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The business situation, fourth-quarter 1985.

the BUSINESS SITUATION U.S. production registered another moderate increase and inflation picked up in the fourth quarter of 1985. Real GNP increased at an annual rate of 2-1/2 percent, following an increase of 3 percent in the third quarter. The GNP price index (fixed weights) increased at an annual rate of 4-1/2 percent, following a 2-1/2-percent increase (chart 1).

The third-quarter estimates of real GNP and GNP prices were among the revised estimates released in December in a comprehensive revision of the national income and product accounts (NIPA's). All series in the NIPA's were revised back to 1973, and many of them also were revised for earlier years to provide continuous time series. In order to place fourth-quarter developments in perspective, the following discussion describes the impact of the revisions on real GNP and GNP prices over the present economic expansion. (Although the present expansion continued in the fourth quarter of 1985, comparisons are made through the third quarter because that was the last quarter for which estimates were made on the previously published basis.)

Overall, the revisions did not substantially alter the picture of the present expansion. They did not move the trough quarter of real GNP from the third quarter of 1982, but the revised estimates do indicate that the expansion was slightly less vigorous than previously estimated. The average annual rate of increase in real GNP from the third quarter of 1982 to the third quarter of 1985 was revised down 0.3 percentage point to 4.3 percent.

Table 1 provides, in the last three columns, a decomposition of the revisions in the average annual rate of increase in real GNP into three parts: (1) The part that is due to the revision in the average annual rates of change in current-dollar estimates; (2) the part that is due to shifting the base period from 1972 to 1982; and (3) the part that is due to "other" revisions, including revisions in price indexes used in deflating current-dollar estimates and revisions in (shifts among) current-dollar component detail that, in effect, reweight the constant-dollar component detail. The downward revision of 0.3 percentage point in the average annual rate of increase in real GNP over the present expansion was more than accounted for by the shift in the base period. The current-dollar revision also contributed to the downward revision; "other revisions provided a partial offset.

The broad movements in the major components of GNP that characterize the present expansion were not greatly altered by the revision. The average annual rate of increase in personal consumption expenditures (PCE) over the period was revised down somewhat; the revision largely reflected the impact of rebasing. Investment, particularly residential, continued to show strong growth. In producers' durable equipment (PDE), the impact of a sharp downward revision in current dollars nearly offset "other" revisions, which included the incorporation of a new price index for computers. (The editor's note on page 36 of this issue introduces the articles that will present this index.) Exports were not as weak as was shown in the previously published estimates; imports were not quite as strong. The downward revision in imports was attributable to the shift in the base period; the shift gave considerably greater weight to petroleum imports, which declined over the period. Within government purchases, Federal national defense purchases continued to show a strong increase. The increase in State and local purchases was revised up, but remained below increases in most other components of GNP.

The comprehensive revision did result in a number of large revisions in quarterly changes in real GNP during the present expansion. Substantial parts of these revisions were due to corrections of the time of recording U.S. merchandise exports and imports. In particular, the two largest quarterly revisions in the annual rate of increase in real GNP--the fourth quarter of 1984 and the first quarter of 1985--were primarily due to these corrections. In the fourth quarter, the increase was revised down from 4-1/2 percent to 1/2 percent; in the first quarter, it was revised up from 1/2 percent to 3-1/2 percent. Revisions in the second and third quarters of 1985 were smaller; the second-quarter increase was revised down from 2 percent to 1 percent, and the third-quarter increase, from 4-1/2 percent to 3 percent.

The revised estimates indicate that the inflation rate was slightly lower over the present expansion than previously estimated. The average annual rate of increase in the GNP price index (fixed weights) from the third quarter of 1982 to the third quarter of 1985 was revised down 0.3 percentage point to 3.8 percent. Table 2 provides a decomposition of the revisions into two parts: (1) The part that is due to shifting the base period and (2) the part that is due to "other" revisions, including revisions in component price indexes and revisions in current-dollar component detail that, in effect, reweight the detailed price indexes. The downward revision of 0.3 percentage point in the GNP price index was accounted for by "other" revisions, primarily the incorporation of the new price index for computers in the estimates of PDE, merchandise exports and imports, and government purchases.

