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The business situation.

REAL GNP, a measure of U.S. production, increased at an annual rate of 1'12 percent in the second quarter, following an increase of 3 1/2 percent in the first. After allowance for the rebound from the 1988 drought, which added roughly 2 percentage points to first-quarter growth, the increase in GNP was about the same in both quarters and less than one-half as big as the increases in the second half of 1988 (table 1). Prices increased at approximately the same rate in the second quarter as in the first-about 5 percent for the GNP price index and 51/2 percent for the price index for gross domestic purchases; the increases in both price measures were somewhat larger than in the second half of last year.1 First-quarter estimates of real GNP and other components of the national income and product accounts (NIPA's) have been revised as part of the regular annual revision presented in this issue. Real gross domestic purchases, a measure of U.S. demand, inereased 1 1/2 percent in the second quarter, follow-

ing a 2-pereent increase in the first. The milder slowdown in U.S. demand than in U.S. production reflected the fact that net exports increased much less in the second quarter than in the first. (Exports increased only a little less than in the first quarter, but imports surged after a slight decline.)

Although gross domestic purchases increased less in the second quarter than in the first, final sales to domestic purchasers increased more. These divergent movements reflected a decline in inventory investment in the second quarter after an increase in the first. The second-quarter decline was more than accounted for by farm and motor vehicle inventories; investment in other inventories increased. Changes in farm inventory investment (and in net purchases by the Commodity Credit Corporation, or CCC) reflected the pattern of the 1988 drought's impact, as explained later in the discussion of inventory investment. The drop in motor vehicle inventory investment was the consequence of flat production and an upswing in sales.

Motor vehicles.-Motor vehicle output was unchanged in the second quarter after a slight decline in the first; total real final sales (sales to domestic purchasers plus net sales to foreigners) increased $9 billion after an $8 billion decline.

In units, domestic car production was unchanged at 7.1 million seasonally adjusted annual rate) in the second quarter after declining 0.4 million

in the first.2 After increasing production early in the second quarter, manufacturers cut it late in the quarter in response to the weakening effectiveness of enhanced sales-incentive programs introduced in early April. The programs, designed to boost sales that had fallen throughout the first quarter, covered most vehicle models and offered lower interest rates or larger rebates than those previously offered.

Car sales jumped in April but fell in May and June. For the quarter, domestic car sales increased 0.3 million units, to 7.3 million, following a decline of 0.5 million units in the first quarter. Inventories increased slightly to 1.73 million, following a larger increase; the inventory-sales ratio edged down slightly to 2.8-still wen above the ratio considered desirable by the industry.

Sales of imported cars rebounded 0.2 million units, to 3.0 million, in the second quarter, following a decline in the first. The increase was due in part to incentive programs offered by some for-

eign manufacturers attempting to compete with domestic manufacturers' programs. Inventories of imported cars declined from the record level reached at the end of the first quarter.

Unit sales of new trucks increased slightly after a first-quarter decline. Both domestic and imported trucks contributed to the inerease. Many truck models were included in the sales-incentive programs. In the second quarter, sales of domestic trucks were 4.4 million, and sales of imported tracks were 0. 5 million. Truck inventories increased less in the second quarter than in the first.

Components of Real GNP

All major components of real GNP decelerated in the second quarter except nonresidential investment specifically, producers' durable equipment) and government purchases (largely CCC purchases and national defense purchases). As already mentioned, inventory investment declined and net exports slowed. Personal consumption expenditures decelerated for the third consecutive quarter, and residential investment declined more in the second quarter than in the first. Personal consumption expenditures

Real personal consumption expenditures (PCE) decelerated to a 1-percent increase in the second quarter after decelerating to a 2-percent increase in the first. The secondquarter increase was the smallest since the fourth quarter of 1987 (when PCE declined l/2 percent). Food purchases (in nondurables) more than accounted for the slowdown in the second quarter; energy purchases (in nondurables and services) had accounted for the slow- down in the first.

