Monetary Policy Report

RESEARCH LIBRAR raderal Reserve Ba t ffi~ii of St. Louis g;eo-,~lta"Y f 7_, 2 000 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis pf u { Jtunmal;tj [11,e/Ml't tlze fl"ed&'fll [ll,es,&'Oe flJoa!'d This Executive Summary provides highlights of the Board's Report to Congress on the Full Employment and Balanced Growth Act of 1978 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Contents Section Page Testimony of Alan Greenspan Chairman, Federal Reserve Board 1 The Economic Forces at Work 1 Technological Change Continues Apace 3 The Economic Outlook 4 Federal Budget Policy Issues 6 Conclusion 8 Monetary Policy and the Economic Outlook 9 Monetary Policy, Financial Markets, and the Economy over 1999 and Early 2000 10 Economic Projections for 2000 14 Money and Debt Ranges for 2000 19 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Testimony of Alan Greenspan Chairman, Federal Reserve Board I appreciate this opportunity to hour increased 3¼ percent during the past year-likely more than 4 percent present the Federal Reserve's when measured by nonfarm business semiannual report on the income. Security analysts' projections of long-term earnings, an indicator of economy and monetary policy. expectations of company productivity, continued to be revised upward in January, extending a string of upward revisions that began in early 1995. One There is little evidence that the result of this remarkable economic American economy, which grew more performance has been a pronounced than 4 percent in 1999 and surged for increase in living standards for the ward at an even faster pace in the sec majority of Americans. Another has ond half of the year, is slowing appre been a labor market that has provided ciably. At the same time, inflation job opportunities for large numbers has remained largely contained. An of people previously struggling to get increase in the overall rate of inflation on the first rung of a ladder leading in 1999 was mainly a result of higher to training, skills, and permanent energy prices. Importantly, unit labor employment. costs actually declined in the second Yet those profoundly beneficial half of the year. Indeed, still-prelimi forces driving the American economy nary data indicate that total unit cost to competitive excellence are also increases last year remained extraordi engendering a set of imbalances that, narily low, even as the business expan unless contained, threaten our continu sion approached a record nine years. ing prosperity. Accelerating productiv Domestic operating profit margins, ity entails a matching acceleration in after sagging for eighteen months, the potential output of goods and ser apparently turned up again in the vices and a corresponding rise in real fourth quarter, and profit expectations incomes available to purchase the new for major corporations for the first output. The problem is that the pickup quarter have been undergoing upward in productivity tends to create even revisions since the beginning of the greater increases in aggregate demand year-scarcely an indication of immi than in potential aggregate supply. nent economic weakness. This occurs principally because a rise in structural productivity growth has The Economic Forces at Work its counterpart in higher expectations Underlying this performance, unpre for long-term corporate earnings. cedented in my half-century of observ This, in turn, not only spurs business ing the American economy, is a con investment but also increases stock tinuing acceleration in productivity. prices and the market value of assets Nonfarm business output per work- held by households, creating addi- Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis tional purchasing power for which no widening current account deficit additional goods or services have yet require ever larger portfolio and direct been produced. foreign investments in the United Historical evidence suggests that States, an outcome that cannot continue perhaps three to four cents out of without limit. every additional dollar of stock Imbalances in the labor markets per market wealth eventually is reflected haps may have even more serious in increased consumer purchases. The implications for inflation pressures. sharp rise in the amount of consumer While the pool of officially unem outlays relative to disposable incomes ployed and those otherwise willing to in recent years, and the corresponding work may continue to shrink, as it has fall in the saving rate, has been consis persistently over the past seven years, tent with this so-called wealth effect on there is an effective limit to new hiring, household purchases. Moreover, higher unless immigration is uncapped. At stock prices, by lowering the cost of some point in the continuous reduction equity capital, have helped to support in the number of available workers the boom in capital spending. willing to take jobs, short of the repeal Outlays prompted by capital gains in of the law of supply and demand, wage excess of increases in income, as best increases must rise above even impres we can judge, have added about 1 per sive gains in productivity. This would centage point to annual growth of gross intensify inflationary pressures or domestic purchases, on average, over squeeze profit margins, with either out the past five years. The additional come capable of bringing our growing growth in spending of recent years that prosperity to an end. has accompanied these wealth gains as As would be expected, imbalances well as other supporting influences on between demand and potential supply the economy appears to have been met in markets for goods and services are in about equal measure from increased being mirrored in the financial markets net imports and from goods and ser by an excess in the demand for funds. vices produced by the net increase in As a consequence, market interest rates newly hired workers over and above are already moving in the direction of the normal growth of the work force, containing the excess of demand in including a substantial net inflow of financial markets and therefore in workers from abroad. product markets as well. For example, But these safety valves that have been BBB corporate bond rates adjusted for supplying goods and services to meet inflation expectations have risen by the recent increments to purchasing more than 1 percentage point during power largely generated by capital the past two years. However, to date, gains cannot be expected to absorb an rising business earnings expectations excess of demand over supply indefi and declining compensation for risk nitely. First, growing net imports and a have more than offset the effects of this