With the exception of nonresidential fixed investment prices, changes in the prices of the major components of GNP over the present expansion were not revised by more than 1/2 percentage point. Increases in prices paid by consumers, by residential investors, and by the Federal Government remained moderate. Export prices continued to register only a small increase, and import prices, a small decrease. The increase in prices paid by State and local governments was revised down, but remained above most other price increases.

In nonresidential fixed investment, increases in prices of both structures and PDE were revised down substantially from those shown in the previously published estimates. The revision in the price of structures reflected the shift in the base period as well as improved deflation of nonresidential buildings. The revision in PDE prices primarily reflected the incorporation of the new price index for computers.

The comprehensive revision did not result in large revisions in quarterly increases in the GNP price index during the present expansion. The only revision that was larger than 1/2 percentage point was in the first quarter of 1985, when the increase was revised down from 4-1/2 percent to 3-1/2 percent. In the second and third quarters of 1985, prices were revised down 1/2 percentage point--to 3-1/2 percent in the second quarter and to 2-1/2 percent in the third.

Real GNP: Fourth Quarter of

1985

Although real GNP increased moderately in both the third and fourth quarters, the composition of the changes was quite different. In the third quarter, final sales registered a strong increase, but business inventory investment declined sharply. In the fourth quarter, final sales were up considerably less, and inventory investment changed little.

The differences in the third- and fourth-quarter changes in GNP, final sales, and inventory investment were more than accounted for by sharp changes in motor vehicles. In table 3, the impact of motor vehicles is broken out using estimates from the NIPA auto and truck output tables. Compared with the third quarter, GNP less motor vehicles increased more in the fourth quarter, and final sales less motor vehicles increased much more. Excluding motor vehicles, inventory investment declined sharply in both quarters. Changes in final sales and in inventory investment also reflected substantial withdrawals of crops from farm inventories for placement with the Commodity Credit Corporation (CCC) under the commodity loan program; within final sales, these loans are treated as government purchases. The withdrawals accounted for most of the sharp declines in nonvehicle inventory investment in the two quarters.

Motor vehicles.--The sharp changes in motor vehicles were concentrated in autos. In terms of units, new car sales increased from 10.9 million (seasonally adjusted annual rate) in the second quarter to 12.4 million in the third and dropped to 10.3 million in the fourth (chart 2). The changes largely reflected new domestic car sales, which jumped from 8.2 million in the second quarter to 9.4 million in the third and fell to 7.0 million in the fourth. The jump in the third quarter was primarily due to auto manufacturers' sales-incentive programs that ran from mid-August through the end of September. These programs, which included below-market kfinancing and rebates, helped push sales to record levels in August and September. The fall in new domestic car sales in the fourth quarter reflected, in part, the discontinuance of the programs. Manufacturers reinstituted below-market financing in late December, but the new programs do not cover as many models and do not offer quite as low interest rates.

Sales of imported cars increased strongly from 2.7 million in the second quarter to 3.0 million in the third and to a record 3.3 million in the fourth. The gains reflected, in part, the greater availability of Japanese cars due to an increase in the voluntary limit on shipments to the United States.

In terms of units, auto manufacturers kept up a steady pace of production during the second half of 1985, so the fluctuations in sales resulted in sharp swings in inventories. Domestic car production increased to 8.0 million (seasonally adjusted annual rate) in the third quarter and to 8.1 million in the fourth. Domestic car inventories declined to 1.20 million units (seasonally adjusted) in the third quarter and increased to 1.51 million in the fourth. The unit inventory sales ratio fell from 2.1 in the second quarter to 1.5 in the third and jumped to 2.6 in the fourth.

Unit sales of new trucks increased 0.5 million to 4.9 million (seasonally adjusted annukal rate) in the third quarter and changed kdlittle in the fourth. All of the third-quarter increase was accounted for by sales of light domestic trucks, most of which were covered by the incentive programs. Sales of these trucks declined 0.2 million to 3.7 million in the fourth quarter. Sales of other domestic trucks decreased slightly to 0.28 million in the third quarter and increased to 0.31 million in the fourth. Imported trucks sales also decreased slightly, to 0.77 million, in the third quarter and increased to a record 0.81 million in the fourth.

