Greenbook/Tealbook

Prefatory Note The attached document represents the most complete and accurate version available based on original copies culled from the files of the FOMC Secretariat at the Board of Governors of the Federal Reserve System. This electronic document was created through a comprehensive digitization process which included identifying the bestpreserved paper copies, scanning those copies, 1 and then making the scanned versions text-searchable. 2 Though a stringent quality assurance process was employed, some imperfections may remain. Please note that this document may contain occasional gaps in the text. These gaps are the result of a redaction process that removed information obtained on a confidential basis. All redacted passages are exempt from disclosure under applicable provisions of the Freedom of Information Act. 1 In some cases, original copies needed to be photocopied before being scanned into electronic format. All scanned images were deskewed (to remove the effects of printer- and scanner-introduced tilting) and lightly cleaned (to remove dark spots caused by staple holes, hole punches, and other blemishes caused after initial printing). 2 A two-step process was used. An advanced optimal character recognition computer program (OCR) first created electronic text from the document image. Where the OCR results were inconclusive, staff checked and corrected the text as necessary. Please note that the numbers and text in charts and tables were not reliably recognized by the OCR process and were not checked or corrected by staff. CONFIDENTIAL (FR) CLASS II - FOMC October 1, 1982 SUPPLEMENT CURRENT ECONOMIC AND FINANCIAL CONDITIONS Prepared for the Federal Open Market Committee By the Staff Board of Governors of the Federal Reserve System TABLE OF CONTENTS Page THE DOMESTIC NONFINANCIAL ECONOMY Unemployment claims . . . . . . . . New house sales . . . . . . . . . . Construction expenditures . . . . . 21 . . . .. .. .. 2 TABLES: . S Private housing activity . . . New construction put in place 3 . THE DOMESTIC FINANCIAL ECONOMY TABLES: Monetary aggregates . . . . . . . . .. . . Commercial bank credit and short- and intermediateterm business credit . . . . . . . . ... . Selected financial market quotations . . . Appendix: . . . .. . 5 .. . 6 7 . A-1 Compensating balance arrangements and demand deposit behavior . .. . . SUPPLEMENTAL NOTES THE DOMESTIC NONFINANCIAL ECONOMY Unemployment claims Recent data on insured unemployment suggest that labor market con- ditions continued to deteriorate through mid-September. Initial claims for unemployment insurance rose to 709,000 in the week ended September 18; this followed a somewhat reduced volume during the week of the Labor Day holiday. The average for new claims during the first three weeks of September was about 665,000--somewhat higher than the peak flow of new claimants during mid-May 1980. The level of insured unemployment under all regular programs averaged 4.4 million in the first two weeks of September--up more than 240,000 from the mid-August reference week for the BLS labor market surveys. The reference week for September was the week ended the 18th. New house sales New house sales have remained quite weak since midyear. The number of units sold rose 2 percent in August to a seasonally adjusted annual rate of 359,000 units; however, taken together new house sales in July and August averaged 3 percent below the pace in the second quarter which had been the recent cyclical low. The average sales price of new houses in August was $92,300--6 percent above a year earlier. The preliminary average sales price of new houses in July--which originally showed a yearover-year increase of 10 percent--was revised down to $87,700, now also 6 percent higher than a year earlier. houses was $73,200 in August. The median sales price of new Unsold inventories do not seem to be a serious problem