABINET MEMBERS ^ ^
Vice President El
State
Treasury C"001 ^
Defense ^ Z0.1
Attorney General ^
Interior ^ C
Agriculture ^
Commerce ^
Labor [sue ^
HHS ^ E
HUD ^
Transportation ['' ^
Energy ^ [
Education ^ [
Counsellor 0/
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B
UN
USTR
^
Il
THE WHITE HOUSE
WASHINGTON
ACTION FYI
Baker r ^
Deaver ^ ^
Anderson F-0-- El
Clark ^
Darman (For WH Staffing) I~ ^
Jenkins ^ pll~
Gray ^
Beal ^
Allen Lenz I F-9-- El
Larry Kudlow [ ^
^ ^
^ ^
^ ^
^ ^
CCNRE/Boggs ^ ^
CCHR/Carleson ^ ^
CCCT/Kass ^ ^
CCFA/McClaughry ^ ^
CCEA/Porter ^
Attached are the agenda and briefing paper on Agenda item #1
for the Thursday, January 21, meeting of the Cabinet Council
on Economic Affairs, scheduled for 8:45 AM in the Roosevelt Room.
There will be no paper for the second agenda item distributed in
advance of the meeting.
TURN TO: Craig L. Fuller
Assistant to the President
for Cabinet Affairs
456-2823
CONTACT: Kenneth Cribb, Jr.
Assistant Director
Office of Cabinet Affairs
456-2800
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0
THE WHITE HOUSE
WASHINGTON
January 19, 1982
MEMORANDUM FOR THE CABINET COUNCIL ON ECONOMIC AFFAIRS
FROM: ROGER B. PORTER /,l'/'
SUBJECT: Agenda and Paper for the-January 21 Meeting
The agenda and paper for the Thursday, January 21 meeting
of the Cabinet Council on Economic Affairs are attached. The
meeting is scheduled for 8:45 a.m., in the Roosevelt Room.
The first agenda item is a review of the current economic
outlook. A paper, prepared by Lawrence A. Kudlow, entitled
"Financial and Economic Update," is attached. This paper was
coordinated with and commented on by the Department of the Trea-
sury and the Council of Economic Advisers.
The second agenda item is a brief review of some interna-
tional economic developments. Under Secretary of the Treasury
for Monetary Affairs Beryl Sprinkel will report on recent dis-
cussions with senior foreign officials on international economic
policy issues. No paper will be distributed in advance of the
meeting for this agenda item.
STAT
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January 21, 1982
8:45 a.m.
Roosevelt Room
AGENDA
1. Review of the Economic Outlook (CM#127)
2. International Economic Developments
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EXESTIVE OFFICE OF THE PRESIDDT
OFFICE OF MANAGEMENT AND BUDGET
January 18, 1982
MEMORANDUM FOR THE CABINET COUNCIL ON ECONOMIC AFFAIRS
FROM: Lawrence A. Kudlow
SUBJECT: Financial and Economic Update
INTRODUCTION
Suddenly, the decline in interest rates has come to an end.
After a euphoric 3-month period from late August through
November, when short rates fell by 550-650 basis points and long
rates declined by more than 200 basis points, interest rates
during the past 7 weeks have rebounded smartly. Both short and
long rates have jumped by about 150 basis points.
The rise in long rates could portend real economic damage. High
quality corporate utility bonds peaked last summer at 17.75%.
During the autumn bond rally they fell to 14.75%, but during the
current November-January setback they have retraced upward back
to nearly 17%. This is particularly worrisome because it has
occurred during a period when real GNP has been declining by
about 6% and unemployment has risen to nearly 9%. Thus, the
traditional view of recessionary interest rate relief has not
panned out.
With respect to the expected economic recovery this year, the
near record level of long-term interest rates -- more important
in an economic
is an ominous
or 17% during
growth/investment sense than short-term
rates
--
sign. If best rated bonds are financed
a recession, and if this turns out to be
around
the
16%
bottom in the highest quality corporate rates, then prohibitive
long-term investment costs during the recovery will undercut
expansion in plant and equipment and undermine the supply-side
tax program. And without such capital expansion, economic
growth prospects become considerably less promising.