Personal consumption expenditures

Real PCE edged down in the fourth quarter, following an increase of 4-1/2 percent in the third (table 4). A sharp decrease in durable goods offset increase in nondurable goods and in services.

Expenditures for durable goods decreased 15-1/2 percent in the fourth quarter, after increasing 24-1/2 percent in the third. The jump in the third quarter and the drop in the fourth reflected the pattern of expenditures for motor vehicles. The other major categories of durables--furniture and household equipment, and other durables--increased much more in the fourth quarter than in the third.

Nondurable goods increased 1-1/2 percent in both quarters, but the components moved very differently in the two quarters. Food decreased slightly in the fourth quarter, and clothing and shoes increased; each had moved in the opposite direction in the third. Energy increased somewhat less than in the third quarter: Gasoline and oil increased more, but fuel oil and coal dropped sharply dafter a large increase. Other nondurables increased, following a small decline in the third quarter.

Expenditures for services increased 4 percent in the fourth quarter, following a 1-1/2-percent increase in the third. A large part of the acceleration was in brokerage fees included in personal business services; these fees reflected a pickup in stock market activity by individual investors. In addition, expenditures for energy--electricity and gas--increased sharply because of unusually cold weather during December in most parts of the country.

Nonresidential fixed investment

Real nonresidential fixed investment increased 10-1/2 percent in the fourth quarter, following a 2-1/2-percent increase in the third. PDE and structures both contributed to the acceleration.

PDE increased 12-1/2 percent in the fourth quarter, following a 3-percent increase in the third. In terms of the four new categories of PDE introduced in the comprehensive revision, the fourth-quarter increase was more than accounted for by industrial equipment and by information processing and related equipment; both of these had changed little in the third quarter. In the former category, strong increases were widespread; in the latter, computers dominated. Transportation and related equipment declined sharply, following a sharp increase in the third quarter; the pattern reflected a swing in auto purchases that was only partly offset by a swing in the opposite direction in truck purchases. The other PDE category increased after a decline; the sharp swing was concentrated in agricultural and construction machinery.

Structures increased 6-1/2 percent in the fourth quarter, following a 1-percent increase in the third. About one-half of the acceleration was accounted for by commercial structures other than office buildings. The petroleum exploration category was up strongly in both quarters; public utilisties registered large declines in both.

Residential investment

Real residential investment increased 8-1/2 percent in the fourth quarter, the same as in the third. Single-family construction increased after little change, multifamily construction increased about the same, and the other component--which includes additions and alterations, major replacements, brokers' commissions, and mobile home sales--increased less.

Mortgage interest rates dropped more than 1 percentage point during the fourth quarter to 11.09 percent (chart 3). Other things equal, such a drop would reduce monthly mortgage payments by about 8 percent on a 30-year mortgage; it has been estimated that such a reduction increases the number of potential buyers who can qualify for a mortgage by 1-1/2 million. Nevertheless, the fourth-quarter drop in rates had no dramatic impact on either starts or sales of single-family units in the quarter. Starts did edge up erratically, but the gain of 32,000 units (seasonally adjusted anual rate) was less than the drop of 43,000 in the previous quarter (chart 4). Sales of existing single-family residences increased about 125,000 (seasonally adjusted annual rate) from the third quarter to October-November, but sales of new residences dropped 64,000.

Three factors may help explain why the interest rate drop did not have a more dramatic impact on housing activity in the fourth quarter. First, much of the drop occurred in the second half of the quarter--too late, perhaps, to have much effect on levels of starts and sales. Second, despite the drop, mortgage rates remained at levels that are high from a historical perspective--high enough, perhaps, to discourage some current homeowners from selling and moving up. Third, unfavorable weather conditions, especially in the East, probably discouraged housing activity.

Change in business inventories

Following a $2 billion decline in the third quarter, real business inventories were essentially flat in the fourth, reflecting large offsetting changes in farm and nonfarm inventories (table 5). The change in inventory investment contributed $2 billion to the increase in GNP; in the third quarter, it had contributed negative $17 billion. As noted earlier, most of the swing was accounted for by motor vehicles.