Digitized for FRASER 2 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis increase, propelling equity prices and With foreign economies strengthen the wealth effect higher. Should this ing and labor markets already tight, process continue, however, with the how the current wealth effect is finally assistance of a monetary policy vigilant contained will determine whether the against emerging macroeconomic extraordinary expansion that it has imbalances, real long-term rates will helped foster can slow to a sustainable at some point be high enough to finally pace, without destabilizing the balance demand with supply at the economy in the process. economy's potential in both the finan cial and product markets. Other things Technological Change Continues equal, this condition will involve Apace equity discount factors high enough to bring the rise in asset values into On a broader front, there are few signs line with that of household incomes, to date of slowing in the pace of inno thereby stemming the impetus to con vation and the spread of our newer sumption relative to income that has technologies that, as I have indicated in come from rising wealth. This does not previous testimonies, have been at the necessarily imply a decline in asset val root of our extraordinary productivity ues-although that, of course, can hap improvement. Indeed, some analysts pen at any time for any number of rea conjecture that we still may be in the sons-but rather that these values will earlier stages of the rapid adoption of increase no faster than household new technologies and not yet in sight incomes. of the stage when this wave of innova Because there are limits to the tion will crest. With so few examples in amount of goods and services that our history, there is very little basis for can be supplied from increasing net determining the particular stage of de imports and by drawing on a limited velopment through which we are cur pool of persons willing to work, it nec rently passing. essarily follows that consumption can Without doubt, the synergies of the not keep rising faster than income. microprocessor, laser, fiber-optic glass, Moreover, outsized increases in wealth and satellite technologies have brought cannot persist indefinitely either. For so quantum advances in information long as the levels of consumption and availability. These advances, in turn, investment are sensitive to asset values, have dramatically decreased business equity values increasing at a pace faster operational uncertainties and risk pre than income, other things equal, will miums and, thereby, have engendered induce a rise in overall demand in major cost reductions and productivity excess of potential supply. But that advances. There seems little question situation cannot persist without limit that further major advances lie ahead. because the supply safety valves are What is uncertain is the future pace of themselves limited. the application of these innovations, Digitized for FRASER 3 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis because it is this pace that governs the for continuing this beneficial process of rate of change in productivity and eco recycling savings from the public to nomic potential. the private sectors have improved Monetary policy, of course, did greatly in recent years. Nonetheless, not produce the intellectual insights budget outlays are expected to come behind the technological advances that under mounting pressure as the baby have been responsible for the recent boom generation moves into retire phenomenal reshaping of our eco ment, a process that gets under way a nomic landscape. It has, however, been decade from now. Maintaining the sur instrumental, we trust, in establishing pluses and using them to repay debt a stable financial and economic envi over coming years will continue to be ronment with low inflation that is con an important way the federal govern ducive to the investments that have ex ment can encourage productivity ploited these innovative technologies. enhancing investment and rising stan Federal budget policy has also dards of living. Thus, we cannot afford played a pivotal role. The emergence of to be lulled into letting down our surpluses in the unified budget and of guard on budgetary matters, an issue the associated increase in government to which I shall return later in this saving over the past few years has testimony. been exceptionally important to the balance of the expansion, because the The Economic Outlook surpluses have been absorbing a por tion of the potential excess of demand Although the outlook is clouded by a over sustainable supply associated number of uncertainties, the central partly with the wealth effect. More tendencies of the projections of the over, because the surpluses are aug Board members and Reserve Bank menting the pool of domestic saving, presidents imply continued good eco they have held interest rates below the nomic performance in the United levels that otherwise would have been States. Most of them expect economic needed to achieve financial and eco growth to slow somewhat this year, nomic balance during this period of easing into the 3½ to 3¾ percent area. exceptional economic growth. They The unemployment rate would remain have, in effect, helped to finance and in the neighborhood of 4 to 4¼ percent. sustain the productive private invest The rate of inflation for total personal ment that has been key to capturing consumption expenditures is expected the benefits of the newer technologies to be 1¾ to 2 percent, at or a bit below that, in turn, have boosted the long the rate in 1999, which was elevated by term growth potential of the U.S. rising energy prices. economy. In preparing these forecasts, the Fed The recent good news on the budget eral Open Market Committee members suggests that our longer-run prospects had to consider several of the crucial Digitized for FRASER 4 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis demand- and supply-side forces I the period ahead. However, to date, referred to earlier. Continued favorable interest-sensitive spending has developments in labor productivity are remained robust, and the FOMC will anticipated both to raise the economy's have to stay alert for signs that real capacity to produce and, through its interest rates have not yet risen enough supporting effects on real incomes and to bring the growth of demand into line asset values, to boost private domestic with that of potential supply, even demand. When productivity-driven should the acceleration of productivity wealth increases were spurring continue. demand a few years ago, the effects Achieving that alignment seems on resource utilization