nationwide. The stock of unsold new houses declined in August for the seventh consecutive month to a seasonally adjusted 247,000 total--the lowest since mid1971. The slightly higher sales rate in August pushed inventories measured in terms of sales down to 7.9 months' supply. The median length of time that unsold new units have been on the market fell to 3.9 months in August; this period is considerably shorter than the average of 6 months at yearend 1981. Construction expenditures The total value of construction put-in-place rose 2 percent in August to a seasonally adjusted annual rate of $232.3 billion. Expendi- tures in August were 2 percent below the level of a year earlier In real terms, total construction expenditures also rose 2 percent in August, but remained slightly (2 percent) below August 1981. Outlays for private residential and nonresidential construction each rose about 1 percent in August. The value of state and local construction expenditures increased by 4 percent, but remained somewhat smaller than a year earlier. (Seasonally PRIVATE HOUSING ACTIVITY adjusted annual rates, millions of units) 1981 1982 Q4 Q1 Q2 June July Au g . 1 .76 .87 .82 .92 .92 .95 .93 .91 1. 1.20 .89 1.00 .56 .71 .42 .54 .45 .59 .49 .61 .52 .62 .50 .63 .49 .61 .44 2.35 .40 1.92 .39 1.93 .37 1.98 .35 1.89 .36 1.79 Multifamily units Permits Starts .42 .38 .34 .33 .37 .33 .43 .35 .41 .29 .56 .57 .39 .40 Mobile home shipments .24 .21 .24 .25 .26 .26 n.a. __Annual All units Permits Starts .99 1.08 Single-family units Permits Starts Sales New homes Existing homes 1. Preliminary estimates. n.a.--Not available. .37 1.93 NEW CONSTRUCTION PUT IN PLACE (Seasonally adjusted annual rates, in billions of dollars) 1982 QII1 Junel JulyI Aug. 224.1 228.8 231.6 228.7 232.3 +2 -2 174.0 179.2 182.7 180.3 182.1 +1 -2 71.0 103.1 74.3 104.9 75.3 107.4 76.2 104.1 77.3 104.8 +1 +1 -8 -4 50.1 49.6 48.9 48.4 50.2 +4 -1 40.5 9.6 39.9 9.7 39.4 9.5 39.0 9.4 40.5 9.7 +4 +2 -2 +5 143.4 147.2 149.8 147.2 150.1 +2 -2 QI Total - Current dollars Private Residential Nonresidential Public State & local Federal Total 1. 2. (1977 dollars) revised preliminary Sno change Percent change in Aug. from July Aug. . 1981 1982 MONETARY AGGREGATES 1 (Based on seasonally adjusted data unless otherwise noted) 1982 Q1 Q2 Q3P July Aug. Sept.P QIV. '81 to Sept.'82P --Percentage change at annual ratesMoney stock measures 3.3 3.6 9.5 10.7 3.5 4.4 9.7 12.0 -0.3 -4.Q 9.7 12.6 10.4 13.9 14.2 18.4 14.0 17.4 5.2 3.5 7.9 9.3 6.9 3.7 6.5 10.2 2.6 6.8 -1.8 1. M1 2. (M1) 2 3. M2 4. M3 Selected components 5. Currency 6.5 7.0 9.8 10.6 6. Demand deposits -0.5 -5.8 -1.4 7. Other checkable deposits 49.5 19.6 11.9 -1.4 38.4 39.9 30.3 8. M2 minus M1 (9+10+11+14) 9.5 11.5 11.7 12.9 15.4 2.6 10.8 63.6 -8.4 19.0 8.4 35.9 -16.1 33.8 9.4 8.7 9.7 1.6 10.2 -1.5 20.9 17.2 2.0 23.8 6.0 0.6 8.1 31.0 12.3 -9.7 21.6 6.1 -8.0 11.4 19.2 14.4 -22.5 29.1 11.0 -17.7 21.7 60.9 12.3 -8.4 20.3 4.8 -5.8 8.6 12.7 8.5 4.6 10.0 -3.2 -3.2 -3.2 31.1 13.1 0.2 18.8 4.1 0.4 5.5 11.1 16.9 23.3 26.9 38.4 -5.0 14.5 8.9 6.1 21.6 19.1 19.9 15.5 19.2 20.9 11.5 27.4 32.6 4.0 12.9 11.7 18.1 -3.5 -8.2 17.8 14.9 14.4 17.2 -2.5 -29.9 15.2 6.2 104.0 -25.7 106.8 -69.2 209.3 122.4 22.3 -85.2 46.2 -16.2 9. 10. 11. 12. 13. 14. 1q. xt. 18. 19. 20. 21. 22. 3 Overnight RPs and Eurodollars, NSA General purpose and broker/dealer money market mutual fund shares,NSA Commercial banks savings deposits small time deposits Thrift institutions savings deposits small time deposits M3 minus M2 (18+21+22) Large time deposits 4 at commercial banks, net at thrift institutions Institutions-only money market mutual fund shares, NSA Term RPs, NSA -Average MEMORANDA: 23. Managed liabilities at commercial banks4 (24+25) 5 Large time deposits, gross 24. 5 25. Nondeposit funds 26. Net due to related foreign institutions, NSA 5 6 Other 5 , 27. 