SF Fed--FedViews, 5/9/03...
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>>>FedViews
May 9, 2003
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John Williams, Senior Research Advisor at the Federal Reserve Bank of San Francisco, states his views on the current economy and the outlook:
The economy is still mired in the soft patch that it hit last fall. Businesses have been cautious given the heightened uncertainty about the future course of the economy and geopolitical risks. Real GDP is estimated to have increased at only a 1.6 percent annual rate in the first quarter of 2003, about the same rate as in the preceding quarter.
Recent economic weakness has been especially pronounced in the manufacturing sector. Manufacturing industrial production fell in both the fourth quarter of 2002 and the first quarter of this year. Based on the recent low level of the Institute for Supply Management’s Purchasing Managers’ Index, which tends to be correlated with movements in output in this sector, manufacturing production likely declined again in April.
Anemic economic growth led to further job losses in April, with nonfarm payroll employment declining by 48,000. The manufacturing sector shed 95,000 jobs, twice the pace of losses recorded over the past year. Since the start of the recession in March 2001, payroll employment has fallen by 2.1 million; the manufacturing sector alone accounts for nearly 90 percent of this total.
The unemployment rate climbed 0.2 percentage point to 6 percent in April; this rate has fluctuated between 5.6 and 6 percent over the past 18 months. Initial claims for unemployment insurance remain high, indicating that weakness in labor markets continued into early May.
Although much of the recent news about the economy has been downbeat, there is some good news to report. With the war in Iraq all but over, the price of oil is $26 per barrel, down 30 percent from its peak earlier in the year. The fall in oil prices boosts consumers’ real incomes and confidence.
The success in the war, combined with positive earnings report news, have contributed to a rally on Wall Street, with the S&P 500 index up about 6 percent over the past month and the NASDAQ gaining about 10 percent.
Another sign of improving investor confidence is that risk spreads on corporate bonds have shrunk, particularly for low-grade debt. In the past month, low-grade bond yields are down nearly 100 basis points, higher-quality BAA bond yields are down 40 basis points, and 10-year T-note yields are down about 25 basis points.
With oil prices down, stocks prices up, and war-related fears subsiding, consumer confidence rebounded in April, albeit from very low levels. Respondents were more optimistic about both current and expected future conditions. The surveys taken in late April showed a big gain over those taken earlier in the month, suggesting that this rebound in confidence is linked to the winding down of the war and the attendant media attention.
Business investment is likely to respond positively both to a lifting of some uncertainty and to improved fundamentals going forward. Indeed, the downturn in business investment, which began in 2000—well before the start of the recession—in part reflected a weakening in those fundamentals that had fueled the investment boom in the late 1990s, namely, the rapid growth of the economy, perceived high profitability of investment (measured by expected earnings or stock prices), and rapid declines in the prices of high-tech investment goods. Today, lower interest rates, the partial expensing provision tax break for investment, and improving stock market and economy have contributed to rising investment fundamentals. In addition, some of the extraordinary factors that held down investment through early this year, including any hangover from “excessive” IT investment during the boom and post-9/11 uncertainty, should wane over the remainder of this year and next year.
Productivity growth has remained remarkably strong over the recession and early recovery, increasing at a 3.4 percent annual rate over the past two years.
Recent indicators suggest sluggish growth in the current quarter. The anticipated pickup in investment, robust productivity growth, and monetary and fiscal stimulus point to output growth equaling its sustainable rate of about 3-1/2 percent in the second half of this year and improving further next year. <<< |