and inflation more pressing today than it did earlier, pressures were offset in part by the before the effects of imbalances began effects of weakening foreign economies to cumulate, lessening the depth of our and a rising foreign exchange value various buffers against inflationary of the dollar, which depressed pressures. Labor markets, for example, exports and encouraged imports. have tightened in recent years as Last year, with the welcome recovery demand has persistently outstripped of foreign economies and with the lev even accelerating potential supply. As eling out of the dollar, these factors I have previously noted, we cannot be holding down demand and prices in sure in an environment with so little the United States started to unwind. historical precedent what degree of Strong growth in foreign economic labor market tautness could begin to activity is expected to continue this push unit costs and prices up more rap year, and, other things equal, the effect idly. We know, however, that there is a of the previous appreciation of the dol limit, and we can be sure that the lar should wane, augmenting demand smaller the pool of people without jobs on U.S. resources and lessening one willing to take them, the closer we are source of downward pressure on our to that limit. As the FOMC indicated prices. after its last meeting, the risks still seem As a consequence, the necessary to be weighted on the side of building alignment of the growth of aggregate inflation pressures. demand with the growth of potential A central bank can best contribute to aggregate supply may well depend on economic growth and rising standards restraint on domestic demand, which of living by fostering a financial envi continues to be buoyed by the lagged ronment that promotes overall balance effects of increases in stock market in the economy and price stability. valuations. Accordingly, the appre Maintaining an environment of effec ciable increases in both nominal and tive price stability is essential, because real intermediate- and long-term inter the experience in the United States and est rates over the last two years should abroad has underscored that low and act as a needed restraining influence in stable inflation is a prerequisite for 5 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis healthy, balanced, economic expansion. The new budget projections from the Sustained expansion and price stability Congressional Budget Office and the provide a backdrop against which Administration generally look reason workers and businesses can respond able. But, as many analysts have to signals from the marketplace in stressed, these estimates represent a ways that make most efficient use of midrange of possible outcomes for the the evolving technologies. economy and the budget, and actual budgetary results could deviate quite significantly from current expectations. Federal Budget Policy Issues Some of the uncertainty centers on the Before closing, I should like to revisit likelihood that the recent spectacular some issues of federal budget policy growth of labor productivity will per that I have addressed in previous con sist over the years ahead. Like many gressional testimony. Some modest ero private forecasters, the CBO and the sion in fiscal discipline resulted last Office of Management and Budget year through the use of the "emer assume that productivity growth will gency" spending initiatives and some drop back somewhat from the recent "creative accounting." Although some stepped-up pace. But a distinct possi what disappointing, that erosion was bility, as I pointed out earlier, is that the small relative to the influence of the development and diffusion of new wise choice of the Administration and technologies in the current wave of the Congress to allow the bulk of the innovation may still be at a relatively unified budget surpluses projected for early stage and that the scope for fur the next several years to build and ther acceleration of productivity is thus retire debt to the public. The idea that greater than is embodied in these bud we should stop borrowing from the get projections. If so, the outlook for social security trust fund to finance budget surpluses would be even other outlays has gained surprising brighter than is now anticipated. and welcome-traction, and it estab But there are significant downside lishes, in effect, a new budgetary risks to the budget outlook as well. One framework that is centered on the is our limited knowledge of the forces on-budget surplus and how it should driving the surge in tax revenues in be used. recent years. Of course, a good part of This new framework is useful that surge is due to the extraordinary because it offers a clear objective that rise in the market value of assets should strengthen budgetary disci which, as I noted earlier, cannot be sus pline. It moves the budget process tained at the pace of recent years. But closer to accrual accounting, the pri that is not the entire story. These rela vate-sector norm, and-I would hope tionships are complex, and until we the ultimate objective of federal budget have detailed tabulations compiled accounting. from actual tax returns, we shall not 6 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis really know why individual tax rev liabilities that, under most reasonable enues, relative to income, have been sets of actuarial assumptions, currently even higher than would have been pre amount to many trillions of dollars for dicted from rising asset values and social security benefits alone. bracket creep. Thus, we cannot rule out Even if accrual accounting is set the possibility that this so-called "tax aside, it might still be prudent to surprise," which has figured so promi eschew new longer-term, potentially nently in the improved budget picture irreversible commitments until we are of recent years, will dissipate or assured that the on-budget surplus pro reverse. If this were to happen, the jections are less conjectural than they projected surpluses, even with current are, of necessity, today. economic assumptions, would shrink Allowing surpluses to reduce the appreciably and perhaps disappear. debt to the public, rather than for all Such an outcome would be especially practical purposes irrevocably commit likely if adverse developments ting to their disposition in advance, can occurred in other parts of the budget be viewed as a holding action pending a~ well-for example, if the recent the clarification of the true underlying slowdown in health care spending budget outcomes of the next few years. were to be followed by a sharper Debt repaid can very readily be rebor pickup than is assumed in current bud rowed to fund