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Thus, the central point is not how high interest rates have
gone, but how low they have not gone. The absolute bottom for
AAA utility bonds was 14 3/4% in November -- and it would take a
major new rally just to get back to that point. But even if a
new rally does occur (and the market chartists and technicians
expect a rally soon), this would represent the highest interest
rate trough in history. Indeed, until recently it would have
represented the highest interest rate peak in history. And with
interest rates this hiqh, is sustainable economic recovery a
realistic possibility?
A cyclical story. Why is all this happening? It seems like a
repeat of the old fiscal/monetary theme: large deficits are
incompatible with a sustained monetary and inflationary
reduction over a period of years. In a recession, with
declining private credit demands, deficits don't matter much.
But in a recovery, with rising private credit needs, deficits
matter a lot. The absorption of capital, the preemption of
productive private borrowers, the politically-motivated
subsidies, the rearrangement of market risk and the
interference with monetary policy all spell trouble for future
.in-vestment, economic growth and inflation.
In a real sense the market- is cautioning government policymakers
about prospective events: the clash of government and private
financing requirements, the possibility of inflationary money
growth and the likelihood of a disappointing and dampened
economic recovery. The expression of these market worries is
embodied in the rising structure of interest rates. This
interest rate medium is the message, and the upward movement of
rates is a market signal that severe fiscal problems may cause
future damage to investment opportunities, inflation and
economic growth. In a word, interest rates are best viewed as a
proxy for expectations of the future.
What the market knows is the following:
1) Budget outlay estimates for the 1982-84 period have risen
substantially since the original fiscal plan was unveiled
in February 1981; and
2) The most recent Administration deficit estimates made
public (the December 2 Troika package, which was
published in the press on December 7) suggest that the
expected recovery cycle over the 1982-1987 period will
generate a deficit/GNP path much like the 1976-1980
period, a period characterized by sluggish investment and
growth, high inflation and record interest rates.
3) In November the President removed from policy the pledge
for a balanced budget by 1984. To many this suggests the
removal of budget discipline.
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Given the information currently available (the market has not
received information on new Administration initiatives to
generate budget deficit savings), the budget outlay drift
appears as follows:
Budget Drift
1982
1983
1984
The White Paper (Feb. 18)
695.5
733.1
771.6
Budget Revisions (Mar. 10)
695.3
732.0
770.2
Mid-session Review (July 15)
704.8
728.7
758.5
September Budget Initiative (Oct.6)
725.8
774.5
824.2
Dec. 2 Troika Forecast
729.4
798.8
844.7
Change Feb. 18 to Dec. 7
33.9
65.7
73.1
(Percent slippage)
(4.9%)
(9.0%)
(9.5%)
In 1982, budget estimates have drifted up by $33.9 billion, from
$695.5 billion to $729.4 billion. In 1983 the drift is nearly
twice as much, aggregating to $65.7 billion. By 1984 the drift
totals $73.1 billion, a rise of 9.5% from the original estimate in
February 1981. This is a troubling pattern, and suggests that the
Administration's efforts to control spending have not matched the
promises made by government or expectations held by the markets.
In addition, the December 7 news stories concerning new
Administration economic assumptions and deficit projections
created a wave of market fears over prospective Treasury
borrowing requirements. The out-year deficit estimates
contained in those news stories averaged about $150 billion.
But investors undoubtedly assumed new fiscal proposals from the
Administration. So for analytical purposes it seems reasonahle
to plug in market expectations for deficit estimates of about
$100 billion in 1983, $100 billion in 1984, and $75 billion for
the 1985-87 period. These are numbers now widely quoted by private
forecasters. This leaves the following:
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From the market's standpoint, given all available information
about fiscal policy, the deficit/GNP relationship during the
next recovery period looks just about as bad as during the last
recovery. Over the 1983-87 period, Federal deficits are
projected to'average 2.1% of nominal GNP. This almost matches
the 5-year experience following the 1974-75 recession (2.4% of
GNP), and it far exceeds the average deficit share of GNP for
all post-war cyclical recoveries (1.2%).
So interest rate movements in recent weeks, to the extent they
are influenced by fiscal events, suggest deep-rooted concerns
over future government spending and borrowing. From the
market's perspective the future looks much like the recent past.
And there is one matter on which everyone can agree: the recent
past has not been good.
Meanwhile, just to make matters worse, a new surge of
undesirable money growth is now underway. On a year over year
basis, the growth of M1B has gone from a low of 3.7% in early
November, to 6.6% for the latest week in January. After six
months of relatively slow growth -- from April through October
1981 -- money growth-began a sharp expansion in November.
