Greenbook/Tealbook

Prefatory Note

The attached document represents the most complete and accurate version available based on original copies culled from the files of the FOMC Secretariat at the Board of Governors of the Federal Reserve System. This electronic document was created through a comprehensive digitization process which included identifying the bestpreserved paper copies, scanning those copies, 1 and then making the scanned versions text-searchable. 2 Though a stringent quality assurance process was employed, some imperfections may remain. Please note that this document may contain occasional gaps in the text. These gaps are the result of a redaction process that removed information obtained on a confidential basis. All redacted passages are exempt from disclosure under applicable provisions of the Freedom of Information Act.

1

In some cases, original copies needed to be photocopied before being scanned into electronic format. All scanned images were deskewed (to remove the effects of printer- and scanner-introduced tilting) and lightly cleaned (to remove dark spots caused by staple holes, hole punches, and other blemishes caused after initial printing). 2 A two-step process was used. An advanced optimal character recognition computer program (OCR) first created electronic text from the document image. Where the OCR results were inconclusive, staff checked and corrected the text as necessary. Please note that the numbers and text in charts and tables were not reliably recognized by the OCR process and were not checked or corrected by staff.

CONFIDENTIAL (FR) FOMC CLASS II

November 10,

SUPPLEMENT CURRENT ECONOMIC AND FINANCIAL CONDITIONS

Prepared for the Federal Open Market Committee

By the Staff Board of Governors of the Federal Reserve System

1994

TABLE OF CONTENTS

Page THE DOMESTIC NONFINANCIAL ECONOMY

Producer prices. . . . . . . . Consumer sentiment . . . . . . Claims . . . . . . . . . . . .

. . . . . . . . . . . . . . . . . . . . . . . .

. .

.

2

Tables Recent changes in producer prices. .. Recent changes in producer prices-relative contribution . . . . . . . University of Michigan Survey Research Survey of Consumer Attitudes . . .. . . Unemployment insurance benefits. .

. .

.

.

. . 3

. . . . Center:

3 4

.

.

.

.

.

.

5

Charts .

.

.

.

...

Senior Loan Officer Opinion Survey

.

.

.

.

Unemployment insurance ..

.

.

.

.

..

THE FINANCIAL ECONOMY .

.

.

..

Tables

Commercial bank credit and short- and intermediate. . . . . . . . term business credit Selected financial market quotations . . . . . . . .

.

6

SUPPLEMENTAL NOTES

THE DOMESTIC NONFINANCIAL ECONOMY Producer Prices The PPI for finished goods fell 0.5 percent in October with all three major commodity groups contributing to the decline

Food

prices edged down 0.2 percent; energy prices dropped 1 2 percent; and the PPI excluding food and energy fell 0.5 percent

Lower

prices for gasoline and fuel oil pulled down the energy index, while the drop in food prices reflected declines for fresh fruits, fish, and meat The 0.5 percent decline in the PPI excluding food and energy in October reflected a 2.9 percent plunge in the price of motor vehicles.1

Seasonal adjustment of motor vehicle prices is

2 especially difficult around this time of year 2It is standard practice for the BLS to switch to pricing new model year vehicles in October

That is, the September PPI is based on end-of-year prices

for last year's model

-which may or may not be discounted--while the

October PPI is based on prices for new models typically at full price. Excluding motor vehicles, as well as food and energy, the PPI increased 0.1 percent in October

-about in line with the average

monthly changes in the core PPI over the past year The PPI for intermediate materials other than food and energy rose 0.7 percent in October

the fifth consecutive month of

increases of 0.4 percent or more.

1 On a not seasonally adjusted basis, prices of motor vehicles jumped 4.7 percent (not annual rate) last month. 2 The extent of this problem is suggested by the fact that the seasonally adjusted index for motor vehicles rose 6.2 percent (not at an annual rate) during the first ten months of the 1994 model year but fell 3.4 percent in the past two months.

Consumer Sentiment The Michigan index of consumer sentiment fell slightly in early November

with declines in both the index of current conditions and

the index of expected conditions.