delayed initiatives. get projections. More fundamentally, the growth po Another consideration that argues for tential of our economy under current letting the unified surpluses build is circumstances is best served, in my that the budget is still significantly judgment, by allowing the unified bud short of balance when measured on get surpluses presently in train to mate an accrual basis. If social security, for rialize and thereby reduce Treasury example, were measured on such a debt held by the public. basis, counting benefits when they are Yet I recognize that growing budget earned by workers rather than when surpluses may be politically infeasible they are paid out, that program would to defend. If this proves to be the case, have shown a substantial deficit last as I have also testified previously, the year. The deficit would have been large likelihood of maintaining a still satis enough to push the total federal budget factory overall budget position over the into the red, and an accrual-based bud longer run is greater, I believe, if sur get measure could conceivably record pluses are used to lower tax rates rather noticeable deficits over the next few than to embark on new spending pro years, rather than the surpluses now grams. History illustrates the difficul indicated by the official projections for ties of keeping spending in check, espe either the total unified budget or the cially in programs that are open-ended on-budget accounts. Such accruals take commitments, which too often have led account of still growing contingent to larger outlays than initially envi- Digitized for FRASER 7 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis sioned. Decisions to reduce taxes, how pline, and a culture of enterprise and ever, are more likely to be contained by entrepreneurship should continue to the need to maintain an adequate rev undergird rapid innovation and enue base to finance necessary govern enhanced productivity that in turn ment services. Moreover, especially if should foster a sustained further rise designed to lower marginal rates, tax in living standards. It would be impru reductions can offer favorable incen dent, however, to presume that the tives for economic performance. business cycle has been purged from market economies so long as human Conclusion expectations are subject to bouts of euphoria and disillusionment. We can As the U.S. economy enters a new cen only anticipate that we will readily take tury as well as a new year, the time is such diversions in stride and trust that · opportune to reflect on the basic char beneficent fundamentals will provide acteristics of our economic system that the framework for continued economic have brought about our success in progress well into the new recent years. Competitive and open millennium. markets, the rule of law, fiscal disci- Digitized for FRASER 8 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Monetary Policy and the Economic Outlook The U.S. economy posted another years. In late 1998, to cushion the U.S. exceptional performance in 1999. The economy from the effects of disruptions ongoing expansion appears to have in world financial markets and to ame maintained strength into early 2000 as liorate some of the resulting strains, it set a record for longevity, and-aside money market conditions were eased. from the direct effects of higher crude By the middle of last year, however, oil prices-inflation has remained sub with financial markets resuming nor dued, in marked contrast to the typical mal functioning, foreign economies experience during previous expansions. recovering, and domestic demand con The past year brought additional evi tinuing to outpace increases in produc dence that productivity growth has tive potential, the Committee began to improved substantially since the reverse that easing. mid-1990s, boosting living standards As the year progressed, foreign while helping to hold down increases economies, in general, recovered more in costs and prices despite very tight quickly and displayed greater vigor labor markets. than had seemed likely at the start of the year. Domestically, the rapid pro ductivity growth raised expectations of Change in Real GDP future incomes and profits and thereby Percent, Q4 to Q4 helped keep spending moving up at a faster clip than current productive capacity. Meanwhile, prices of most internationally traded materials 4 rebounded from their earlier declines; this turnaround, together with a flat tening of the exchange value of the dol 2 lar after its earlier appreciation, trans lated into an easing of downward pressure on the prices of imports in general. Core inflation measures gener ally remained low, but with the labor market at its tightest in three decades 1991 1993 1995 1997 1999 and becoming tighter, the risk that pressures on costs and prices would eventually emerge mounted over the The Federal Open Market Commit course of the year. To maintain the low tee's pursuit of financial conditions inflation environment that has been so consistent with sustained expansi~:n.. .i mportant to the sustained health of and low inflation has required some· • the cur.rent expansion, the FOMC ulti adjustments to the settings of monetary _ mately· implemented four quarter-point policy instruments over the past two increases in the intended federal funds 9 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Change in PCE Chain-type Price securities issuance picked up, and risk Index spreads fell further-though not back Percent, Q4 to Q4 to the unusually low levels of the first --------------- half of 1998. At the same time, domes tic demand remained quite strong, and foreign economies showed signs of rebounding. The FOMC concluded at 2 its February and March meetings that, if these trends were to persist, the risks of the eventual emergence of some- + what greater inflation pressures would 0 - increase, and it noted that a case could be made for unwinding part of the eas ing actions of the preceding fall. How ever, the Committee hesitated to adjust policy before having greater assurance 1991 1993 1995 1997 1999 that the recoveries in domestic finan cial markets and foreign economies rate, the most recent of which came at were on firm footing. the beginning of this month. In total, By the May meeting, these recoveries the federal funds rate has been raised 1 were solidifying, and the pace of percentage point, although, at 5¾ per domestic spending appeared to be cent, it stands only ¼ point above its outstripping the growth of the level just before the autumn-1998 finan economy's potential, even allowing cial market turmoil. At its most recent for an appreciable acceleration in pro meeting, the