28. U.S. government deposits at commercial 7 banks 22. monthly change in billions of dollays-- 0.6 2.7 -2.1 6.3 5.8 0.5 n.a. 5.5 n.a. 6.1 10.6 -4.5 5.2 6.8 -1.6 n.a. -0.9 n.a. n.a. 4.2 n.a. -2.1 0.0 0.4 0.1 -4.8 n.a. -4.8 0.4 -4.1 2.4 -5.6 n.a. -2.1 n.a. 1.9 -2.5 0.2 -1.5 0.8 1.4 -0.1 1. Quarterly growth rates are computed on a quarterly average basis. Dollar amounts shown under memoranda for quarterly changes are calculated on an end-month-of-quarter basis. 2. Ml seasonally adjusted using alternative model-based procedure applied to weekly data. 3. Overnight and continuing contract RPs issued to the nonbank public by comercial banks, net of amounts held by money market mutual funds, plus overnight Eurodollar deposits issued by Caribbean branches of U.S. member banks to U.S. nonbank customers. Excludes retail RPs, which are in the small time deposit components. SNet of large-denomination time deposits held by money market mutual funds and thrift institutions. Adjusted for shifts of assets and liabilities to International Banking Facilities (IBFs) which affected as from December 1981 to June 1982. -. Consists of borrowings from other than commercial banks in the form of federal funds purchased, securities sold under agreements to repurchase and other liabilities for borrowed money (including borrowings from the Federal Reserve and unaffiliated foreign banks), loans sold to affiliates, loan RPs and other minor items. Data are partially estimated. 7. Consists of Treasury demand deposits at commercial banks and Treasury note balances. n.a. - Not available. p - preliminary. COMMERCIAL BANK CREDIT AND SHCRT- AND INTERMEDIATE BUSINESS CREDIT (Percentage changes at annual rates, based on seasonally adjusted data)1 1982 1981 Q4 Ql Q2 June July Aug. <I :: to Aug. '82 --Commercial Bank Credit-1. Total loans and investments at 2. banks 2 ,3 Investments 6.4 10.1 7.9 5.1 6.4 6.4 9.5 4.8 5.7 4.7 1.7 2.4 8.5 5.8 3. Treasury securities -7.8 11.5 4.9 -5.2 7.3 13.4 .5 4. Other securities 11.2 2.8 4.8 5.1 0.0 6.1 4.5 6.9 11.5 9.0 6.4 7.6 5.8 19.8 9.2 16.8 14.8 14.2 9.9 3.3 15.4 58.6 -18.3 -26.8 -64.1 92.3 22.9 4.3 5. Total loans 2 ,3 6. Business loans 2 ,3 7. Security loans 8. Real estate loans 7.3 7.8 6.6 7.3 0.8 4.4 7.4 9. Consumer loans 4.1 2.8 3.0 2.6 5.7 2.5 4.1 --Short- and Intermediate-Term Business Credit-10. Total short- and intermediateterm business credit (sum of lines 14, 15 and 16) 13.8 15.2 13.1 10.6 14.2 n.a. n.a. 9.3 16.5 15.7 17.7 11.3 2.1 15.8 Commercial paper issued by non5 financial firms 21.3 30.0 16.8 2.0 38.2 -1.9 27.4 13. Sum of line 11 & 12 10.8 18.2 15.9 15.6 14.9 1.8 17.3 14. Line 13 plus loans at foreign branches 6 14.0 18.4 15.7 13.6 15.2 5.3 18.2 7.6 1.0 1.5 10.5 17.8 n.a. n.a. 20.9 11.7 10.2 -6.6 0.0 n.a. n.a. 11. 12. Business loans net of bankers acceptances 3 15. Finance company loans to business 7 16. Total bankers acceptances outstanding 7 1. Average of Wednesdays for domestically chartered banks and average of current and preceding ends of months for foreign-related institutions. 2. Loans include outstanding amounts of loans reported as sold outright to a bank's own foreign branches, unconsolidated nonbank affiliates of the bank, the bank's holding company (if not a bank), and unconsolidated nonbank subsidiaries of the holding company. 3. Adjusted for shifts of assets and liabilities to International Banking Facilities (IBFs) which affected flows from December 1981 to June 1982. 4. Growth of bank credit from the FOMC's December-January base through August 1982, not adjusted for shifts of assets from domestic offices to IBFs, was at an annual rate of 7.6 percent. Adjusted for such shifts after January, growth over this period was 8.4 percent. 5. Average of Wednesdays. 6. Loans at foreign branches are loans made to U.S. firms by foreign branches of domestically chartered banks. 7. Based on average of current and preceding ends of month. n.a.