M1B
(% change, S.A. annual rate)
4 weeks ending
11/4/81
- 1 8
14.3
5/6/81
- 11/4/81
-0.5
Difference
14.8
The rapid acceleration in MlB growth is also illustrated in
recent weekly data.
M1B
(% change, S.A. annual rate)
4 weeks ending
4-Week
Smoothed*
Nov
4
2.3
2.1
Nov
18
5.7
3.8
Dec
2
16.5
10.3
Dec
16
17.7
12.0
Dec
23
16.2
12.3
Dec
30
9.4
9.8
Jan
6
10.8
10.5
* For weekly data, smoothed growth consists of the average of
4-, 9-, and 13-week growth rates.
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Perhaps the jump in money is only a temporary phenomenon, a
result of technical problems in the measurement of the money
supply. This is always a possibility over relatively short-run
periods, and this is probably the case for.last week's
$9.8 billion increase. But there are numerous other signals
suggesting a basic change in monetary policy from steady
restraint to alarming expansion.
At its October and November meetings the Federal Open Market
Committee (FOMC) voted for faster money growth. This new policy
has been backed up by explicit open market operations. The Fed
has stepped up its purchase of government securities (assets),
providing the resources for a substantial acceleration in
commercial bank balance sheets and bank credit.
Federal Reserve
Commercial
Bank
Assets
Assets
change, annual rate)
(% change, annual rate)
4 weeks ending
Smoothed* 52-week
Smoothed*
52-week
Nov
4
13.9
3.1
-1.5
7.6
Nov
18
7.1
2.5
-1.1
7.0
Dec
2
9.5
5.0
10.8
7.9
Dec
16
26.8
6.3
17.5
8.3
Dec
30
37.2
6.0
20.9
7.4
Jan
6
29.8
5.4
NA
NA
* For weekly data, smoothed growth consists of the average of
4-, 9-, and 13-week growth rates.
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On the liability-side of the Fed's balance sheet, the rise in
asset holdings has been matched by a surge in nonborrowed and
total reserves., Growth of the monetary base (which adds
currency outstanding to total reserves) has also accelerated, but
thus far its pickup has not been as sharp as the two reserve
measures.
NONBORROWED RESERVES
(SMOOTHED GROWTH RATES)*
-, Srut6 l t6 6fl MT ~i a !? A IL? ~ 4' 9 011? 1"81 !0
* For weekly data, smoothed growth consists of the average
of 4-, 9-, and 13-week growth rates, seasonally adjusted
at annual rates.
(Seasonally adjusted, Annualized rates of growth)
4 weeks ending
St. Louis
Monetary Base
Total
Reserves
Nonborrowed
Reserves
11/4/81 - 1/6/82
7.1
10.6
16.9
5/6/81 - 11/4/81
3.6
3.7
6.5
Difference
3.5
6.9
10.4
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Why is faster money growth necessary? The shift to
monetary expansion is not accommodating a new burst of
private loan demand. Total short-term business credit
demands have tapered off in recent months. Moreover,
inventories appear to be at or near a peak.
- The Commerce Department's flash report for the
4th quarter indicates that substantial inventory
liquidation is already underway -- real non-farm
inventory investment is estimated to have dipped
to $5.2 billion from'$1,2.8 billion in 1981:3.
- The latest report of the Purchasing Agents
supports this estimate. It shows that in
December 37.5% of the industries reported
increases in inventories. This is down from
45.3% in November and 51.8% in October.
Similarly, December also witnessed a rise in the
percentage of industries reporting increases in
new orders, from 32.8% in November to 37.8% in
December.
Seasonally Adjusted Diffusion Indexes
(Derived from reports by the Purchasing Agents)
Sept Oct Nov Dec
New orders 45.0 41.3 32.8 37.8
Inventory 42.2 51.8 45.3 37.5
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On the whole, private credit demand has eased during the
past two months, although C&I loans continue at an unusually
rapid rate for this stage of recession. This may reflect
the shortage of liquidity among large and medium sized
business firms, with' long-term financing rates out of reach
for many companies.
SMOOTHED GROWTH RATES*
Short Term 1/
Business Credit Total C&I Loans NYC C&I Loans
Oct 7 32.0 18.2 15.5
Oct 21 27.1 20.4 18.1
Nov 4 18.8 15.5 13.1
Nov 18 18.6 11.5 6.8
Dec 2 20.6 13.9 10.0
Dec 16 17.6 17.9 9.2
Dec 23 15.3 19.0 6.0
Dec 30 12.9 20.4 7.0
1/ Short-term business credit consists of total C&I loans and
nonfinancial commercial paper outstanding.