FOMC indicated that risks ductivity. The Committee still expected appear to remain on the side of height some slowing in the expansion of ened inflation pressures, so it will need aggregate demand, but the timing to remain especially attentive to devel and extent of any moderation opments in this regard. remained uncertain. Against this backdrop, the FOMC maintained an unchanged policy stance but announ Monetary Policy, Financial ced immediately after the meeting that Markets, and the Economy over it had chosen a directive tilted toward 1999 and Early 2000 the possibility of a firming of rates. The first quarter of 1999 saw a fur This announcement implemented the ther unwinding of the heightened lev disclosure policy adopted in December els of perceived risk and risk aversion 1998, whereby major shifts in the Com that had afflicted financial markets in mittee's views about the balance of the autumn of 1998; investors became risks or the likely direction of future much more willing to advance funds, policy would be made public immedi- Digitized for FRASER 10 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis ately. Members expected that, by mak of the federal funds rate ¼ percentage ing the FOMC's concerns public earlier, point. The Committee also such announcements would encourage announced a symmetric directive, financial market reactions to subse noting that the marked degree of quent information that would help uncertainty about the extent and timing stabilize the economy. In practice, how of prospective inflationary pressures ever, those reactions seemed to be exag meant that further firming of policy gerated and to focus even more than might not be undertaken in the near usual on possible near-term Committee term, but that the Committee would action. need to be especially alert to emerging Over subsequent weeks, economic inflation pressures. Markets rallied on activity continued to expand vigor the symmetric-directive announcement, ously, labor markets remained very and the strength of this response tight, and oil and other commodity together with market commentary prices rose further. In this environment, suggested uncertainty about the inter the FOMC saw an updrift in inflation pretation of the language used to char as a significant risk in the absence of acterize possible future developments some policy firming, and at the June and about the time period to which the meeting it raised the intended level directive applied. Selected Interest Rates Percent 6 - 5 Three-month Treasury rate 4 2/4 3/31 5/19 7/1 8/18 9/29 11/17 12/22 2/3 3/30 5/18 6/30 8/24 10/5 11/16 12/21 2/2 10/15 1998 1999 2000 Note. The data are daily. Vertical lines indicate held a scheduled meeting or a policy action the days on which the Federal Reserve announced was announced. Last observations are for a monetary policy action. The dates on the hori February 11, 2000. zontal axis are those on which either the FOMC 11 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis In the period between the June and dysfunctional financing market at August meetings, the ongoing strength year-end were deemed to be unaccept of domestic demand and further ably high. The FOMC agreed to autho expansion abroad suggested that at rize, temporarily, (1) a widening of the least part of the remaining easing put pool of collateral that could be accepted in place the previous fall to deal with in System open market transactions, financial market stresses was no longer (2) the use of reverse repurchase agree needed. Consequently, at the August ment accounting in addition to the cur meeting the FOMC raised the intended rently available matched sale-purchase level of the federal funds rate a further transactions to absorb reserves tempo ¼ percentage point, to 5¼ percent. The rarily, and (3) the auction of options on Committee agreed that this action, repurchase agreements, reverse repur along with that taken in June, would chase agreements, and matched sale substantially reduce inflation risks and purchase transactions that could be again announced a symmetric direc exercised in the period around year tive. In a related action, the Board of end. The Committee also authorized a Governors approved an increase in permanent extension of the maximum the discount rate to 4¾ percent. At maturity on regular repurchase and this meeting the Committee also matched sale-purchase transactions established a working group to assess from sixty to ninety days. the FOMC's approach to disclosing The broader range of collateral its view about prospective develop approved for repurchase transactions ments and to propose procedural mainly pass-through mortgage securi modifications. ties of government-sponsored enter At its August meeting, the FOMC prises and STRIP securities of the U.S. took a number of actions that were Treasury-would facilitate the Man aimed at enhancing the ability of the ager's task of addressing what could Manager of the System Open Market be very large needs to supply reserves Account to counter potential liquidity in the succeeding months, primarily strains in the period around the cen in response to rapid increases in the tury date change and that would also demand for currency, at a time of help ensure the effective implementa potentially heightened demand in vari tion of the Committee's monetary ous markets for U.S. government secu policy objectives. Although members rities. The standby financing facility, believed that efforts to prepare com authorizing the Federal Reserve Bank puter systems for the century date of New York to auction the above change had made the probability of mentioned options to the government significant disruptions quite small, securities dealers that are regular some aversion to Y2K risk exposure counterparties in the System's open was already evident in the markets, market operations, would encourage and the costs that might stem from a marketmaking and the maintenance of 12 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis liquid financing markets essential to directive that was biased toward effective open market operations. The restraint. standby facility was also viewed as a Information available through useful complement to the special mid-November pointed toward robust liquidity facility, which was to provide growth in overall economic activity sound depository institutions with and a further depletion of the pool of unrestricted access to the discount win unemployed workers willing to take a dow, at a penalty rate, between October job. Although higher real interest rates 1999 and April 2000. Finally, the deci appeared to have induced some soften sion to extend the maximum maturity ing in interest-sensitive