November 12, 1980
Overview
Reports from Reserve Banks this month indicate, on
balance, some improvement in economic activity. Manufacturing
bounced back in several areas as have retail sales and to a lesser
extent capital investment, but conditions in the agricultural sector
are mixed as the effects of the summer drought continue to be felt.
Any optimism, however, is tempered by concern over the recent run-up
in interest rates. Accordingly, many respondents are looking either
for a pause in the present upturn or for a very sluggish recovery.
Despite the weak outlook for the economy, inflation is expected to
continue at high rates. While the demand for business loans varies
among Districts, the decline in home mortgage activity appears
rather pervasive.
Business Conditions and Outlook
The extent of the recent
strengthening in production and sales activity varies from District
to District. An upturn in manufacturing is reported in Boston and
Atlanta but in Minneapolis, after three months of improvement,
production is down. Economic conditions in Cleveland, Chicago and
St. Louis were spurred by an increase in steel production, but this
heightened demand is viewed as temporary-mainly the result of
inventory replacement. Retail spending is generally stronger with
the exception of San Francisco, where sales remain below last year's
level. In New York and Chicago, the market for domestic automobiles
is lackluster. While the majority of industrial respondents in a
Philadelphia survey look forward to a pickup in business activity
during the next six months, there is widespread concern among
respondents that the recent surge in interest rates will hurt the
economic recovery. Philadelphia, Cleveland, Richmond, Atlanta,
Chicago, St. Louis, Minneapolis, Kansas City, Dallas and San
Francisco all cite some deterioration in local housing markets which
they attribute to rising mortgage rates.
Prices
Purchasing agents in Kansas City report some slowing in the
rate of increase in input prices, but this is expected to be
shortlived. Sharply higher prices for both raw materials and
finished goods are also anticipated in Philadelphia and Cleveland,
and wage rates continue to accelerate in Chicago. Dallas also notes
a further run-up in labor costs, particularly in energy-related
industries, but lumber prices there are well below the leve1s of a
year ago.
Financial Developments
Business loan demand remains sluggish in
Boston and New York. In Dallas, however, commercial and industrial
lending has been buoyed by heavy demand from energy-related
industries. While declining mortgage activity is linked to sharply
higher mortgage rates by Atlanta and Minneapolis, continuing
economic uncertainty and falling real incomes are considered more
significant factors by Cleveland respondents. A falloff in loan
applications is reported by Philadelphia, and some San Francisco
S&Ls have completely dropped out of the mortgage market. Chicago
and Atlanta note a growing trend towards renegotiable and variable
rate mortgages. Mortgage demand remains high in Dallas, but few
commitments are being made as loan defaults and FHA-VA foreclosures
increase. Strong savings inflows are reported by Kansas City S&Ls,
while at San Francisco banks, large outflows have taken place.
Consumer Spending
New York, Philadelphia, Richmond, Chicago,
Atlanta and Dallas all indicate retail sales gains spurred by heavy
marketing and promotional activity. Advances are led by moderate to
expensive apparel items and other soft goods, but low priced soft
goods and consumer durables still lag. Only a very modest
improvement in sales is noted in reports from Cleveland, St. Louis,
Minneapolis and Kansas City. In San Francisco, retail sales remain
at recession levels. In Boston, however, stronger sales, even in
constant dollars, are reported for the first time in months. Despite
the short holiday selling period due to the late Thanksgiving
holiday, merchants in New York, Philadelphia, Atlanta and Dallas are
looking forward to a strong Christmas season. Automobile sales are
being bolstered by the introduction of 1981 models in Kansas City
and San Francisco. In Cleveland, only small cars are selling well.
In New York, foreign car sales are brisk, but the demand for
domestic models, remains weak. With sales still sluggish, another
wave of dealer closings in the New York area is anticipated.
Automobile sales are described as disappointing in Chicago.
Residential Construction
Housing market conditions continue to
deteriorate as rising mortgage rates further discourage demand. A
decline in home sales is reported by Chicago, St. Louis and
Minneapolis and housing starts are falling in Cleveland, Kansas City
and Dallas. While new home prices are up slightly in Kansas City,
prices are reported stable in Philadelphia and softening a bit for
higher priced homes in Dallas.
Business Fixed Investment
The outlook for capital spending is
mixed. Atlanta notes strong investment in many parts of its District
as a result of both state and local tax incentive programs, but
Boston reports a downturn in orders for heavy metalworking equipment
and machinery for paper and pulp production. In New York, machine
tool orders are stronger although industry spokesmen do not expect
full recovery until late 1981. Construction of manufacturing
facilities is up in parts of New England, particularly among
defense-related industries. Military hardware production is also
strong in St. Louis, as is production of oil and natural gas
equipment. Chicago respondents expect the demand for heavy trucks to
rebound in 1981.
Agriculture
The outlook for agricultural production and farm income
is mixed as many Districts continue to feel repercussions from the
summer drought. Richmond reports farm loan demand is weaker than
normal, while repayment rates are falling sharply. Renewals and
extensions are higher and collateral requirements are stricter.
Dallas also notes slower loan repayments, while Kansas City
respondents expect a doubling in the number of farmers not expected
to meet credit standards in 1981. Many of these farmers, however,
will be eligible for low-cost emergency loans from the Farmers Home
Administration. The outlook for crop yields is good in Minneapolis
and San Francisco, but the Atlanta Reserve Bank reports that crop
production estimates for the southeast have been lowered again.
Inventories
Retail and manufacturing inventories are generally
lean. In Boston, stocks of home furnishings are so tight that any
strengthening in demand is expected to translate into an immediate
increase in production. Auto inventories, in particular, are being
held down because of the high carrying costs according to
respondents in New York. Other retail inventories are reported in
line with sales with the exceptions of Kansas City and some areas of
St. Louis where demand remains weak. These stocks, however, are
expected to be worked down during the Christmas selling season.
Academic and Financial Consultants
All of this month's academic
respondents agree that the recovery will be weak by historical
standards as a result of tight monetary and fiscal policies.
Professor Eckstein thinks that there will be a recession in 1981 as
a result of the 15 1/2 percent prime rate. Eckstein believes that
because of the essential inconsistency between the structure of the
economy and the goal of price stability, only a 3 to 4 year
recession will reduce the inflation rate significantly. Professor
Houthakker believes 1981 will be characterized by the slow real
growth necessary to control inflation, which he expects to moderate
slightly next year. Houthakker is not convinced further tightening
is warranted and warns the Fed not to fine tune monetary policy.
Professor Samuelson believes there is a 20-25 percent chance for a
1981 recession but 2 to 3 percent real growth is more likely. He
feels that the inflation outlook is unfavorable and counsels the Fed
to try to hit the money growth targets if the price is not
exorbitant. Professor Tobin believes there is a good possibility
that rising interest rates will cause a downturn next year, and he
would not tighten monetary policy any further as a result.
The financial consultants continue to urge the Fed to persist in its determination to reduce the inflation rate. Mr. Kaufman expects a slowing in the pace of recovery in the early part of 1981. At about the same time, he anticipates a temporary decline in short-term interest rates along with a wave of new corporate bond offerings. Mr. O'Leary strongly urges the Fed to continue pursuing a policy designed to reduce the inflation rate and to defuse expectations of inflation. Mr. Stone feels that the Fed should soon achieve success in slowing the aggregates sufficiently to meet its longer term growth targets. He perceives a drop in short-term rates over the balance of the year, and while he does not foresee a double dip recession, a pause in the recovery within the next three months should be expected.