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Economic Outlook for 2000.

Like the Mighty Mississippi, the U.S. economy is expected to continue to roll along in 2000. Have we entered a new period in the nation's history when high levels of economic growth and full employment can co-exist with low rates of inflation? Have Federal Reserve economists really learned how to fine-tune the nation's economy with well-timed adjustments in interest rates and the supply of money? How long can the nation's record-setting economic expansion continue? Will the nation's economy falter or remain strong in the first year of the new millennium?

Many of these questions are addressed in the Bureau of Business and Economic Research's (BBER) outlook for the nation's economy. In general, the BBER remains bullish on the economy in the new year. The outlook reflects a belief that the powerful momentum of the last four years will continue to drive the economy forward in 2000. Threats to economic expansion from external shocks, weak export markets, and falling prices for commodities and some manufactured goods will be offset by the continued strength of consumer expenditures. Higher interest rates will slow the housing and automobile sectors, but they will be insufficient to cause a substantial reduction in the nation's economic activity. All of these factors and more will influence the outlook for 2000.

The year 1999 was very good for the U.S. economy, and in April 2000, it will celebrate its tenth year of economic expansion. This will mark the longest period of sustained economic growth in modern U.S. history. Moreover, with the recession probability index below 10.0 percent, the majority of economic observers conclude that the American economy will prosper throughout 2000 and live on to celebrate its eleventh year of expansion in April 2001.

After weathering the Asian financial crisis in late 1998 with the help of several interest rate cuts by the Federal Reserve, the economy faced numerous other challenges during 1999. For example, there was a Russian loan default, the collapse of Long-Term Capital Management, an air war in Kosovo, and three short-term interest rate hikes by the Federal Reserve. In addition, the American economy also had to deal with growth constraints imposed by a federal budget surplus and a growing international trade deficit. So, how has the economy managed its resiliency and robustness? It has been able to maintain its robustness due to private-sector deficit consumption spending (negative savings), while it has maintained its resiliency by private-sector labor productivity gains. Output per man-hour has advanced 2.6 percent since 1996 (4.9 percent for 3rd quarter 1999), which is surprisingly good considering the length of the current expansionary cycle. While it is not yet clear what might cause the American economy to fal ter, it seems apparent that as soon as consumption spending stops expanding, relative to income growth, the growth rate for the nation's economy will slow to more sustainable levels.

For the year 2000, a gradual slowing of economic growth is premised upon moderating consumption and the dampening effects of higher interest rates, especially conventional mortgage rates. This rate has risen 111 basis points since its low of 6.71 percent in October 1998 and should rise again in response to anticipated increases in the Fed Funds rate. Other possible stumbling blocks may include another round of accelerating oil prices and much slower growth in productivity. Also, a severe bite from the Y2K bug, primarily from. overseas, could cause supply disruptions that could linger well into spring. Part of the upswing in economic growth for third quarter 1999 was attributed to stockpiling by businesses and consumers in anticipation of the Y2K threat. To a large extent, external factors, such as the U.S. trade deficit and surging global demand, will place the U.S. dollar at the forefront in the fight to keep the American economy on the path of above-trend, non-inflationary economic growth. A substantially weaker dollar would help exports, but import prices would rise. This would put upward pressure on the rate of U.S. inflation, something the Federal Reserve will be aggressively defending against during 2000.

Personal consumption expenditures have provided the backbone for the continued strength of the American economy. Consumer confidence has inched upward during 1999, but remains slightly below levels posted at the beginning of 1998. Household indebtedness reached a record high during 1999, and the personal savings rate fell. This negative saving is averaging approximately $62 billion annually based upon the first two quarters of 1999. But, neither appears to have reached a level that threatens to bring a significant halt to consumers' willingness to make purchases. However, future expenditures are anticipated to recede from the torrid pace of 1998 and 1999 and move back into line with income growth. For 2000, income growth is expected to remain robust at 3.1 percent, in inflation-adjusted terms, slightly below the 1999 gain.

Buoyancy in the stock market and the housing sector has made consumers "wealthier" in 1999 than ever before. Rising net worth has allowed households to increase their debt and reduce their savings while maintaining a heightened level of confidence in the future. The idea of postponing current consumption for future consumption (savings) appears to be obsolete in the 1999 economy. But, investments in deferred income and stock programs are at record levels and offset reductions in traditional forms of savings. Household money balances are seeking the highest return possible, and the idea of a safe, low-yield, rainy-day cash reserve is no longer a necessity. In the 2000 economy, consumers are expected to bring their debt loads down to a more manageable level. Barring a dramatic decline in the equity or housing markets, the wealth effect will support continued consumer confidence and willingness to spend in 2000.

During 1999, business investment spending continued to provide positive stimulus to the economy, averaging nearly 10.0 percent growth for the last four years. Increased spending to reach Y2K compliance boosted Gross Domestic Product (GDP) growth, but this surge is not expected to carry over into next year. However, government estimates for business spending on software are now being included in investment spending, enabling a more accurate estimate of business technology expenditures. In addition, lower interest rates early in 1999 contributed to robust corporate profits by lowering interest payments. Interest rate payments accounted for approximately one-third of the growth in profits. Meanwhile, productivity continued to advance, coming close to the productivity gains recorded during the soaring 1960s. Sustaining such productivity growth could mark a structural change in the American economy that would support a higher economic growth trajectory.

