, Research Paper
ECONOMIC AND FINANCIAL DEVELOPMENTS IN 2000
The expansion of U.S. economic activity maintained considerable momentum through the early months of 2000 despite the firming in credit markets that has occurred over the past year. Only recently has the pace of real activity shown signs of having moderated from the extremely rapid rate of increase that prevailed during the second half of 1999 and the first quarter of 2000. Real GDP increased at an annual rate of 5-1/2 percent in the first quarter of 2000. Private domestic final sales, which had accelerated in the second half of 1999, were particularly robust, rising at an annual rate of almost 10 percent in the first quarter. Underlying that surge in domestic spending were many of the same factors that had contributed to the con-siderable strength of outlays in the second half of 1999. The ongoing influence of substantial increases in real income and wealth continued to fuel consumer spend-ing, and business investment, which continues to be undergirded by the desire to take advantage of new, cost-saving technologies, was further buoyed by an accel-eration in sales and profits late last year. Export demand posted a solid gain during the first quarter while imports rose even more rapidly to meet booming domestic demand. The available data, on balance, point to another solid increase in real GDP in the second quarter, although they suggest that private household and business fixed investment spending likely slowed noticeably from the extraordinary first-quarter pace. Through June, the expansion remained brisk enough to keep labor utilization near the very high levels reached at the end of 1999 and to raise the factory utilization rate to close to its long-run average by early spring.
Inflation rates over the first half of 2000 were elevated by an additional increase in the price of imported crude oil, which led to sharp hikes in retail energy prices early in the year and again around midyear. Apart from energy, consumer price inflation so far this year has been somewhat higher than during 1999, and some of that acceleration may be attributable to the indirect effects of higher en-ergy costs on the prices of core goods and services. Sustained strong gains in worker productivity have kept increases in unit labor costs minimal despite the per-sistence of a historically low rate of unemployment.
THE HOUSEHOLD SECTOR
CONSUMER SPENDING
Consumer spending was exceptionally vigorous during the first quarter of 2000. Real personal consumption expenditures rose at an annual rate of 7-3/4 percent, the sharpest increase since early 1983. At that time, the economy was rebounding from a deep recession during which households had deferred discretionary pur-chases. In contrast, the first-quarter surge in consumption came on the heels of two years of very robust spending during which real outlays increased at an annual rate of more than 5 percent, and the personal saving rate dropped sharply.
Outlays for durable goods, which rose at a very fast pace in 1998 and 1999, accelerated during the first quarter to an annual rate of more than 24 percent. Most notably, spending on motor vehicles, which had climbed to a new high in 1999, jumped even further in the first quarter of 2000 as unit sales of light motor vehi-cles soared to a record rate of 18.1 million units. In addition, households’ spending on computing equipment and software rebounded after the turn of the year; some consumers apparently had postponed their purchases of these goods in late 1999 before the century date change. Outlays for nondurable goods posted a solid in-crease of 5-3/4 percent in the first quarter, marked by a sharp upturn in spending on clothing and shoes. Spending for consumer services also picked up in the first quarter, rising at an annual rate of 5-1/2 percent. Spending was quite brisk for a number of non-energy consumer services, ranging from recreation and telephone use to brokerage fees. Also contributing to the acceleration was a rebound in out-lays for energy services, which had declined in late 1999, when weather was unsea-sonably warm.
In recent months, the rise in consumer spending has moderated considerably from the phenomenal pace of the first quarter, with much of the slowdown in out-lays for goods. At an annual rate of 17-1/4 million units in the second quarter, light motor vehicles sold at a rate well below their first-quarter pace. Nonetheless, that level of sales is still historically high, and with prices remaining damped and auto-makers continuing to use incentives, consumers’ assessments of the motor vehicle market continue to be positive. The information on retail sales for the April-to-June period indicate that consumer expenditures for other goods rose markedly slower in the second quarter than in the first quarter, at a pace well below the av-erage rate of increase during the preceding two years. In contrast, personal con-sumption expenditures for consumer services continued to rise relatively briskly in April and May.
Real disposable personal income increased at an annual rate of about 3 per-cent between December and May–slightly below the 1999 pace of 3-3/4 percent. However, the impetus to spending from the rapid rise in household net worth was still considerable, labor markets remained tight, and confidence was still high. As a result, households continued to allow their spending to outpace their flow of cur-rent income, and the personal saving rate, as measured in the national income and product accounts, dropped further, averaging less than 1 percent during the first five months of the year.
