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Thursday, November 15, 2007

FRBSF: The Economic Outlook

John Williams of the San Francisco Fed uses twelve graphs to illustrate and support his view of the current economy and the economic outlook:

FedViews, by John Williams, Economic Outlook, FRBSF: Conditions in money markets continue to improve following the turmoil of August and September.


The spread between the one-month LIBOR rate and the comparable maturity Overnight Indexed Swap (OIS) rate is now about 20 basis points, well below the peak of about 90 basis points reached two months ago.  Similarly, the spread between rates on second-tier A2/P2 nonfinancial commercial paper and AA commercial paper has declined to about 30 basis points.  Still, these spreads remain above the levels seen in July.


Securitization of jumbo loans remains impaired and the spread between so-called “jumbo” and conforming fixed-rate mortgages has come down only modestly since the peaks of August and early September. 


The housing slump has deepened further.  Sales of existing homes fell 8 percent in September and are down 19 percent over the past 12 months.  New-home sales rebounded in September, but are still down 23 percent over the past year.  Inventories of new and existing homes for sale are at high levels, putting downward pressure on house prices and building.


House prices in ten metropolitan areas fell on average about 5 percent in the 12 months through August, according to the Case-Shiller Index.  Futures contracts on this index imply investors expect house prices in these cities to decline about 8 percent over the next 12 months.


With demand soft and supply plentiful, housing starts plummeted 10 percent in September, bringing the year-over-year decline to over 30 percent.  Housing permits likewise are in a deep descent, falling 7 percent in September and down 26 percent over the past year.


Despite the bad news in the housing market and the turmoil in financial markets, consumers continued to spend in September.  More recent data, however, suggest consumers may be tightening their grips on their pocketbooks.  Sales of motor vehicles ticked down in October.  Readings of consumer confidence and sentiment have moved down considerably over the past few months. Moreover, the recent surge in energy prices should damp consumption in coming months.


Growth in the manufacturing sector has slowed, reflecting weakness in the automotive and building sectors.  Manufacturing output rose a modest 0.1 percent in September after declining 0.4 percent in August.  The Institute of Supply Management new orders index has softened in recent months. Indicators of business investment, however, have picked up of late.


The advance estimate showed real GDP grew 3.9 percent in the third quarter. Strength in consumer and business spending and exports outweighed the sharp decline in spending on residential investment.  Data released since the GDP numbers came out suggest that third-quarter growth will be revised up to about 5 percent.  Some of the factors that boosted growth last quarter are unlikely to persist, implying some “payback” effect in the fourth quarter.  In addition, the effects of higher energy prices and a sharper decline in spending on residential investment should both drag GDP growth down to an anemic 1 1/4 percent in the current quarter.

Looking further ahead, weakness in the housing market and the effects of falling house prices on household wealth and spending point to below-trend growth of a little over 2 percent next year.   This forecast is subject to a great deal of uncertainty and depends in particular on the evolution of credit and financial conditions and developments in housing markets.


The labor market remains strong.  Nonfarm payrolls added a solid 166,000 jobs in October, well above the pace of about 100,000 jobs per month of the past few months.


The unemployment rate was unchanged at 4.7 percent and is about equal to conventional estimates of the natural rate of unemployment.  Other indicators of labor market conditions are consistent with this view.


Oil prices reached all-time highs in response to concerns over supply and strong demand.  Prices of futures contracts show oil prices coming back down gradually over the next few years, but remaining over $80 a barrel.  The nominal exchange value of the dollar has fallen about 12 percent over the past year.  Both of these developments pose risks to the outlook for inflation.


Nonetheless, core measures of consumer price inflation have been well contained.  The core personal consumption expenditure (PCE) price index (i.e., excluding food and energy) increased 1.8 percent in the 12 months through September.  A sustained rise in food prices pushed the headline PCE price inflation rate to 2.4 percent over the same period.  The recent rise in energy prices will likely cause headline inflation to pick up in the next few months.  Still, with oil prices expected to come back down, headline inflation should moderate to a level in line with core inflation.

    Posted by on Thursday, November 15, 2007 at 12:24 AM in Economics, Monetary Policy | Permalink  TrackBack (0)  Comments (9)


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