* For weekly data, smoothed growth consists of the average of
4-, 9-, and 13-week annualized rates of growth, not seasonally
adjusted.
However, the Federal government continues as a heavy borrower.
Unfortunately, Federal Reserve actions may be accommodating these
demands in a mistaken effort to prevent upward interest rate
pressures from developing during the recession. During the last
quarter, the Treasury raised $37.5 billion in new money from
marketable securities. This exceeded the Treasury's new cash
borrowinqs in the 4th quarter of 1980 by 28% and was nearly double
the new money raised by the Treasury in 1979:4.
Treasury New Cash Borrowing
($ in billions)
1979:4
18.6
1980:4
29.4
1981:4
37.5
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Higher interest rates, again. There are widespread doubts over
the Administration's commitment to sustain a firm anti-inflation
policy. Record deficits and debt expansion have become the
concensus forecast. In this atmosphere the recent monetary
explosion has only-added fuel to the fire. As a result, interest
rates have been driven sharply higher and a substantial share of
the previous decline has been erased. Financial market attitudes
have again turned pessimistic.
INTEREST RATES
Treasury Securities
Corporate
Securities
3-Month
Bill
6-Month
Bill
30-Year
Bond
3-Month
Paper
AAA
Utility
Sep
28
14.1
14.6
15.1
15.5
17.7
Oct
19
13.5
13.8
14.7
14.7
17.1
Nov
9
11.2
11.6
13.6
12.6
16.2
Nov
23
10.5
11.0
13.4
11.2
15.2
Dec
4
9.9
10.3
12.9
11.2
14.7
Dec
7
10.2
10.7
13.3
11.1
15.2
Dec
14
10.9
11.6
13.3
12.5
15.9
Dec
21
11.1
11.8
13.5
12.5
15.7
Dec
28
11.3
12.3
13.2
12.7
16.2
Jan
6
11.6
12.4
14.3
12.4
16.2
Jan
13
12.1
12.9
14.5
12.7
16.9
If monetary expansion continues amidst widespread predictions
of heavy Federal credit demands, interest rates will rise
even more. This would mean that the cyclical troughs in
interest rates may have been reached in early December 1981,
with short-term commercial paper at 11% and long-term corporate
bonds at 15%. Only a year or two ago these rate levels would have
been record highs. Similarly, long-term Treasury bond rates hit
December lows of 13%, much higher than the long rate bottoms of 7%
in 1976 and 10% in 1980. This would represent the highest
interest rate bottom in history.
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20-YEAR TREASURY BOND RITE
1971 1973 t97 i971 - 1979 1981
Have Rates Actually Bottomed? Yield curves in the Treasury
futures markets indicate that long rates-have nearly bottomed
and short rates have in fact reached their cyclical troughs.
In the short-term area, investors are anticipating a
continuation of the steep run-up in the Treasury bill rate
that began in early December. While the current 3-month bill
rate is 12.1%, the March 1982 futures contract is trading at
13.2% and the December 1982 contract is 13.8%.
At the same time, the longer-term Treasury bond futures show
only a very slight decline from its present level. The
December 1983 bond futures contract is trading at 14.2%,
which represents only a 30 basis point decline from the
current rate on 30-year T-bonds in the cash market.
TREASURY FUTURES YIELD CURVES
(1/13/82)
14.5
1982 1983
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Financial futures are suggesting that a prolonged series of
record deficits, including the entire array of Federal credit
programs, make a continuation of monetary restraint and
declining inflation highly unlikely. This is not to say that
the futures markets are always right; opinion is always
capable of a quick reversal. Moreover, it is theoretically
possible to sustain low money growth under almost any
conditions. But the current market attitude suggests:
1) Projected heavy Federal credit demands for 1983-84
imply money growth and inflation in the 7-9% range.
With this large Federal presence in the credit markets,
real interest rates are likely to be about 3-4%.
Long-term interest rates in the last two years appear
to have embodied a 2-3% risk premium to allow for
unprecedented market volatility and general
uncertainty.
4) Assuming a continuation of these trends, interest rates
on long-term government securities are unlikely to fall
below 13% in the near-future and could very easily be
higher.