American corporations are expected to face some difficult challengers during the year 2000. Entering the fourth year with an unemployment rate under 5.0 percent (4.1 precent in October 1999), businesses will be under increasing pressure to raise wages in retain and attract workers. Meanwhile, the cost of capital has been inching upward, with the corporate AAA bond rate 117 basis points higher than since the beginning of 1999. Also, businesses will have limited pricing flexibility due to excess capacity and stiff competition. The main concern is how much higher interest rates can rise before they begin to squeeze corporate profit margins, reduce spending, and slow the economy.

The year 2000 will likely mark the third straight year the federal government will run a budget surplus. Current estimates put the surplus at $98.8 billion for FY99. The mid-November end to the congressional budget wars signaled that future surpluses would be sustainable. Expenditures were curtailed with a marginal across-the-board cut. And, revenue growth was not compromised by a substantial tax cut which the President vetoed during the summer. Most of the current surplus was used to shore up current programs, promising more teachers and policemen, with some of the harder questions left unresolved, such as restructuring Social Security and Medicare. It should be noted that any Congressional move to cut taxes, while politically popular, would only stimulate the economy--a move counter to the actions of the Federal Reserve.

With 2000 a presidential election year, consumers and businesses will more likely focus on monetary policy rather than fiscal policy. Any major fiscal policy changes, such as a tax cut, will probably be deferred until after the elections. Interest rate actions (1 25-basis-point increase in the spring) by the Federal Reserve will allow consumers and businesses to maintain their confidence and willingness to spend throughout 2000. Congressional rhetoric in favor of tax cuts will most likely remain election-year posturing since the economy does not need the stimulus provided by a tax cut.

While the U.S. economy weathered several international shocks during 1999, it remained the locomotive of global demand. Recession in numerous third world countries and sluggish growth in Europe kept the dollar up and import prices down. This has given the U.S. expansion longer staying power than otherwise would have been the case. The main concern entering the new millennium is that further expansion of the U.S. trade deficit will increase downward pressure on the dollar, resulting in upward pressure on U.S. prices. A weaker dollar, coupled with increasing world demand, would boost U.S. exports, but not enough to offset the seemingly endless U.S. demand for imports.

Barring a dramatic slowdown in consumer spending (slowing import growth), the renewed strength in the world economies will likely siphon off some investment in U.S. assets at a time when the U.S. needs an increasing amount of foreign capital to help balance its record payment obligations overseas. This imbalance could pressure the Federal Reserve to raise domestic interest rates to attract foreign capital back to U.S. shores. However, at some point, higher U.S. interest rates would adversely affect U.S. consumers and businesses and possibly push the economy into a dramatic slowdown.

International developments during 2000 will present both opportunities and challenges for the U.S. economy. In the Asian trading zone, Japan has initiated a new program of fiscal stimulus, and China continues to express a willingness to open its economy by joining the World Trade Organization. Increased demand from Japan and China will boost U.S. exports, but the size of the U.S. trade deficit with these countries will likely remain a drag on the U.S. economy for many years. However, some currency adjustments are anticipated. By late 1999, the Japanese yen was considered "undervalued" relative to the dollar, while the Chinese renminbi was considered "overvalued." Within the North American trading zone, Canada and Mexico are anticipated to record higher growth and lower inflation during 2000, placing them in a better position to attract foreign investment at the expense of the U.S. As for the Euro zone, slower economic growth and looser money growth has weakened the Euro against the dollar. However, the Europ ean Central Bank cut interest rates last May to help stimulate economic activity. Meanwhile, the Federal Reserve has been inching interest rates upward since June to forestall an overheating of the American economy. Renewed Euro zone growth, while maintaining its low inflation environment, could challenge the U.S. economy's position as the world's best investment environment.
 2000 Forecast for the U.S. Economy
 Real GDP Unemployment Employment
Year (96$) CPI Rates Costs
1995 2.7% 2.8% 5.6% 3.0%
1996 3.7 3.0 5.4 2.8
1997 4.5 2.3 4.9 3.0
1998 4.3 1.6 4.5 3.4
[1999.sup.Consensus] 3.8 2.2 4.3 3.3
[1999.sup.BBER] 3.9 2.1 4.3 3.2
[2000.sup.Consensus] 3.1 2.6 4.3 3.7
[2000.sup.BBER] 3.5 2.4 4.4 3.3
Source: Consensus Forecasts- USA; November 1999 and the BBER.
 2000 Forecast for Consumers and Businesses, Average
 Percent Change on Previous Calendar Year
 Real Real Real Nominal Pre-
 Personal Disposable Business Tax Corporate
Year Consumption Income Investment Profits
1995 3.0% 2.7% 9.8% 16.7%
1996 3.3 2.6 10.0 12.8
1997 3.7 3.6 10.7 11.1
1998 4.9 4.1 12.7 1.0
[1999.sup.Consensus] 5.1 3.7 9.2 5.3
[1999.sup.BBER] 5.2 3.8 9.3 6.0
[2000.sup.Consensus] 3.2 3.0 8.2 3.3
[2000.sup.BBER] 3.5 3.3 10.0 5.0
Source: Consensus Forecasts- USA; November 1999 and the BBER.
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Article Details
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Author:Alvarado, B. Lewis; Gnuschke, Dr. John
Publication:Business Perspectives
Article Type:Statistical Data Included
Geographic Code:1USA
Date:Dec 22, 1999
Previous Article:Memphis: The Year in Review, The Year in Preview.
Next Article:Economic Growth Marches On Into New Millennium.

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