--not available. -7SELECTED FINANCIAL MARKET QUOTATIONS 1 (Percent) 1981 Early summer Highs Highs 1982 FOMC Aug. 24 Change from: Early summer FOMC Aug. 24 Highs Sept. 30 Short-term rates Federal funds 2 20.06 14.81 9.04 10.12 -4.69 1.08 Treasury bills 3-month 6-month 1-year 17.01 15.93 15.21 13.19 13.40 13.12 7.61 8.94 9.52 7.62 8.76 9.46 -5.57 -4.64 -3.66 .01 -.18 -.06 Commercial paper 1-month 3-month 18.63 18.29 14.89 15.00 8.11 9.00 9.96 10.19 -4.93 -4.81 1.85 1.19 Large negotiable CDs 3 1-month 3-month 6-month 18.90 19.01 18.50 14.99 15.58 15.70 8.95 9.63 10.67 10.15 10.44 10.75 -4.84 -5.14 -4.95 1.20 .81 .08- Eurodollar deposits 2 1-month 3-month 19.80 19.56 15.66 16.28 9.76 10.36 11.18 11.61 -4.48 -4.67 1.42 1.25 21.50 16.50 13.50 13.50 -3.00 14.20 14.07 13.69 13.67 10.09 11.18 8.63 10.37 -5.06 -3.30 -1.46 -. 81 U.S. Treasury (constant maturity) 3-year 16.59 15.84 10-year 30-year 15.20 14.98 14.73 14.26 11.81 12.35 12.16 11.52 11.73 11.79 -3.46 -3.00 -2.47 -.29 -.62 -.37 Municipal (Bond Buyer) 13.30 12.63 10.824 10.48 -2.15 -.34 Corporate--Aaa utility Recently offered 17.72 16.19 13.70e 13.44p -2.75 -.26 18.63 1981 16.93 16.235 1982 15.195 Bank prime rate Treasury bill futures )ec. 1982 contract June 1983 contract Intermediate- and longterm rates S&L fixed-rate mortgage commitment FOMC Aug. 24 -1.74 -1.02 Percent change from: 1981 FOMC Aug. 24 Highs Sept. 30 Highs Stock Prices Dow-Jones Industrial 874.90 896.25 1,024.05 -12.5 2.4 4.7 NYSE Composite 79.14 66.10 69.18 -12.6 'EX Composite 380.36 265.28 283.18 6.7 -25.5 172.23 187.65 -16.0 9.0 ;DAO (OTC) 223.47 4. One-day quotes for preceding Thursday. 1. One-day quotes except as noted. 2. Averages for statement week closest to date shown. 5. One-day quotes for preceding Friday. p--preliminary. e--estimated. 3. Secondary market, APPENDIX* COMPENSATING BALANCE ARRANGEMENTS AND DEMAND DEPOSIT BEHAVIOR The expansion of demand deposits in August and September--which had been preceded by six months of contraction--may have been in part a reaction to the sharp fall in short-term interest rates since June. An inverse relation between demand deposits and interest rates is consistent with conventional economic modeling of the transactions demand for money. Moreover, for businesses, which account for well over half of all demand deposits in the money stock, compensating balance arrangements may reinforce the interest rate response of demand deposits. To update information on compensating balance practices, the staff at the Board and three District Banks earlier this month contacted nine large commercial banks. Most of the banks contacted indicated that the vast bulk of their business demand deposits were linked to formal compensating balance Based on the responses of all the banks, compensating balagreements. ances appear, on average, to be approximately equally split between those associated with operational services (including cash management services) and those connected with credit services (loan commitments and takedowns). These deposits of businesses are used actively for transaction purposes, and average daily (close of business) collected balances typically are used as the basis for determining compensation. A corporate customer can pay for credit services either through fees or balances. 1 When balances are used, the required level of average balances is fixed for the term of the agreement and does not Howchange in response to fluctuations in short-term interest rates. ever, since balances can be averaged over periods such as a quarter or even a year, customers do have some scope to vary credit-related balances in response to interest rate movements and rate expectations. The balance requirements for loan commitments or takedowns reportedly have come down from a standard 10 percent a few years ago to around three to five percent. 2 * Prepared by Fred Furlong, Economist, Banking Section, and Richard Porter, Chief, Econometrics and Computer Applications, Division of Research and Statistics. 