Regional President Speech

Domestic Economic Conditions Mass Software Council January 14, 2005 Cathy Minehan President & Chief Executive Officer Federal Reserve Bank of Boston -- Shipments, nondefens ca ital goods ex aircra t -mth % growth) -- Orders, nondefense cap if I goods ex aircraft (3-mth % growth) -Equip. & Software Spending(NIPA, 1-qtr % growth) 2003:Aug 2003:Dec 2004:Apr 2004:Aug Sources: Manufacturers' New Orders and Shipments, Nondefense Capital Goods ex Aircraft, (SA, Millions$): Census Bureau. Real Private Nonresidential Investment in Equipment & Software (SAAR): Bureau of Economic Analysis. Attention to the bottom line has left businesses sitting on a pile of cash. Poised to spend? Stock of cash/total assets, S&P 500 "Cl Q,> 18 "Cl " ~ Cl --Cash flow as a share ofnonfin. corp. .r.,.".J. I 1 8 Q,> -Q=,> r,"J business gross value-added -r ~ ,"J ~ > ..~... ~ 16 - .0.... 0 Q,> i.. .c ~ .c r,"J ~ r,"J ~ ~ ~ 0 ~ r,"J 14 ~ ~ ~ ..0... =0 rJ). .c r,"J u~ 12 Sources: Gross Value Added for Nonfinancial Corporate Business (SAAR, Billions$): Bureau of Economic Analysis. Cash and near-cash assets as a share of total assets: Flow of Funds. - Investment as a share of cash __f_lo_w_ _ ..... 1950:Q1 1955:Q1 1960:Q1 1965:Q1 1970:Q1 1975:Q1 1980:Q1 1985:Q1 1990:Q1 1995:Q1 2000:Q1 The market still expects gradual increases in the funds rate About one-quarter point per quarter in 2005 - - - -- FOMC Target rate .... - - - - - - - .. - - - Fed Funds/ Eurodollar Futures (1/12/05) .. - - , .. # .. .. .. , Summary of Outlook • 3.5°/4 to 4o/o GDP rowth in 2005 - A bit above potential growth - Gradual decline in unused resources - Assumes a gradual increase in the federal funds rate • Em lo ment rowth of "'200 000 er month - Still some risk to this part of the outlook - Last two months averaged 147,000 • Stable core inflation of 1.So/o PCE to 2% CPI - Risks not asymmetric, but some upside as well as downside - risks • Some uncertainty about the size of the output gap • Possibility of additional shocks to oil prices, the dollar ~ "v ~¥ assachusetts Soft:"are Council ~ ''JI\..){ Presentation January 14, 2005 ,, • Pleasure to be here with you • Want to cover two things - Some reflections on 2004 - What I see for 2005 • Particular focus on business investment spending on equipment and software • Longer term challenge, low national savings • 2004 - In a nutshell, quite a good year - Latest data GDP 4% growth over 4 qtrs., unemployment down, inflation more of a concern but moderating at year end - Consumer was the mainstay - consumption grew 3.5% - take out 2nd quarter when oil prices acted as a tax, consumption 4.5% - Housing sales, autos strong, and consumers seemed confident about the future - Business investment strong as well - E&S 13% over 4 quarters; info processing quite strong 1st half, less strong second half - Payroll employment picked up as well - bouncy, but last 3 months averaged 200,000 - Inflation - rose considerably with increases in oil and gas prices - about 5 percent 2nd quarter - core prices rose as well (2.6 percent first half) but moderated by year end • Still hear anecdotes about excess capacity, so while may have the finances, may still be hesitant - Finally - have to say something about inflation • Core inflation increased 1 % point 2003-2004 • Moderated at year-end, but will it escalate again? • Oil prices • Dollar depreciation • Productivity slowdown • Above trend economic growth • Possible - don't think so • Impact of oil price escalation likely transient; core inflation moderates at year end • Dollar feed thru not large near as we can tell • Underlying productivity growth strong - 3 percent on a 4 quarter basis • Other things say resources still available • So expect core 2% or so depending on how you measure • Upside risk here • Moreover, even if economy performs as expected & inflation stays low, policy has to become less accommodative as excess capacity is used up - can't get behind the inflation curve • SLIDE 4 - So market expects Fed will continue to tighten at a pace of about .25 basis points per quarter in 2005 • SLIDE 5 - Summary • 2005 - Expect more of the same - growth 3 .5+ percent, growing employment, well-balanced inflation - Questions: Strength of the consumer: 2004 spending has wealth effect ■ component, not likely in 2005 with moderating house prices - will consumers decide to save, not spend? Answer is jobs - if jobs and wages grow, consumers will spend - ■ continued 200,000 new jobs would give assurance here Strength of business - spending quite strong this year - will it ■ continue? SLIDE 1 See shipments in Q4 off, orders pretty good ■ ■ Suggests green line will come down in Q4, bounce back in QI • Issues: • Tax change - move from 2005 back to 2004 • Continued uncertainty SLIDE 2 • See businesses have accumulated a pile of cash, despite recent investment spending - clearly some part of this is keen focus on putting accounting and compliance houses in order under Sarbanes-Oxley, and an extra premium on "making their numbers" • SLIDE 3 - Thus, while investment spending grows pretty strongly, not close to its usual share of cash flow • Thus, businesses have funds - will they spend? Longer-term concern ■ • National savings too low - 1-2% of GDP • As a result, borrow from rest of the world in increasing amounts • Savings - two courses; households & federal govt. • Both are problems - savings as % of real disposable income at an all-time low; federal deficit at 3.5% GDP • With reasonable assumptions about tax revenues and discretionary spending, deficit as % of GDP will grow • Twin deficits - CAD now 6% GDP - Share DNA • Adjustment - will come sooner or later - others surplus down our deficit down • Question is how; gradually or not • Dollar could fall precipitously, increasing interest rates, affecting equity markets, slowing growth - clearly that would have impact on trade deficit • Better way: other industrial countries increase domestic spending & U.S. increase savings • Household spending down - fiscal deficit down - not cost free; time to start is now • Better for world & for U.S.

Cathy E. Minehan (2005, January 13). Regional President Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/regional_speeche_20050114_cathy_e_minehan

@misc{wtfs_regional_speeche_20050114_cathy_e_minehan,
  author = {Cathy E. Minehan},
  title = {Regional President Speech},
  year = {2005},
  month = {Jan},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/regional_speeche_20050114_cathy_e_minehan},
  note = {Retrieved via When the Fed Speaks corpus}
}