Business firms and financial institutions have had
little or no time to reliquify their balances sheets.
As a result, they will have to pay substantial risk
premiums for long-term financing. Therefore, yields on
corporate bonds may exceed those on long-term
governments by a wide margin.
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Concern about a possible reacceleration of inflation is not
restricted to the interest rate markets. A similar
apprehension has been developing in the commodities area.
Excesses in fiscal and monetary policy cheapen the value of
money and raise the anticipated value of commodities and
other real assets. Thus, price movements in commodity
futures provide a useful barometer of inflation
expectations. _
Currently the Commodity Research Bureau's (CRB) index of
future prices stands at about 258, which represents a drop
of nearly 25% from its high of 337 in November 1980. But
practically all of this decline occurred during the first
half of 1981, as the index fell to about 267 by the end of
June. Since then, this broad-based index of commodity
futures prices has essentially bottomed, with some
strengthening in recent weeks.
Commodity Research Bureau's
Index of Futures Prices
1980 Nov 21
337.3 (Historical peak)
1981 June 26 266.5 (Mid-year low)
July 2 267.4
Dec 11 255.2
Dec 18 253.4 (Bottom)
Dec 24 254.2
Dec 31 254.9
Jan 8 258.2
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Also on the futures front, prices of metals and other
industrial commodities are more sensitive to movements in
the economy than is the CRB's broad-based index. As
illustrated below, these prices fell until late November,
but have since shown some tendency to rise. This is one of
numerous signs that an economic upturn may not be far off.
44 11,111IT-Tililu
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But the inflation situation has improved substantially. Over the
most recent 12-month periods, the CPI increased by 9.5% and the
PPI increased by 7.0%. These rates represent significant declines
from 1978-80 trends.
Annual Inflation Rates
15
CPI
PPI
GNP
Deflator
1977
6.5
6.5
5.8
1978
7.7
7.8
7.3
1979
11.2
11.1
8.5
1980
13.5
13.5
9.0
Average
9.7
9.7
7.6
(One disconcerting note in this generally favorable
performance is the recent uptick in the 3-month rate of
change of the PPI. After dropping to 2.8% in September this
measure of-inflation rose to 5.4% in December.)
CPI PPI
% Change from % Change from
T.-months
Earlier
12 months
Earlier
months 12 months
Earlier _Earlier_
January
11.8
11.7
9.2
11.4
February
11.2
11.3
9.5
10.7
March
9.6
10.5
13.3
10.9
April
8.2
10.0
11.7
10.9
May
7.0
9.8
9.9
10.8
June
7.4
9.5
6.8
10.5
July
10.8
10.7
5.2
9.0
August
11.5
10.8
4.1
7.9
September
13.5
10.9
2.8
7.8
October
9.8
10.1
3.4
7.3
November
8.4
9.5
5.1
7.1
December
NA
NA
5.4
7.0
A major reason for this disinflation is the gradual decline in
longer term monetary growth trends which began in 1979. Following
this trend, the general inflation rate is likely to decline
somewhat more in 1982. Other contributing factors to the
favorable inflation outlook in 1982 include moderate wage demands
and the cyclical rise in productivity.
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-- On the union side of the labor markets, collective
bargaining in 1982 will be very heavy, involving 3.6
million workers or nearly 40% of total workers covered
by major agreements. The largest new contracts to be
negotiated involve industries, such as autos and
construction, which have been quite depressed for some
time. Under these circumstances some concessions from
labor would seem highly likely, and this could affect
the wage prospects for other union and nonunion workers
alike. In fact GM and the. UAW have just agreed to
negotiate some cuts in wages,or benefits to be passed
on to consumers in the form of lower auto prices.
The Calendar of Major. Collective
Bargaining Activity for 1982
Workers Covered
Month Industry (in thousands)
January Oil refining ..................... 88
March Trucking ......................... 544
April Construction & Rubber............ 312
May Construction & Apparel ........... 530
June Elect. Equip., Food Process.
and Construction ............... 499
July Elect. Equipment ................. 166
August Food production .................. 138
September Autos ............................ 1023
Other ........................... 250
TOTAL .................................. 3600
- Once the recovery begins there should be a fairly
robust growth in productivity. Growth of output per
hour averaged 4.4 percent during the initial four
quarters of the past six cyclical recoveries.
1982 could thus experience a 1 to 2 percentage point
decline in the rate of unit labor costs, which suggests
some further decline in inflation this year. After
1982, though, the prevailing market view is that
inflation will reaccelerate.