The decelerations in PCE in the first two quarters followed a slight slowing in the fourth quarter of 1988. This pattern of deceleration is difficult to reconcile with many of the factors usually considered in analyses of consumer spending. Real disposable personal income growth did slow in the second quarter, but this followed several quarters of strong growth. Consumer confidence (as measured by the Index of Consumer Sentiment prepared by the University of Michigan's Survey Research Center) declined in two of the last three quarters, but the declines

still left the index at very high levels. Nor do labor market conditions appear to have been behind the weakening of consumer spending: From its lowest level in 14 years, 5.5 percent in the second and third quarters of 1988, the civilian unemployment rate declined further, to 5.1 percent in the first quarter of 1989, before edging up to 5.2 percent in the second quarter.

Even if these developments could be interpreted as explaining the recent weakness in PCE, it is hard to see how they could be related to expenditures on energy and food, the two items in which the weakness was most apparent. This same point would apply to the argument that consumers are satiated after a long spending binge and want to augment their savings. Most analysts would probably expect consumer durables to take the brunt of such a retrenchment in spending, not energy and food.

With regards purchases of energy, it seems likely that part of the firstquarter decline reflected reduced demand for home heating during a warmer-than-usual winter. In the second quarter, purchases of energy were unchanged, despite a 3 1/2-pereent increase in PCE energy prices.

With regards purchases of food, the second-quarter decline of 7 1/2 billion was by far the largest drop for this component than at any other time in the current expansion. The decline was probably due in part to a sharp (8- percent) increase in PCE food prices, but even larger price increases occurred earlier in the expansion without precipitating such a steep drop in purchases. (It should be noted, perhaps, that a drop in constant-dollar food purchases does not necessarily imply a drop in the physical quantity of food purchased and consumed. A drop in purchases may reflect a shift from higher priced foods to lower priced foods or a shift from meals purchased in restaurants to meals prepared and consumed at home.)

Finally, with regards purchases of both energy and food, it is extremely rare for purchases of these staples to exhibit weakness for more than one or two quarters; they generally rebound quickly.

PCE for durable goods and services shows no clear a pattern over the past few quarters. Durable goods declined in the first quarter and increased in the second, reflecting similar movements in motor vehicles and parts. Excluding motor vehicles and parts, PCE

durables increased 5V2 percent in both quarters.

Expenditures for services increased 3 1/2, percent in both the first and second quarters. Excluding energy, PCE services increased 41/2 percent in the first quarter and 3/2 percent increase in the second.

Nonresidential fixed investment

Real nonresidential fixed investment increased 71/2 percent in the second quarter, slightly more than in the first. Structures declined 10 percent after a 1-percent decline, but producers' durable equipment (PDE) increased 13 1/2 percent after a 9 1/2- percent increase. The second-quarter weakness in structures was concen-

trated in commercial buildings; in the first quarter, oil well drilling had more than accounted for the decline. Information processing equipment, which accounts for about one-half of PDE, aecounted for about three-fourths of the increase in PDE in the second quarter; the only major category of PDE to decline was industrial equipment (after seven consecutive quarterly increases). Autos more than accounted for the increase in transportation equipment.

Factors that are typically considered in analyses of business investment present a mixed picture for future investment. On the one hand, business sales have increased slowly in recent quarters, and capacity utilization (which had been increasing steadily) slipped slightly in the first and second

quarters, and corporate profits tumbled in the first quarter. On the other hand, newly approved capital appropriations for 1,000 manufacturing corporations (and the backlog of capital appropriations) registered further substantial increases in the second quarter, and long-term interest rates declined. Residential investment

Real residential investment declined 13 1/2 percent in the second quarter, following a 5-percent decline in the first. Single-family construction more than accounted for the second-quarter decline. In multifamily construction, a fourth consecutive quarterly increase accompanied a declining rental vacancy rate; in the "other" component (which includes additions and alterations, major replacements, mobile home sales, and brokers commissions), a small decline reflected a drop in commissions.

In the second quarter, the drop in single-family construction reflected drops in single-family starts in the first and second quarters. Starts declined 68,000 (seasonally adjusted annual rate) in the first quarter and 76,000 in the second (chart 2). Building permits for single-family construction also declined by similar amounts. The declines in actual and prospective construction are consistent with declining sales activity. Sales of new and existing houses declined 204,000 in the second quarter after a decline of 349,000 in the first. At June sales rates, the unsold inventory of new houses amounted to 7 months supply. Higher house prices partly offset the effect of lower mortgage interest rates (chart 3).