After having boosted the ratio of household net worth to disposable income to a record high in the first quarter, stock prices have fallen back, suggesting less impetus to consumer spending going forward. In addition, smaller employment gains and the pickup in energy prices have moderated the rise in real income of late. Al-though these developments left some imprint on consumer attitudes in June, house-holds remained relatively upbeat about their prospective financial situation, accord-ing to the results of the University of Michigan Survey Research Center (SRC) sur-vey. However, they became a bit less positive about the outlook for business condi-tions and saw a somewhat greater likelihood of a rise in unemployment over the coming year.
RESIDENTIAL INVESTMENT
Housing activity stayed at a high level during the first half of this year. Homebuild-ers began the year with a considerable backlog of projects that had developed as the exceptionally strong demand of the previous year strained capacity. As a result, they maintained starts of new single-family homes at an annual rate of 1.33 million units, on average, through April–matching 1999’s robust pace. Households’ demand for single-family homes was supported early in the year by ongoing gains in jobs and income and the earlier run-up in wealth; those forces apparently were sufficient to offset the effects that higher mortgage interest rates had on the affordability of new homes. Sales of new homes were particularly robust, setting a new record by March; but sales of existing units slipped below their 1999 high. As a result of the continued strength in sales, the homeownership rate reached a new high in the first quarter.
By the spring, higher mortgage interest rates were leaving a clearer mark on the attitudes of both consumers and builders. The Michigan SRC survey reported that households’ assessments of home buying conditions dropped between April and June to the lowest level in more than nine years. Survey respondents noted that, besides higher financing costs, higher prices of homes were becoming a factor in their less positive assessment of market conditions. Purchases of existing homes were little changed, on balance, in April and May from the first-quarter average; however, because these sales are recorded at the time of closing, they tend to be a lagging indicator of demand. Sales of new homes–a more current indicator–fell back in April and May, and homebuilders reported that sales dropped further in June. Perhaps a sign that softer demand has begun to affect construction, starts of new single-family homes slipped to a rate of 1-1/4 million units in May. That level of new homebuilding, although noticeably slower than the robust pace that charac-terized the fall and winter period, is only a bit below the elevated level that pre-vailed throughout much of 1998, when single-family starts reached their highest level in twenty years. Starts of multifamily housing units, which also had stepped up sharply in the first quarter of the year, to an annual rate of 390,000 units, settled back to a 340,000 unit rate in April and May.
HOUSEHOLD FINANCE
Fueled by robust spending, especially early in the year, the expansion of household debt remained brisk during the first half of 2000, although below the very strong 1999 growth rate. Apparently, a favorable outlook for income and employment, along with rising wealth, made households feel confident enough to continue to spend and take on debt. Despite rising mortgage and consumer loan rates, household debt increased at an annual rate of nearly 8 percent in the first quarter, and pre-liminary data point to a similar increase in the second quarter.
Mortgage debt expanded at an annual rate of 7 percent in the first quarter, boosted by the high level of housing activity. Household debt not secured by real estate–including credit card balances and auto loans–posted an impressive 10 per-cent gain in the first quarter to help finance a large expansion in outlays for con-sumer durables, especially motor vehicles. The moderation in the growth of house-hold debt this year has been driven primarily by its mortgage component: Prelimi-nary data for the second quarter suggest that, although consumer credit likely de-celerated from the first quarter, it still grew faster than in 1999.
Debt in margin accounts, which is largely a household liability and is not in-cluded in reported measures of credit market debt, has declined, on net, in recent months, following a surge from late in the third quarter of 1999 through the end of March 2000. There has been no evidence that recent downdrafts in share prices this year caused serious repayment problems at the aggregate level that might pose broader systemic concerns.
The combination of rapid debt growth and rising interest rates has pushed the household debt-service burden to levels not reached since the late 1980s. Nonetheless, with household income and net worth both having grown rapidly, and employment prospects favorable, very few signs of worsening credit problems in the household sector have emerged, and commercial banks have reported in recent Federal Reserve surveys that they remain favorably disposed to make consumer in-stallment and mortgage loans. Indeed, financial indicators of the household sector have remained mostly positive: The rate of personal bankruptcy filings fell in the first quarter to its lowest level since 1996; delinquency rates on home mortgages and auto loans remained low; and the delinquency rate on credit cards edged down further, although it remained in the higher range that has prevailed since the mid-1990s. However, delinquency rates may be held down, to some extent, by the surge in new loan originations in recent quarters because newly originated loans are less likely to be delinquent than seasoned ones.
THE BUSINESS SECTOR
FIXED INVESTMENT
The boom in capital spending extended into the first half of 2000 with few indica-tions that businesses’ desire to take advantage of more-efficient technologies is diminishing. Real business fixed investment surged at an annual rate of almost 24 percent in the first quarter of the year, rebounding sharply from its lull at the end of 1999, when firms apparently postponed some projects because of the century date change. In recent months, the trends in new orders and shipments of nonde-fense capital goods suggest that demand has remained solid.