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?
Has the Recession Bottomed? Most indices of stock market
performance seem to be suggesting that the current recession
may nearly be over. They do not, however, point to a strong
recovery.
-- The stock market is considered a good leading
indicator. Through the years, it has predicted
economic trends 3-6 months in advance.
-- The two broad-based indices of stock prices (the S&P
500 and the Dow Jones Industrials) both topped out in
April 1980, three months before the peak in the
economy.
-- Even with the pronounced weakness in stock prices in
recent
days, the. Dow Jones averages are still about 20
points
higher than the low of 829 reached in the week
ending
September 25, 1981.
S&P 500
Dow Jones
January
133.0
962
February
128.4
945
March
133.2
987
April
134.4
1005
May
131.7
980
June
132.3
996
July
129.1
948
August
129.6
926
September
118.3
853
October
119.8
853
November
122.9
860
December
123.8
878
DOW JONES IND. INDEX
1050
950-
900-
850
8t
J F M A M J J A S 0 N11D J
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The stock price behavior of key industries also shows a bottoming
recession.
S&P Price Indexes (1941-43 =
10)
June
Aug
Sept
Oct
Nov
Dec
Prelim
Trough
% ch
since
trough
Hc
bme furnishings
29
28
25
28
30
29
Sept
14.6
Mc
``bile homes
77
71
62
70
75
72
Sept
15.7
R,
Li 1 roads
91
91
79
84
90
91
Sept
15.2
P;
per containers
226
214
193
195
204
218
Sept
12.6
Co,
sumer goods
109
100
94
97
98
98
Sept
4.2
.l
ood
83
79
76
79
81
82
Sept
8.6
a
utomobiles
63
54
51
46
42
43
Nov
1.7
Ca
pital goods
145
141
- 127
124
126
128
Oct
3.4
usiness equip.
1077
1012
952
920
921
949
Oct
3.2
- The price indices of construction-related stocks --
home furnishings and mobile homes -- have risen about
15% above their September lows of 25 and 62,
respectively. This indicates that construction activity
may have already begun its recovery.
Railroads and paper containers are considered good
barometers of general business conditions. The price
index of railroad stocks has risen 15.2% from a low of
79 in September. Investors seem to be saying that the
upturn in the economy is about to begin. This does not
support the views of analysts who forecast a prolonged
recession.
-- The composite index of capital goods stocks seemed to
have touched bottom at 124 in October and risen only
3 1/2 percent durinq the subsequent two months. Market
participants appear to be actinq on the correct
assumption that capital goods usually lag other sectors
in the recovery process.
- One area which shows continuing weakness is the auto industry.
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Other indicators tell the same story. They also suggest that
the worst of the slide in economic activity may have already
occurred and that the trough of the current recession does not
seem far off.
o The bottom of the housing cycle may have already been
reached, and seeds of a recovery are beginning to bud.
-- Starts of single-family homes (which are quite
sensitive to the availability and cost of mortgage
credit) registered a low of 508,000 units in
October. In November they increased 27% to 645,000
units.
- After declining 40% during the first 9 months of
1981, single family home sales ticked up 14% in
October and a further 11% in November.
- There was a 1 percentage point decline in FHA-VA
mortgage rate in November from October's high of
18.5%. Other mortgage interest rates are starting
to fall. Conventional mortgage rates are estimated
to have declined 3/4 percentage point to 17% in
December. In recent weeks mortgage rates have edged
up slightly, in line with the general upturn in
market rates.
-- The All-Savers and 2 1/2-year certificates were
responsible for the first rise ($76 billion) in
deposits at thrift institutions since last May.
Deposits at thrift institutions also increased in
November, but at a much slower rate ($28 billion).
S&L and MSB Saving Flows
($ bi ions, annual rate)
All-Savers
6-month
2 1/2 Year
Traditional
(other)
Total
Certificate
MMC
Certificate
Jumbos
Deposits
May
22.4
NA
79.2
-10.8
10.8
-56.8
June
-26.2
NA
32.4
22.4
4.8
-86.2
July
-41.2
NA
55.2
1.2
3.6
-101.2
August
-3.7
NA
-6.0
96.0
10.8
-104.5
September
-5.4
NA
-54.0
139.2
12.2
-102.6
October
75.8
237.6
-178.8
133.2
13.2
-129.4
November
28.1
39.6
72.0
76.8
10.8
-27.1
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o New car sales may have also touched bottom in October,
but there is still no evidence of any real recovery.
