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DOMESTIC ECONOMIC CONDITIONS

DOMESTIC ECONOMIC CONDITIONS. Jeff Fuhrer Director of Research Federal Reserve Bank of Boston Equipment Leasing and Finance Association Credit and Collections Management Conference June 12, 2007. Overview. Monetary policy is balancing risks Risk of a slowing real economy

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DOMESTIC ECONOMIC CONDITIONS

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  1. DOMESTIC ECONOMICCONDITIONS Jeff Fuhrer Director of Research Federal Reserve Bank of Boston Equipment Leasing and Finance Association Credit and Collections Management Conference June 12, 2007

  2. Overview • Monetary policy is balancing risks • Risk of a slowing real economy • Although there are some upside risks to growth as well • Risk that inflation will remain a bit elevated • Risks to spending • Effects of the housing slowdown • Slower business investment? • Stronger consumer spending? • Inflation risks • Recent data have been reassuring • But it’s too early to say that success has been achieved • High resource utilization is a potential risk for inflation

  3. The good news: Much of the economy is doing well • Most sectors • Particularly consumer spending, net exports • The exceptions • Housing • Uncertainty about investment in equipment and software

  4. … as has growth in labor income, supported by continued employment growth Consumer spending: Slowing, but still growing Improvements in net worth and income have supported consumer spending … … including continued improvements in housing equity

  5. Overall, consumers are well-positioned to continue spending in 2007-8

  6. Recent declines in the dollar will also support U.S. exports. Sources: Bureau of Economic Analysis, IMF, Federal Reserve, FRBB Calculations What’s doing well: Net exports U.S. export growth will be boosted by sustained strength in our trading partners

  7. Builders still have a large stock of unsold homes to move Months’ supply of new homes for sale at current sales rate The Risks: Housing Housing sales have fallen 30% from their peak … …prompting reductions in construction

  8. The Risks: 1. Housing The housing correction has resulted in limited spillovers to the rest of the economy to date Still, house prices have yet to decline nationally If they did, that would be the “other shoe” dropping • Consumer spending remained robust even as housing plummeted • Employment growth has been strong Sources: Census, OFHEO, National Association of Realtors, FRB

  9. MA prices slowed earlier than some other regions Price increases have slowed, albeit with significant regional variation. Source: Office of Federal Housing Enterprise Oversight, FRBB Calculations

  10. Foreclosures initiated in quarter as a percentage of loans – RI, through Q4-06 It’s happened earlier in RI, perhaps because prices turned down earlier MUCH recent attention has focused on the unraveling of the subprime mortgage market Foreclosures initiated in quarter as a percentage of loans – US through Q4-06 US RI Source: Mortgage Bankers Association Implications: (1) Some homeowners will suffer; (2) Subprime mortgages hard to get (3) Macro effects: Limited spending effect or financial spillover due to market segmentation

  11. Weak capital spending is a bit of a puzzle, as underlying supports for investment still appear solid The risks: 2. Capital spending has been weaker than expected. Global Insight Forecast for Real spending on Equipment and Software

  12. Possible explanations for slowing capital spending • Capital spending shifting overseas • Capital spending is slow in sectors with slow employment growth (doesn’t seem to explain much) • Capital spending was associated with a one-time improvement in technology The boom is over now?

  13. Capital installed domestically Capital installed abroad c d a b Servicing U.S. markets Servicing foreign markets Foreign producers • What’s happening? • c decreasing because domestic demand weak? • a increasing, raising share in total capital spending? • b substituting for c? • a substituting for d? • Import substitution (foreign producers)

  14. Most of the surprise came in high-tech investment goods Predicted exceeds actual over past 3-4 years

  15. Unemployment is low and actual output is near potential, posing some upside risk to inflation. Sources: Department of Energy, Bureau of Labor Statistics The Risks:3. Inflation may not moderate as expected The expected moderation in inflation is not compelling in the data yet *s indicate trends without March data

  16. Summary • Risks to the real economy • Key downside risks • Housing sector, capital spending • But some upside risk too • Consumer spending is projected to slow quite a bit, with a rise in the saving rate • The rise in savings doesn’t have to happen • Risks to inflation as well • Recent data do not conclusively show a downtrend in inflation • The economy is at or near full employment • Policy is attempting to balance these risks at its current setting

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