sectors of the on repurchase and matched sale economy, the anticipated moderation in purchase transactions was intended to the growth of aggregate demand did bring the terms of such transactions not appear sufficient to avoid added into conformance with market practice pressures on resources, predominantly and to enhance the Manager's ability labor. These conditions, along with fur over the following months to imple ther increases in oil and other commod ment the unusually large reserve ity prices, suggested a significant risk operations expected to be required that inflation would pick up over time, around the turn of the year. given prevailing financial conditions. Incoming information during the Against this backdrop, the FOMC period leading up to the FOMC' s raised the target for the federal funds October meeting suggested that the rate an additional ¼ percentage point growth of domestic economic activity in November. At that time, a symmetric had picked up from the second directive was adopted, consistent with quarter's pace, and foreign economies the Committee's expectation that no appeared to be strengthening more further policy move was likely to be than had been anticipated, poten- considered before the February meet tially adding pressure to already-taut ing. In a related action, the Board of labor markets and possibly creating Governors approved an increase in the inflationary imbalances that would discount rate of¼ percentage point, to undermine economic performance. 5 percent. But the FOMC viewed the risk of a At the December meeting, FOMC significant increase in inflation in the members held the stance of policy near term as small and decided to unchanged and, to avoid any misinter await more evidence on how the pretation of policy intentions that economy was responding to its previ might unsettle financial markets ous tightenings before changing its around the century date change, policy stance. However, the Committee announced a symmetric directive. But anticipated that the evidence might the statement issued after the meeting well signal the need for additional also highlighted members' continuing tightening, and it again announced a concern about inflation risks going Digitized for FRASER 13 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis forward and indicated the Committee's potential supply, and the risks of infla intention to evaluate, as soon as its tionary imbalances appeared to have next meeting, whether those risks sug risen. At the meeting, the FOMC raised gested that further tightening was its target for the federal funds rate¼ appropriate. percentage point to 5¾ percent, and The FOMC also decided on some characterized the risks as remaining on modifications to its disclosure proce the side of higher inflation pressures. dures at the December meeting, at In a related action, the Board of Gover which the working group mentioned nors approved a¼ percentage point above transmitted its final report and increase in the discount rate, to 5¼ proposals. These modifications, percent. announced in January 2000, consisted primarily of a plan to issue a statement Economic Projections for 2000 after every FOMC meeting that not only would convey the current stance The members of the Board of Gover of policy but also would categorize nors and the Federal Reserve Bank risks to the outlook as either weighted presidents, all of whom participate in mainly toward conditions that may the deliberations of the FOMC, expect generate heightened inflation pres to see another year of favorable eco sures, weighted mainly toward condi nomic performance in 2000, although tions that may generate economic the risk of higher inflation will need to weakness, or balanced with respect to be watched especially carefully. The the goals of maximum employment central tendency of the FOMC partici and stable prices over the foreseeable pants' forecasts of real GDP growth future. The changes eliminated uncer from the fourth quarter of 1999 to the tainty about the circumstances under fourth quarter of 2000 is 3½ percent to which an announcement would be 3¾ percent. A substantial part of the made; they clarified that the Commit gain in output will likely come from tee's statement about future prospects further increases in productivity. None extended beyond the intermeeting theless, economic expansion at the period; and they characterized the pace that is anticipated should create Committee's views about future devel enough new jobs to keep the unem opments in a way that reflected policy ployment rate in a range of 4 percent discussions and that members hoped to 4¼ percent, close to its recent aver would be more helpful to the public age. The central tendency of the FOMC and to financial markets. participants' inflation forecasts for Financial markets and the economy 2000-as measured by the chain-type came through the century date change price index for personal consumption smoothly. By the February 2000 meet expenditures-is 1¾ percent to 2 per ing, there was little evidence that cent, a range that runs a little to the low demand was coming into line with side of the energy-led 2 percent rise Digitized for FRASER 14 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Economic Projections for 2000 Percent Federal Reserve governors and Reserve Bank presidents Memo: Central Indicator 1999 actual Range tendency Change, Nominal GDP 5.9 5-6 5¼-5½ fourth quarter to fourth Real GOP2 4.2 3¼-4¼ 3½-3¾ quarter1 PCE Chain-type price index 2.0 1½-2½ 1¾-2 Average level, Civilian unemployment rate 4.1 4-4¼ 4-4¼ fourth quarter l. Change from average for fourth quarter of 2. Chain-weighted. 1999 to average for fourth quarter of 2000. posted in 1999.1 Even though futures coming in another year of tight labor markets suggest that energy prices may markets. turn down later this year, prices else The performance of the economy where in the economy could be pushed both the rate of real growth and the rate upward by a combination of factors, of inflation-will depend importantly including reduced restraint from non on the course of productivity. Typically, oil import prices, wage and price pres in past business expansions, gains in sures associated with lagged effects of labor productivity eventually slowed the past year's oil price rise, and larger as rising demand placed increased pres increases in costs that might be forth- sure on plant capacity and on the work- l. In past Monetary Policy Reports to the the weights are based on a more comprehensive Congress, the FOMC has framed its inflation measure of expenditures. Finally, historical data forecasts in terms of the consumer price index. used in the PCE price index can be revised to The chain-type price index for PCE draws account for newly available information and for extensively on data from the consumer price improvements in measurement techniques, index but, while not entirely free of measure including those that affect source data from the ment problems, has several advantages relative CPI; the result is a more consistent series over to the CPI. The PCE chain-type index is time. This switch in presentation notwithstand constructed from a formula that reflects the ing, the FOMC will continue to rely on a variety changing composition of spending and thereby of aggregate price measures, as well as other avoids some of the upward bias associated with information on prices and costs, in assessing the the fixed-weight nature of the CPI. In addition, path of inflation. 