1. There has been a pronounced trend toward the use of fees rather than balances to pay for credit services in recent years, particularly in the case of large firms. This may reflect in part the fact that funds linked to compensating balance arrangements generally are used actively for transaction purposes, and a business would have less need to hold transaction balances with a bank from which it receives only credit services compared to a bank that supplies operational services. 2. Fees on lines of credit reportedly are centered around 3/8 percent of the dollar value of the line, with higher credit quality customers in many cases paying 1/4 percent and lower rated customers paying 1/2 percent. A-l A-2 In contrast, arrangements involving operational services provide more room for movements in short-term interest rates to influence balances. 1 Banks have formulas for calculating an implicit interest rate that will be applied to deposit balances, the so-called "earnings credit rate" ECR). This rate is based on one or more short-term interest rates. It generally is adjusted downward for reserve requirements against demand deposits, which ordinarily means that the ECR is below open market rates. The ECR can be an average rate for the month in question, the average rate in the previous month, or a moving average over, say, a three-month period. The average collected balance that would be sufficient to compensate the bank for operational services is determined by dividing the ECR into the dollar value of the services obtained in a given month. 3 Given the sharp drop in interest rates in recent months, the formula that was just mentioned would call for a substantial increase in compensating balances if utilization of services remained unchanged. 4 However, based on the responses of the nine large banks contacted, the actual enforcement of the arrangements leads to a much smaller adjustment in balances than that implied by the formula. An important reason for this is that businesses--especially larger ones--generally are able to pay for operational services through a combination of fees and balances. Although balances may account for a high proportion of the total payment for services, fees often are used to make adjustments when the ECR changes. A trend toward the use of fees has been particularly evident in the past two years or so. Banks generally prefer balances to fees, and one of the banks contacted emphasized that it requests additional deposits to make up shortfalls in compensating balances. However, because the ECR typically is below other market rates banks have found it difficult to persuade some of their customers--especially large firms--to raise deposit balances beyond what they normally wish to maintain for transaction purposes. 1. Operational services connected with cash management include such things as lock boxes, wire transfers, account reconcilement, and instantaneous deposit balance information. Other operational services cover payroll processing, foreign exchange transactions, stock transfers, etc. 2. The banks contacted most frequently used the 91-day Treasury yield. Otherwise they used the three-month CD rate or an average of a pool of short-term interest rates. 3. The dollar value of the services is determined by an explict pricing formula for each type of operational service. 