Despite the deterioration, the

level of the overall index remains in the high end of the range seen over the past four years Results for questions not included in the overall index were mixed in early November dropped sharply

The index of home buying conditions

with many more respondents saying that it is a bad

time to buy a house because of high prices or high interest rates. The home buying index is currently at its lowest level in more than two years.

Households' appraisals of car and appliance buying

conditions also deteriorated a bit in early November

In contrast

perceptions of labor market conditions improved somewhat

as more

respondents reported that they expected unemployment to fall over the next 12 months The mean value of expected inflation over the coming year rose 0.4 percentage point to 4.3 percent and the median value increased 0.2 percentage point to 3.2 percent in early November However

the mean and median values of expected inflation over the

next five to ten years declined to their lowest values since 1990, when the survey began to include these questions on a regular basis The mean value fell 0.5 percentage point to 4.1 percent; the median value fell 0.1 percentage point to 3 1 percent Claims Initial claims for unemployment insurance rose to 335,000 during the week ended November 5. little changed at 331,000.

The four-week moving average was

The level of insured unemployment edged

up to 2.63 million during the week ended October 29. charts)

(Table and

RECENT CHANGES IN PRODUCER PRICES (Percent change; based on seasonally adjusted data) 1

Relative importance, Dec. 1993 1992

1994 1993

Q1

Q2

1994 Q3

Sept.

-----Annual rate-----Finished goods Consumer foods Consumer energy Other finished goods Consumer goods Capital equipment

Oct.

-Monthly rate-

100.0 22.9 13.3 63.7 40.3 23.4

1.6 1.6 -.3 2.0 2.1 1.7

.2 2.4 -4.1 .4 -.4 1.8

3.6 -.6 15.4 3.0 2.0 4.3

-.3 -5.5 -1.0 2.1 1.5 3.0

2.6 3.9 3.2 2.1 2.0 2.4

-.5 .2 -2.9 .1 .1 .1

-.5 -.2 -1.2 -.5 .3 -1.0

Intermediate materials 2 Excluding food and energy

95.2 82.3

1.1 1.2

.8 1.6

2.8 1.9

3.1 3.9

5.9 6.2

.3 .6

.4 .7

Crude food materials Crude energy Other crude materials

44.1 34.4 21.5

3.0 2.3 5.7

7.2 -12.3 10.7

-4.5 10.1 22.7

-20.6 21.0 -.8

-12.9 -20.5 18.8

.2 -5.3 1.3

-2.0 .0 .9

1. Changes are from final month of preceding period to final month of period indicated. 2. Excludes materials for food manufacturing and animal feeds.

RECENT CHANGES IN PRODUCER PRICES

-- RELATIVE CONTRIBUTION

(Percent change; based on seasonally adjusted data)

Relative importance Dec. 1993

1994 1992

1993

Q1

Q2

1994 Q3

----- Annual rate-----Finished goods Consumer foods Consumer energy Other finished goods Consumer goods Capital equipment

100.0 22.9 13.3 63.7 40.3 23.4

1

2

1.6 .3 .0 1.2 .9 .4

.2 .5 -.6 .2 -.2 .4

3.6 -. 1 2.2 1.8 .8 1.0

-.3 -1.3 -.2 1.3 .5 .7

2.6 .9 .5 1.3 .8 .6

Sept.

Oct.

-Monthly rate-.5 .0 -.4 .0 .0 .0

-.5 -.0 -.2 -.3 -.1 -.2

1. Data may not add due to rounding. 2. Changes are from final month of preceding period to final month of period indicated.

