October 10, 1973
Our directors, representing national companies, report that business remains good and that sales and orders are continuing to rise at a rapid pace in most lines. Orders for capital equipment are especially heavy, while orders for consumer goods are a little slower than last spring. The aerospace industry is now reported as doing very well. New England's economy is not as exuberant as the picture they present. The seasonally adjusted unemployment rate rose in August to 6.5 percent in Boston and to 7.3 percent in all of Massachusetts.
Orders for capital equipment are reported as very vigorous. One director, with a division in chemicals, reports that expansion for chemical plants is very strong, stimulated by the fact that the industry has a lot of catching up to do. Another director reports large foreign orders for capital goods. This director has just returned from Poland with a large order for brass rolling mills. The machine tool industry has completely recovered from the depressed 1970-71 levels and now has very high backlogs which could carry it through 1974 at a good pace even if no further orders were received.
The aerospace industry has also recovered from its depressed state and is now described as doing very well, with one director reporting record-high backlogs for superalloys. The resurgence is based on domestic defense orders, commercial orders (noise and smoke pollution requirements, replacements for 747 engines, helicopters for energy exploration), and foreign orders. Heavy foreign orders for helicopters have created capacity problems for one major producer.
Despite some supply problems, inventories are rising due to both work in process and an increased level of desired inventories as a result of continuing high sales. In most lines, our directors report work, but not capacity, is at high levels.
A major importer of liquified natural gas (LNG) expects no fuel oil shortages this winter, although supply will be tight and prices are "really going up." This company is providing LNG to utilities in Boston as supplementary stand-by supplies. Despite the high price of LNG compared to domestic natural gas, the amount it can sell is limited only by its supply of tankers to transport LNG from Algeria.
Four of our academic correspondents, Professors Eckstein, Tobin, Samuelson, and Wallich, were available for comment. Professor Wallich anticipates a "real but slight" recession in the second half of 1974. The important elements in his forecast are an inventory buildup and rundown, plus a profit squeeze due to the combination of continued controls, declining productivity, and a declining inventory valuation adjustment.
Eckstein continues to project a growth recession in which production gains persist, despite slackening final demand, as a result of inventory restocking. Eckstein expects strong credit demand next year because growth in corporate cash flow will be down to about 2 percent as opposed to the 18 percent rate of growth over the last three years.
Noting a "slight but perceptible improvement in optimism," Samuelson concluded, "the American economy is not doing badly." The surprisingly swift decline in short-term interest rates, Samuelson felt, was primarily due to the declines in commodity prices but also to the economy 's slower growth since the end of the first quarter. Eckstein also did not attribute the recent easing to the monetary policy. Instead, he believed the market had previously been "frightened" of a credit crunch, and expectations carried short rates far above their fundamental equilibrium levels. Recently, the market discovered the Fed was not going to continue tightening indefinitely. According to Eckstein, the Fed "created unnecessary fear and worry by previous tightening and [the consequent) disintermediation." Wallich offered two alternative interpretations of the recent behavior of the financial markets. First, the combination of no money growth and falling interest rates may, as in 1960, be the harbinger of a recession in early 1974. Secondly, the money growth figures may be an aberration due to the conversion of money into large CDs. With no Regulation Q ceiling on large CDs, Wallich feels CDs must be counted in the definition of M2. Wallich seemed to favor the latter interpretation which suggests policy has allowed rates to fall even before the economy has entered a growth recession.
Both Eckstein and Wallich urged strongly that the Fed issue a statement or a speech making explicit both its intentions and the logic of the policy it has pursued. Amplification of the considerations which went into its policy would help dispel market uncertainty.
Professor Tobin, noting "things have been easing," tied the resurgence of the stock market to interest rate declines. Partly because 'the stock market should not go down any more," the Fed should "avoid reestablishing a new higher peak in short rates." His policy prescription was a "gradual easing to confirm the present level" of short-term rates. He, along with the others, rejected an expansionary policy of aggressively reinforcing the recent rate declines. To Samuelson, the appropriate current policy target would be a 2 to 3 percent rate of monetary growth. While he would not yet go to a 4 to 5 percent target, Samuelson would tolerate further falls in rates if money growth came in below 2-3 percent. Eckstein recommended starting a gradual easing by moving the federal funds rate to between 10 and 10 1/2 percent within the next inter-meeting period. Wallich, on the other hand, would view easing now with alarm. To ease now would be far ahead of schedule in terms of past practice. Even the more severe "gradualism" of 1969-70 "failed in every sense" particularly with regard to its anti-inflationary impact. Wallich favors keeping interest rates up even if it leads to low growth in the money aggregates.