Farm inventories fell sharply in the fourth quarter, following a moderate decline in the third. Faced with good harvests, continued low foreign demand, and depressed prices, farmers again place substantial amounts of crops with the CCC under the commodity loan program.

Within nonfarm inventories, a sharp increase in retail trade inventories in the fourth quarter was mainly in autos. Other retail inventories increased, but less than in the third quarter. Manufacturing inventories declined even more than in the third quarter; the fourth-quarter runoff was largely in machinery. Wholesale trade inventories increased after little change; the increase was in machinery and equipment dealers' inventories.

Reflecting changes in inventories and final sales, the constant-dollar ratio of total inventories to total final sales edged down from 3.25 to 3.23, continuing the downtrend of the past several quarters.

Net exports

Real net exports of goods and services declined $8 billion in the fourth quarter, compared with a decline of $18-1/2 billion in the third. The difference was in merchandise trade, primarily in exports; services registered a small decline after little change.

Merchandise exports increased $6 billion, or 11 percent, after declining $4 billion in the third quarter. Part of the turnaround was accounted for by agricultural exports, which increased after a decline; the remainder was widespread. Industrial supplies and materials, as well as capital goods except autos, registered strong increases in the fourth quarter.

Merchandise imports increased $13 billion, or 14-1/2 percent, after a somewhat larger increase in the third quarter. The increases were spread across most major end-use categories.

Government purchases

Real government purchases were up 7 percent in the fourth quarter, following an 18-percent increase in the third. Federal national defense purchases, which often fluctuate sharply from quarter to quarter, declined slightly after a large increase in the third quarter. The pattern largely reflected deliveries of military equipment. Nondefense purchases increased strongly in both quarters; as noted earlier, farmers placed large amounts of crops with the CCC under the commodity loan program. State and local government purchases changed little, after a 4-1/2-percent increase in the third quarter; these changes were largely in structures.

The Federal sector.--Changes in current-dollar Federal receipts and expenditures on a NIPA basis are shown in table 6. Expenditures were up $31-1/2 billion in the fourth quarter, following a $28 billion increase in the third. Both defense and nondefense purchases had registered strong increases in the third quarter; defense purchases were up much less in the fourth. Transfer payments increased much less than in the third quarter, when they had been boosted $2 billion by retroactive Social Security payments. These payments result largely from the recalculation of the earnings base underlying benefits for recent retirees. Grants-in-aid also were up less than in the third quarter, primarily reflecting educational grants. Net interest paid increased, after declining in the third quarter. The turnaround largely reflected the course of short-term interest rates; the interest rate on 3-month Treasury bills leveled off in the fourth quarter, after declining in the second and third (see chart 3). Subsidies less the current surplus of government enterprises increased sharply after a decline; the swing was due to agricultural subsidy payments.

Among receipts, personal tax and nontax payments were up much less than in the third quarter, which had been affected by a delay and subsequent catchup in Federal income tax refund payments in the first half of the year. Indirect business taxes registered a moderate increase after a decline, and contributions for social insurance again increased. Estimates of corporate profits, and, thus, of corporate profits tax accruals, can be approximated by using a residual calculation of corporate profits that assumes that the statistical discrepancy in the NIPA's is the same as in the preceding quarter. On the basis of this calculation, total receipts would increase about $17 billion in the fourth quarter, and the Federal deficit on a NIPA basis would rise to about $216 billion from $201-1/2 billion in hte third quarter.

Prices: Fourth Quarter of 1985

The GNP price index (fixed weights) accelerated 2 percentage points to a 4-1/2-percent increase in the fourth quarter (table 7). A military pay raise, which in the NIPA's is treated as an increase in the price of employee services purchased by the Federal Government, accounted for 0.4 percentage pointof the acceleration. Much of the remainder was accounted paid by residential investors, by investors in nonresidential structures, and by government for other purchases also were up more than in the third quarter.