November 10, 1994 UNIVERSITY OF MICHIGAN SURVEY RESEARCH CENTER: SURVEY OF CONSUMER ATTITUDES (Not seasonally adjusted) 1994 Mar

1994 Apr

1994 May

1994 Jun

1994 Jul

1994 Aug

1994 Sep

1994 Oct

1994 Nov (p)

91.5

92.6

92.8

91.2

89.0

91.7

91.5

92.7

90.1

101.4 85.1

108.1 82.6

106.3 84.2

104.5 82.7

105.4 78.5

108.7 80.8

104.0 83.5

104.6 85.1

102.1 82.4

105 125

116 124

111 123

111 127

116 121

117 126

105 130

108 131

104 118

121 96

117 91

119 96

112 93

105 88

108 90

114 91

119 92

114 99

147 158 176

150 164 170

143 165 167

144 160 161

143 158 159

143 165 160

144 164 162

138 163 163

136 160 148

50 69

58 71

57 75

50 76

61 81

51 74

38 71

53 72

36 57

Expected unemployment change - next 12 months

112

116

116

114

111

121

117

116

112

Expected inflation - next 12 months Expected inflation - next 5 to 10 years

4.4 5.4

4.5 5.0

3.9 4.6

4.1 4.8

4.2 4.7

4.6 5.5

4.6 4.9

3.9 4.6

4.3 4.1

Indexes of consumer sentiment (Feb. 1966=100) Composite of current and expected conditions Current conditions Expected conditions Personal financial situation Now compared with 12 months ago* Expected in 12 months* Expected business conditions Next 12 months* Next 5 years* Appraisal of buying conditions Cars Large household appliances* Houses Willingness to use credit Willingness to use savings

* -- Indicates the question is one of the five equally-weighted components of the index of sentiment. (p) -- Preliminary (f) --

Final

Note: Figures on financial, business, and buying conditions are the percent reporting 'good times' (or 'better') minus the percent reporting 'bad times' (or 'worse'), plus 100. Expected change in unemployment is the fraction expecting unemployment to rise minus the fraction expecting unemployment to fall.

November 10, 1994 UNEMPLOYMENT INSURANCE BENEFITS (In thousands) 1994 Sept. 24

Oct. 1

Oct. 8

Oct. 15

Oct. 22

Oct. 29

Nov. 5

-------- Seasonally adjusted; BLS basis 1- - - - - - Initial Claims All regular programs 2 State programs

316 310

325 319

338 329

331 325

331 324

327 322

Insured unemployment 3 All regular programs State programs Extended benefits

2672 2604 16

2654 2584 16

2638 2571 12

2690 2614 17

2607 2537 14

2634 2565 14

2.4

2.4

2.4

2.4

2.3

2.4

State-insured Unemployment rate 4

335 330

-----------Not seasonally adjusted-----------Regular state programs Initial claims Insured unemployment 1. 2. 3. 4.

251 2117

254 2075

323 2006

273 2193

297 2103

Only data for regular state programs are seasonally adjusted. Includes federal employees and ex-servicemen. Includes federal employees, railroad workers, and ex-servicemen. Percent of covered employees receiving regular state benefits.

292 2168

336

Unemployment Insurance (Weekly data; seasonally adjusted, BLS basis <1>)

Initial Claims

Thousands

600 550 500 450

All regular programs Incl. EUC Adjustments<2>

400 Nov5

350

335.2

300

1987

1988

1989

1990

1991

Insured Unemployment

1992

1993

1994

1 9

1995

Millions Ind. EUC Adjustment<3>

i I

Oct 29 2.63

All regular programs

1987

1988

1989

1990

1991

1992

1993

1994

1995

<1> Only the state program components of these series are seasonally adjusted. <2> Beginning July 18, 1992, includes initial claims filed under the emergency unemployment benefits program by individuals 30,1994. also eligible to file under regular programs. The EUC program ended on April <3> Includes staff estimate of emergency benefits recipients who are also eligible to file under regular programr.

250

THE FINANCIAL ECONOMY The November 1994 Senior Loan Officer Lending Practices

Opinion Survey on Bank

The November 1994 Senior Loan Officer Opinion Survey on Bank Lending Practices posed questions about changes in bank lending standards and terms, changes in loan demand by businesses and households, the loan underwriting process, and the pricing of small business loans.

Fifty-seven domestic commercial banks and twenty-

four U.S. branches and agencies of foreign banks participated in the survey. The survey results show a further easing of the terms and standards on loans to businesses with roughly equal shares of respondents reporting having eased standards for borrowers of all sizes.