Sustained high rates of investment spending have been a key feature shaping the current economic expansion. Business spending on new equipment and software has been propelled importantly by ongoing advances in computer and information technologies that can be applied to a widening range of business processes. The ability of firms to take advantage of these emerging developments has been sup-ported by the strength of domestic demand and by generally favorable conditions in credit and equity markets. In addition, because these high-technology goods can be produced increasingly efficiently, their prices have continued to decline steeply, providing additional incentive for rapid investment. The result has been a signifi-cant rise in the stock of capital in use by businesses and an acceleration in the flow of services from that capital as more-advanced vintages of equipment replace older ones. The payoff from the prolonged period during which firms have upgraded their plant and equipment has increasingly shown through in the economy’s improved pro-ductivity performance.
Real outlays for business equipment and software shot up at an annual rate of nearly 25 percent in the first quarter of this year. That jump followed a modest increase in the final quarter of 1999 and put spending for business equipment and software back on the double-digit uptrend that has prevailed throughout the cur-rent economic recovery. Concerns about potential problems with the century date change had the most noticeable effect on the patterns of spending for computers and peripherals and for communications equipment in the fourth and first quarters; expenditures for software were also affected, although less so. For these catego-ries of goods overall, the impressive resurgence in business purchases early this year left little doubt that the underlying strength in demand for high-tech capital goods had been only temporarily interrupted by the century date change. Indeed, nominal shipments of office and computing equipment and of communication devices registered sizable increases over the April-May period.
In the first quarter, business spending on computers and peripheral equip-ment was up almost 40 percent from a year earlier–a pace in line with the trend of the current expansion. Outlays for communications equipment, however, acceler-ated; the first-quarter surge brought the year-over-year increase in spending to 35 percent, twice the pace that prevailed a year earlier. Expanding Internet usage has been driving the need for new network architectures. In addition, cable companies have been investing heavily in preparation for their planned entry into the markets for residential and commercial telephony and broad-band Internet services.
Demand for business equipment outside of the high-tech area was also strong at the beginning of the year. In the first quarter, outlays for industrial equipment rose at a brisk pace for a third consecutive quarter as the recovery of the manu-facturing sector from the effects of the Asian crisis gained momentum. In addi-tion, investment in farm and construction machinery, which had fallen steadily dur-ing most of 1999, turned up, and shipments of civilian aircraft to domestic custom-ers increased. More recent data show a further rise in the backlog of unfilled or-ders placed with domestic firms for equipment and machinery (other than high-tech items and transportation equipment), suggesting that demand for these items has been well maintained. However, business purchases of motor vehicles are likely to drop back in the second quarter from the very high level recorded at the beginning of the year. In particular, demand for heavy trucks appears to have been adversely affected by higher costs of fuel and shortages of drivers.
Real investment in private nonresidential structures jumped at an annual rate of more than 20 percent in the first quarter of the year after having declined in 1999. Both last year’s weakness and this year’s sudden and widespread revival are difficult to explain fully. Nonetheless, the higher levels of spending on office build-ings, other commercial facilities, and industrial buildings recorded early this year would seem to accord well with the overall strength in aggregate demand. However, the fundamentals in this sector of the economy are mixed. Available information suggests that property values for offices, retail space, and warehouses have been rising more slowly than they were several years ago. However, office vacancy rates have come down, which suggests that, at least at an aggregate level, the office sec-tor is not overbuilt. The vacancy rate for industrial buildings has also fallen, but in only a few industries, such as semiconductors and other electronic components, are capacity pressures sufficiently intense to induce significant expansion of produc-tion facilities.
INVENTORY INVESTMENT
The ratio of inventories to sales in many nonfarm industries moved lower early this year. Those firms that had accumulated some additional stocks toward the end of 1999 as a precaution against disruptions related to the century date change seemed to have little difficulty working off those inventories after the smooth transition to the new year. Moreover, the first-quarter surge in final demand may have, to some extent, exceeded businesses’ expectations. In current-cost terms, non-auto manufacturing and trade establishments built inventories in April and May at a somewhat faster rate than in the first quarter but still roughly in line with the rise in their sales. As a result, the ratio of inventories to sales, at current cost, for these businesses was roughly unchanged from the first quarter. Overall, the ongo-ing downtrend in the ratios of inventories to sales during the past several years suggests that businesses increasingly are taking advantage of new technologies and software to implement better inventory management.