15 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Change in Output Per Hour enhancing high-tech applications, Percent, Q4 to Q4 investment in new equipment has been ---------------- surging and could well continue to rise rapidly for some time. Moreover, expectations that the investment in 4 new technologies will generate high returns have been lifting the stock mar ket and, in turn, helping to maintain 2 consumer spending at a pace in excess of the current growth of real disposable + income. Impetus to demand from this ~ source also could persist for a while longer, given the current high levels of consumer confidence and the likely lagged effects of the large increments 1991 1993 1995 1997 1999 to household wealth registered to date. Note. Nonfarm business sector. The boost to aggregate demand from the marked pickup in productivity force, and a similar slowdown from the growth implies that the level of interest recent rapid pace of productivity gain rates needed to align demand with cannot be ruled out. But with many firms still in the process of implement Wealth and Saving ing technologies that have proved effective in reorganizing internal opera Percent Ratio tions or in gaining speedier access to ~ outside resources and markets, and 12 - with the technologies themselves still advancing rapidly, a further rise in pro 10- ductivity growth from the average pace of recent years also is possible. To the 8 extent that rapid productivity growth 6- can be maintained, aggregate supply can grow faster than would otherwise 4- be possible. .._ Personal saving rate2 However, the economic processes 2- 3.5 that are giving rise to faster productiv ity growth not only are lifting aggre gate supply but also are influencing 1963 1969 1975 1981 1987 1993 1999 the growth of aggregate spending. 1. Ratio of net worth of households to disposable personal income. The data extend With firms perceiving abundant profit through 1999:Q3. opportunities in productivity- 2. The data extend through 1999:Q4 Digitized for FRASER 16 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Major Stock Price Indexes growth of exports. However, foreign Index,January 4, 1999=100 economies have been firming, and if recovery of these economies stays on course, U.S. exports should increase faster than they have in the past couple 180 of years. Moreover, the rapid rise of the real exchange value of the dollar through mid-1998 has since given way 140 to greater stability, on average, and the tendency of the earlier appreciation to limit export growth and boost import 100 growth is now diminishing. From one perspective, these external adjustments are welcome because they will help slow the recent rapid rates of decline in JFMAMJJ ASONDJFMAMJJ ASONDJF net exports and the current account. 1998 1999 2000 They also should give a boost to indus Note. The data are daily. Last observations are for February 11, 2000. tries that have been hurt by the export Nominal Dollar Exchange Rate potential supply may have increased Indexes substantially. Although the recent rise in interest rates may lead to some slow Index, January 1997=100 ing of spending, aggregate demand may well continue to outpace gains in potential output over the near term, an imbalance that contains the seeds 115 of rising inflationary and financial pressures that could undermine the expansion. In recent years, domestic spending 105 has been able to grow faster than pro duction without engendering inflation partly because the external sector has provided a safety valve, helping to relieve the pressures on domestic 1997 1998 1999 2000 resources. In particular, the rapid Note. The data are monthly. Indexes are trade growth of demand has been met in weighted averages of the exchange value of the part by huge increases in imports of dollar against major currencies and against the currencies of a broad group of important U.S. goods and services, and sluggishness trading partners. Last observations are for the in foreign economies has restrained the first two weeks of February 2000. Digitized for FRASER L7 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis slump, such as agriculture and some turing industries and could continue to parts of manufacturing. At the same exert restraint on firms' pricing deci time, however, the adjustments are sions, even with a diminution of com likely to add to the risk of an upturn in petitive pressures from abroad. How the inflation trend, because a strength ever, an already tight domestic labor ening of exports will add to the pres market has tightened still further in sures on U.S. resources and a firming recent months, and bidding for work of the prices of non-oil imports will ers, together with further increases in raise costs directly and also reduce to health insurance costs that appear to some degree the competitive restraints be coming, seems likely to keep nomi on the prices of U.S. producers. nal hourly compensation costs moving Domestically, substantial plant capac up at a relatively brisk pace. To date, ity is still available in some manufac- the increases in compensation have not had serious inflationary consequences because they have been offset by the Measures of Labor Utilization advances in labor productivity, which Percent have held unit labor costs in check. But the pool of available workers cannot continue to shrink without at some point touching off cost pressures that Augmented unemployment rate even a favorable productivity trend might not be able to counter. Although the governors and Reserve Bank presi dents expect productivity gains to be substantial again this year, incoming data on costs, prices, and price expecta tions will be examined carefully to 6 make sure a pickup of inflation does not start to become embedded in the economy. The FOMC forecasts are more opti mistic than the economic predictions that the Administration recently '70 1975 