Inventory investment

Real inventory investment-that is, the change in business inventories- declined $22 billion in the second quarter, as inventory accumulation slipped to $22 billion from 241/2 billion in the first quarter. In contrast, inventory investment had increased $6 billion in the first quarter. The downswing was more than accounted for by farm inventories.

Farm inventories increased 2 1/2 billion in the second quarter, following an increase of $7 1/2 billion in the first quarter and a decline of $131/2 billion in the fourth. The fourth- and firstquarter changes reflected BEA's allocation of the impact of the 1988 drought.

In the fourth quarter, farmers maintained market sales in the face of a drought-depressed level of output by drawing down inventories. With the first-quarter rebound of farm output to a level not affected by the drought, inventory liquidation gave way to modest accumulation. In the second quarter, as inventories increased further, transactions with the CCC swung from net redemptions to net placements.

Nonfarm inventories increased $19 1/2 billion in the second quarter, somewhat more than in the first quarter but much less than in the second half of 1988. The second-quarter pick-up was in nondurables manufacturing and durables wholesale trade inventories. Retail trade inventories increased slightly, as accumulation of nondurables more than offset liquidation of durables; auto dealers' inven-

tories declined after three quarters of substantial increase, and other retail durables declined for the second consecutive quarter. 3

The constant-dollar ratio of total inventories to total final sales was un-

changed at 3.05; the ratio has been in the range of 3.05 to 3.07 since the first quarter of 1988. Net exports

Real net exports increased 2'/2 billion in the second quarter, following a $19 billion increase in the first. All of the slowdown was in net exports of merchandise; net exports of services declined the same amount in both quarters.

Merchandise exports increased $11 1/2 billion (or 13 percent) in the second quarter after increasing $14 billion (or 16 1/2 percent) in the first. Agricultural exports accounted for the slowdown, reflecting a decline in wheat shipments. Nonagricultural exports increased at the same rate in both quarters; all major end-use categories increased in the second quarter except autos and other," both of which registered very small declines.

Merchandise imports increased $8 billion (or 7 percent) in the second quarter after declining $6 billion (or 5 percent) in the first. Both petroleum and nonpetroleum imports contributed to the turnaround, but the contribution of petroleum imports was much larger. Within nonpetroleum imports, consumer goods registered the largest upswing.

Exports of services increased $3V2 billion and imports of services increased $5 billion. In both cases, the increases were slightly less in the second quarter than in the first, and both slowdowns were more than accounted for by investment income.

Government purchases

Real government purchases increased $8 billion (or 4 percent) in the second quarter, following a decline of $6 1/2 billion (or 3 1/2 percent) in the first. A turnaround in Federal Government purchases reflected upswings in both defense and nondefense purchases; State and local government purchases increased slightly more in the second quarter than in the first quarter.

Federal defense purchases increased 11/, billion, following a decline of $7 billion in the first quarter. The upswing was in all categories of defense purchases except military hardware, which declined in both quarters.

In Federal nondefense purchases, CCC inventories increased $1 billion in the second quarter after being drawn down for eight consecutive quarters. The swing largely reflected net placements of corn and soybeans with the CCC under the commodity loan program. Federal nondefense purchases excluding CCC inventory purchases declined slightly in the second quarter after little change in the first.

In State and local government purchases, purchases other than structures continued to increase at a modest rate; structures declined again.

Prices

Increases in GNP prices and in gross domestic purchases prices have been in the range of 4 1/2 to 5 1/2 percent for five consecutive quarters. In the first and second quarters, GNP prices were up 5 percent and gross domestic purchases prices were up 5 1/2 percent.

The first-quarter increases in each of these price measures was boosted 0.5 percentage point by the combined effect of (1) a 4.1-percent pay raise for Federal Government employees and (2) an increase in the Federal Government's contributions as an employer-for social insurance programs. (Such increases in employee compensation are treated in the NIPA's as an increase in the price of employee services purchased by the Federal Government.)

The higher increases in gross domestic purchases prices than in GNP prices in the first and second quarters reflected a recent upsurge in the price of imported petroleum. (Changes in import prices are reflected directly in the price index for gross domestic purchases but not in the GNP price index.)