PCE prices increased 4-1/2 percent, after increasing 2-1/2 percent in the third quarter. Durable goods prices registered a small increase after a decline in the third quarter; the decline had been in automobile and furniture prices. Nondurable goods prices were up considerably more than in the third quarter. Food prices increased sharply, following three consecutive quarters of little change. Meat, poultry, and fruit and vegetable prices increased strongly in the fourth quarter; meat and poultry prices had declined in the third. Gasoline prices registered a smaller decline in the fourth quarter than in the third. The price of services was up slightly more in the fourth quarter, a housing, transportation, and medical services all registered larger increases; electricity and natural gas prices declined, providing a partial offset.

Personal Income: Fourth

Quarter of 1985

Personal income increased $59 billion in the fourth quarter, following an increase of only $18-1/2 billion in the third (table 8). The step-up was due to a stronger increase in wages and salaries, a sharp turnaround in farm proprietors' income, and a small increase after a steep decline in personal interest income.

Wage and salary disbursements were up $36-1/2 billion in the fourth quarter, $15 billion more than in the third. All of the major industry components contributed stronger increases. Government wages and salaries were boosted $2 billion in the fourth quarter by the military pay raise. Private wages and salaries picked up, as employment and average hourly earnings were up considerably more than in the third quarter; average weekly hours wree up only slightly more than in the third quarter. The fourth-quarter gain in manufacturing wages and salaries included $1-1/2 billion in special bonus payments to auto workers.

Farm proprietors' income increased $10-1/2 billion in the fourth quarter, following a $10-1/2 billion decline in the third. Over one-half of the sharp swing was due to agricultural subsidy payments. Subsidies--primarily "deficiency" payments--fell $7 billion in the third quarter and increased $5-1/2 billion in the fourth. "Deficiency" payments, which are made to farmers who reduced planted acreage, are based on the difference between legislated "target prices" and market prices. The fourth-quarter increase was mainly due to payments on the 1985 wheat crop. Farm income excluding subsidies increased in the fourth quarter after declining in the third, as livestock prices turned around and crop prices steadied, albeit at low levels. Nonfarm proprietors' income was up less than in the third quarter, reflecting retail trade and services.

Among the remaining components of personal income, personal interest income increased $1-1/2 billion, after a $10 billion decline in the third quarter. The turnaround largely reflected the course of short-term interest rates. Transfer payments were up much less than in the third quarter, primarily due to the retroactive Social Security payments. Rental income of persons was up somewhat more than in the third quarter; in each quarter, income loss due to damage to residential properties--from hurricances in the third quarter and flooding in the fourth--amounted to about $1-1/2 billion.

Personal tax and nontax payments increased $12 billion in the fourth quarter, about one-third as much as the third-quarter increase. Disposable personal income (DPI) registered a strong increase--$47 billion--in the fourth quarter, after declining in the third. Changes in personal taxes and in DPI in the third quarter, as well as in the first and second quarters of 1985, had been affected by the delay and catchup of Federal income tax refunds in the first half of the year. The following tabulation shows what the changes in these series (in billions of dollars) would be for the three quarters if the timing effect is excluded. Thus, if the effect of the timing of tax refunds is excluded, the fourth-quarter increase in personal tax and nontax payments would have exceeded the third-quarter increase by about $3-1/2 billion. The fourth-quarter increase in DPI would have exceeded that in the third by about $37 billion.

Real DPI increased 2-1/2 percent, following a 4-1/2-percent decline in the third quarter. The fourth-quarter increase was held down by the acceleration in PCE prices. Real DPI in the third quarter was affected by the timing of the income tax refunds; if this effect is excluded, real DPI would have declined 1/2 percent in that quarter.

Reflecting the sharp swings in DPI, personal saving--and the personal saving rate-fluctuated widely in 1985. The personal saving rate rose to 5.9 percent in the second quarter, dropped to a 35-year low of 3.7 percent in the third, and increased to 4.1 percent in the fourth. For the year as a whole, the saving rate was considerably lower than in 1984, when it had fluctuated between 6 and 7 percent.
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Title Annotation:includes national income and product accounts tables
Publication:Survey of Current Business
Date:Jan 1, 1986
Words:4077
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