1980 1985 1990 1995 2000 released, but the Administration has Note. The augmented unemployment rate is noted that it is being conservative in the number of unemployed plus those who are regard to its assumptions about pro not in the labor force and want a job, divided by ductivity growth and the potential the civilian labor force plus those who are not in the labor force and want a job. The break in data expansion of the economy. Relative to at January 1994 marks the introduction of a the Administration's forecast, the redesigned survey; data from that point on are FOMC is predicting a somewhat larger not directly comparable with those of earlier periods. The data extend through January 2000. rise in real GDP in 2000 and a slightly Digitized for FRASER 18 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis lower unemployment rate. The infla within any particular range selected for tion forecasts are fairly similar, once the year would be associated with the account is taken of the tendency for the economic performance it expected or consumer price index to rise more rap desired. Nonetheless, the Committee idly than the chain-type price index for believes that money growth has some personal consumption expenditures. value as an economic indicator, and it will continue to monitor the monetary aggregates among a wide variety of Money and Debt Ranges for 2000 economic and financial data to inform At its most recent meeting, the its policy deliberations. FOMC reaffirmed the monetary growth M2 increased 6¼ percent last year. ranges for 2000 that were chosen on a With nominal GDP rising 6 percent, M2 provisional basis last July: 1 percent to velocity fell a bit overall, although it 5 percent for M2, and 2 percent to 6 rose in the final two quarters of the percent for M3. As has been the case for year as market interest rates climbed some time, these ranges were chosen to relative to yields on M2 assets. Further encompass money growth under con increases in market interest rates early ditions of price stability and historical this year could continue to elevate M2 velocity relationships, rather than to velocity. Nevertheless, given the center on the expected growth of Committee's expectations for nominal money over the coming year or serve GDP growth, M2 could still be above as guides to policy. the upper end of its range in 2000. Given continued uncertainty about M3 expanded 7½ percent last year, movements in the velocities of M2 and and its velocity fell about 1¾ percent, a M3 (the ratios of nominal GDP to the much smaller drop than in the previous aggregates), the Committee still has year. Non-M2 components again exhib little confidence that money growth ited double-digit growth, with some of the strength attributable to long-term trends and some to precautionary Ranges for Growth of Monetary and buildups of liquidity in advance of the Debt Aggregates century date change. One important Percent trend is the shift by nonfinancial busi nesses from direct holdings of money Aggregate 1998 1999 2000 market instruments to indirect hold ings through institution-only money M2 1-5 1-5 1-5 funds; such shifts boost M3 at the same M3 2-6 2-6 2-6 time they enhance liquidity for busi Debt 3-7 3-7 3-7 nesses. Money market funds and large certificates of deposit also ballooned Note. Change from average for fourth quarter late in the year as a result of a substan of preceding year to average for fourth quarter of year indicated. tial demand for liquidity around the Digitized for FRASER 19 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis century date change. Adjustments from households that were due to substan the temporarily elevated level of M3 at tial advances in spending as well as to the end of 1999 are likely to trim that debt-financed mergers and acquisi aggregate' s fourth-quarter-to-fourth tions. However, the increase in private quarter growth this year, but not suffi sector debt was partly offset by a sub ciently to offset the downward trend in stantial decline in federal debt. The velocity. That trend, together with the Committee left the range for debt Committee's expectation for nominal growth in 2000 unchanged at 3 percent GDP growth, will probably keep M3 to 7 percent. After an aberrant period in above the top end of its range again the 1980s during which debt expanded this year. much more rapidly than nominal GDP, Domestic nonfinancial debt grew 6½ the growth of debt has returned to its percent in 1999, near the upper end of historical pattern of about matching the the 3 percent to 7 percent growth range growth of nominal GDP over the past the Committee established last Febru decade, and the Committee members ary. This robust growth reflected large expect debt to remain within its range increases in the debt of businesses and again this year. Digitized for FRASER 20 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Growth of Money and Debt Percent Domestic Period Ml M2 M3 nonfinancial debt AnnuaP 1989 0.6 5.2 4.1 7.4 1990 4.2 4.2 1.9 6.7 1991 7.9 3.1 1.1 4.5 1992 14.4 1.8 0.6 4.5 1993 10.6 1.4 1.0 4.9 1994 2.5 0.6 1.7 4.9 1995 -1.5 3.9 6.1 5.5 1996 -4.5 4.5 6.8 5.4 1997 -1.2 5.6 8.9 5.2 1998 2.2 8.5 10.9 6.7 1999 1.9 6.2 7.5 6.6 1999 Ql 1.9 7.5 8.2 6.7 Quarterly Q2 2.2 6.0 6.0 6.7 (annual rate)2 Q3 -2.0 5.5 5.1 6.0 Q4 5.3 5.4 10.0 6.2 Note. Ml consists of currency, travelers of the outstanding credit market debt of the U.S. checks, demand deposits, and other checkable government, state and local governments, deposits. M2 consists of Ml plus savings households and nonprofit organizations, non- deposits (including money market deposit financial businesses, and farms. accounts), small-denomination time deposits, l. From average for fourth quarter of and balances in retail money market funds. M3 preceding year to average for fourth quarter of consists of M2 plus large-denomination time year indicated. deposits, balances in institutional money market 2. From average for preceding quarter to funds, RP liabilities (overnight and term), and average for quarter indicated. eurodollars (overnight and term). Debt consists FRBl-17000-0200-C Digitized for FRASER 2L https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis

Federal Reserve (2000, February 16). Monetary Policy Report. Monetary Policy Reports, Federal Reserve. https://whenthefedspeaks.com/doc/monetary_policy_report_20000217

@misc{wtfs_monetary_policy_report_20000217,
  author = {Federal Reserve},
  title = {Monetary Policy Report},
  year = {2000},
  month = {Feb},
  howpublished = {Monetary Policy Reports, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/monetary_policy_report_20000217},
  note = {Retrieved via When the Fed Speaks corpus}
}