Imported petroleum prices jumped 115 percent in the first quarter and 92 1/2 percent in the second, following five consecutive quarterly declines. Prices of "other" merchandise imports increased 2.6 percent in the first quarter and declined 1.3 percent in the sec-

ond, as prices of autos and of capital goods (except autos) drifted down.

PCE prices jumped 6 1/2 percent in the second quarter, following two quarters of 5-percent increases. The stepup was more than accounted for by food and energy prices; "other" PCE prices were up a little less in the second quarter than in the first. Food prices increased 8 percent after a 5 1/2-percent increase; the pickup was largely in prices of meat, eggs, and vegetables. Energy prices surged 31 1/2 percent, as prices of gasoline and oil increased sharply after a small increase; prices of electricity and gas changed little after a moderate increase. "Other" PCE prices slowed slightly to a 4-percent increase; the slowdown was largely in prices of durable goods, particularly in autos and in furniture and equipment.

Among other components of final sales, prices of fixed investment slowed slightly to a 4 1/2-percent increase in the second quarter; a deceleration in PDE prices was largely traceable to trucks and autos. Prices of government purchases slowed sharply to a 3 1/2-percent increase; one-half of the deceleration was attributable to the effect of the first-quarter Federal pay raise and increased payments of social security taxes by the Federal Government for its employees.

Personal Income

Personal income increased $78 1/2 billion in the second quarter, following a 132 1/2, billion increase in the first.

Nearly all of the major components of personal income contributed to the deceleration. Personal saving declined slightly after a substantial increase.

Wage and salary disbursements increased $46 billion in the second quarter, $9/2 billion less than in the first. Government wages and salaries, which had been boosted 4 1/2 billion in the first quarter by a pay raise for Federal Government and Postal Service employees, accounted for almost one-half of the deceleration. In private wages and salaries, the deceleration was concentrated in manufacturing, where average weekly hours declined and employment and average hourly earnings increased less in the second quarter than in the first.

Farm proprietors' income declined 6'/,- billion in the second quarter, following a $27 billion increase in the first. Federal agricultural subsidy pay-

ments declined in both quarters. Farm proprietors income excluding subsidies declined $1 1/2 billion after a 28'/2 billion jump. The second-quarter decline was largely due to lower farm product; the first-quarter jump reflected a sharp increase in crop prices and the return of farm output to a level not affected by the drought. Nonfarm proprietors' income increased somewhat less in the second quarter than in the first, reflecting slowdowns in construction and retail trade.

Transfer payments increased $1 0 billion, considerably less than in the first quarter. In the first quarter, cost-of-living increases in social security and several other Federal retirement and income support programs, as well

as retroactive payments to recent retirees, had added $13 billion to the increase.

Among the remaining components of personal income, increases in other labor income and personal dividend income were similar to those in the first quarter. Rental income declined for the third consecutive quarter. Personal interest income increased somewhat less than in the first quarter; the slowdown reflected declines in interest rates.

Personal contributions for social insurance, which are subtracted in deriving the personal income total, increased considerably less than in the first quarter when several program changes had added $6 billion.

Personal tax and nontax payments increased $23 1/2 billion in the second quarter, following a 30 1/2 billion increase in the first. The effects of the Tax Reform Act of 1986 boosted payments in both quarters-$8 billion in the second quarter and $18 billion in the first-as taxes were paid on income that had been deferred in earlier periods.

Disposable personal income (DPI) increased $55 billion (or 6 percent) in the second quarter, compared with a $102 billion (or 12-percent) increase in the first. Reflecting this slowdown and the pickup in PCE prices, real DPI increased 1/2 percent after a 6/2-percent increase in the first quarter.

Personal outlays increased about the same amount in both quarters; thus, the deceleration in current-dollar DPI

carried through to personal saving, which declined after a substantial increase. The personal saving rate

dipped 0.2 percentage point to 5.4 percent, interrupting a three-quarter uptrend.
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Title Annotation:second quarter of 1989
Publication:Survey of Current Business
Date:Jul 1, 1989
Words:3290
Previous Article:Constant-dollar inventories, sales, and inventory-sales ratios for manufacturing and trade.
Next Article:The U.S. national income and product accounts: revised estimates; annual 1986-88 and quarterly 1986:I - 1989:I.
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