The auto weakness is partly a pricing problem. New car
prices have advanced 27% since the fourth quarter of 1979
while auto sales have decline about 30% during this period.
New Auto Sales Millions Units
(SAAR)
Total
Domestic
Import
May
7.9
5.7
2.2
June
7.5
5.3
2.2
July
8.2
5.9
2.3
August
10.4
8.2
2.2
September
8.8
6.7
2.1
October
7.2
5.2
2.1
November
7.6
5.4
2.3
December
7.3
5.0
2.3
o New orders for nondefense capital goods may have also hit
bottom in October, reaching $21.1 billion.
- Nondefense goods rose 10% in November, perhaps
indicating the start of a new upward trend.
-- The latest report of the Purchasing Agents suggests
that a further gain occurred in December.
o The index of leading economic indicators declined only
0.3% in November.
- This followed larger declines of 1.6% and 2.1% in
October and September, respectively.
- Based on the behavior of the Purchasing
Agents' overall diffusion index, December's index of
leading indicators is likely to be flat.
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0 0
LEADING INDICATORS COMPOSITE INDEX VS
PURCHASING AGENTS DIFFUSION INDEX
}
20
JFMAMJ'AJ S0NDJFMAMJJAS0ND 1980 1981
o The ratio of coincident to lagging indicators (C/L
ratio) is another measure that portends future business
conditions. As shown below, this ratio ticked up in
October and November after five consecutive months of
decline.
C/L
Ratio
% change from
previous months
March
78.7
2.7
April
79.4
0.9
May
75.1
-5.4
June
74.6
-0.7
July
74.0
-0.8
August
73.7
-0.4
September
73.0
-0.9
October
74.0
1.4
November
75.6
2.2
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o Initial unemployment claims declined from a high of
597,000 in early December to 506,000 during the week
ended January 2.
Week
Ending
Initial
Unemployment Claims
(in thousands)
November
28
533.4
December
5
597.0
December
12
558.4
December
19
552.4
December
26
515.3
January
2
506.0
o The inventory-to-sales (I/S) ratio for the total
manufacturing and trade'sectors has been rising since
last summer, as shown below:
1981
Nominal
I/S
Real
I/S
June
1.39
1.67
July
1.40
1.69
August
1.42
1.71
September
1.44
1.72
October
1.48
1.78
November
1.50
NA
CONSTANT DOLLAR INVENTORIES TO SALES RATIO
MANUFACTURING AND TRADE
0NGD7JGFMAMJ'JAS0N98JFMAMJJAS'O'N 10
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o The real inventory-to-sales ratio provides a better
indicator of cyclical activity. The ratio generally
rises through recession periods, hitting its cyclical
peaks when the economy approaches its trough.
-- In the current recession, the I/S ratio climbed to
1.78 by October, the last month for which data are
available. This is a matter of concern; it
indicates that there are still imbalances in the
economy.
Looking up from the bottom: Is sustainable recovery possible?
If the current monetary acceleration represents a major shift
in policy, the economic recovery will come sooner rather than
later. The scheduled reductions in the tax burden will also
contribute to an earlier recovery. As a best guess, real growth
in 1982:1 is likely to be flat, but this could represent a
turning zone for the economy and lead to much stronger growth in
the second quarter. However, a combination of rising interest
rates and a belated monetary correction could create a 1982
second half which is much more sluggish. The recovery could
become a non-event.
At current interest rate levels the economy's financial
situation is as fragile as ever. Business and financial firms
have not been able to reliquify their balance sheets as yet, and
private credit demands are likely to be unusually strong at this
stage of the business cycle. Excessive Federal and
federally-assisted borrowing will compete with these private
credit demands, and this competition for capital is likely to
absorb valuable investment resources and generate. additional
interest rate pressures as the year continues.
The heavy credit demand/high interest rate/sluggish recovery
scenario may not actually take place, but right now this seems
to be the best guess of investors in the interest rate,
commodity and stock markets. To reverse investor pessimism,
credible new fiscal policy initiatives to reduce Federal
spending and borrowing will be necessary. Moreover, to insure
steady improvement in market expectations about future inflation,
new fiscal initiatives must be accompanied by a reliable program
of monetary restraint. But right now, market attitudes are not
encouraging.
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