4. Based on the formula, required compensating balances in the long run would increase one percent for every one percent drop in short-term interest rates. Since June, the three-month Treasury bill rate has declined about 37-1/2 percent. This would imply roughly a $25 billion increase in required compensating balances--37-1/2 percent of something on the order of $60 billion to $70 billion in deposits apparently held as compensation for operational services. A-3 Aside from the use of fees to cover shortfalls, there are other reasons for there to be a loose relation between changes in the ECR and movements in corporate demand deposits. Accounts are evaluated on a case-by-case basis. Banks consider the overall profitability of an account before deciding whether more balances (or a higher fee) are required. Previous surpluses in deposit balances or even the return on the customer's loans are taken into account. A shortfall in demand deposit balances may be permitted to persist for a number of months if the seasonal pattern in the cash flow of the corporate customer is such that the firm would be able to make up the deficit more easily in the future. In addition, some businesses have balances beyond those used to meet formal compensating balance requirements.1 These deposits absorb some of the change in "required" compensating balances. Overall, the banks contacted indicated that when balances are adjusted to interest rate changes lags can range from a few months to a year or more. As noted earlier, the ECR tends to be lower than market rates. However, because of the method used to calculate the ECR at many banks, this implicit rate of return can lag other market rates. As such, if short-term interest rates fall sharply enough to offset the adjustment for reserve requirements, the ECR for a given month can exceed rates available on market instruments. Corporate depositors would have an incentive to increase their demand deposit holdings to take advantage of the higher yield. 2 This would allow a business to reduce its fee payments for services, make up for previous shortfalls in compensating balances, or build up surplus balances that can be applied to services obtained in the future. Any such buildup in demand deposits would be temporary, since the increase would be reversed when the ECR came back into line as market rates stopped falling. In summary, there appears to be ample scope for compensating balance arrangements, particularly those involving operational services, to have affected the behavior of demand deposits as interest rates have fallen sharply. The ECR at a number of banks has lagged the drop in market rates, and, thus, the implicit return on compensating balances may This would have created an have exceeded market rates in recent months. incentive for some businesses to temporarily increase their demand depos- it holdings. In the longer run, the flexibility afforded depositors by using fees instead of balances and the fact that the ECR ordinarily is below open market rates will affect the extent to which businesses 1. Some of these free balances are active transaction deposits of smaller businesses, and some are funds that are maintained by businesses that want certain services that are not priced explicitly by banks, such as access to the bank's chairman or financial analysts. 2. The intra-monthly pattern of interest rates also can affect the relative attractiveness of the ECR, even in the cases where the ECR is not lagged. Since the ECR represents a daily average, if rates fall sharply early in the month, a business may be able to profit by holding larger balances in the latter part of the month when the ECR exceeds prevailing market rates. A-4 increase their demand balances beyond what they normally wish to hold for transaction purposes. Finally, given the variation in methods used to enforce compensating balance arrangements, some portion of the adjustment in balances that does occur could be spread over a long and indefinite period. 

Federal Reserve (1982, October 4). Greenbook/Tealbook. Greenbooks, Federal Reserve. https://whenthefedspeaks.com/doc/greenbook_19821005_part3

@misc{wtfs_greenbook_19821005_part3,
  author = {Federal Reserve},
  title = {Greenbook/Tealbook},
  year = {1982},
  month = {Oct},
  howpublished = {Greenbooks, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/greenbook_19821005_part3},
  note = {Retrieved via When the Fed Speaks corpus}
}