The fraction of banks that reported easing was larger than

in the August survey.

Demand for business credit has continued to

grow according to the November reports, with responses suggesting a more widespread pickup than in the last survey. commercial real estate loans were little changed.

Standards for Respondents

reported an increased willingness to make loans to individuals, and a few indicated that they had eased standards on home mortgage loans.

Household demand for credit was essentially flat since

August, but presumably remains at a high level. Special questions on the survey addressed the extent to which banks evaluate the riskiness of their business borrowers and the effect of such evaluations on the setting of price and non-price terms on loans.

Virtually all of the respondents indicated that

they categorize borrowers of all sizes based on risk.

In some cases

the category is determined, in part, by a statistical credit scoring model, but more often it is based on a less formal assessment of borrower risk.

Most banks reported using borrowers' risk categories

in setting both price and non-price loan terms.

In addition, banks

reported an improvement in the average risk rating for their borrowers compared to a year ago. The respondents indicated that the persistence of relatively wide spreads on small business loans in recent years was the result of a number of factors.

Increases in the costs and risks associated

with small business lending since the late 1980s were cited most often.

In addition, a number of banks noted that competition for

small business borrowers is less intense than than it was in the late

1980s.

Finally, half of the respondents indicated that they do

not expect a decline in the current wide spread of the prime rate over market rates. Business Lending Commercial and industrial loans other than for mergers.

A

significant number of domestic respondents reported having eased credit standards for business loans, with around one-fifth easing for large firms and somewhat smaller fractions easing for middlemarket and small firms.

These figures are higher than the 5 to

10 percent figures posted in August.

There was no net change in

standards reported by U.S. branches and agencies of foreign banks in November.

With respect to loan terms, many domestic banks

having cut credit line costs and spreads over base rates.

reported Nearly

half the domestic respondents reported reductions for large firms, and substantial, although smaller, fractions reported lower costs and spreads on loans to middle market firms and small businesses. These levels are similar to the ones reported in August.

As in

recent quarters, smaller fractions of respondents eased other terms, including loan covenants, maximum credit line sizes, and collateralization requirements.

As has been the case since banks

began reporting having eased terms in the second quarter of 1993, more respondents reported easing these terms for large firms than

for small firms.

Similarly, many of the foreign respondents

reported having eased terms, with the largest fractions cutting loan fees

and spreads, and a substantial fraction easing loans covenants. Both the domestic and the foreign respondents attributed the

easing of terms and standards primarily to more aggressive competition for business customers by other banks as well as by nonbank lenders.

A large share of banks also noted the improved

economic outlook and a lessening of industry-specific problems in industries to which they lend.

In addition, about half of the banks

noted that the demand for loans at their bank was more sensitive to the terms offered by their bank relative to their competitors than had been the case six months ago. Real estate loans.

Both domestic and foreign respondents

indicated that credit standards for commercial real estate loans were little changed.

On net, domestic respondents reported no

change in standards for construction and land development loans and a slight easing for other types of commercial real estate lending. Although scattered signs of easing have been evident in recent surveys, the substantial tightening of lending standards for commercial real estate loans reported in 1990 and 1991 has not been reversed.

At U.S. branches and agencies of foreign banks standards

for commercial real estate loans were little changed, with a small tightening reported for construction and land development loans and no net change for other commercial real estate loans. Demand.

Demand for business loans continued to expand over the

last three months.

About 40 percent of the domestic respondents

reported an increase in demand for business loans by large firms. Smaller, but still substantial, fractions reported increased demand by small and medium-sized borrowers.

More than 40 percent of the

foreign branches and agencies, which generally have large business

-10customers, reported a pick-up in demand.

Respondents attributed the

increased demand to their customers' needs to finance inventories and purchases of plant and equipment.

Somewhat surprisingly, in

view of very weak bond issuance by non-financial firms, the respondents did not indicate that demand from large firms had been boosted by declines in customers financing in the capital markets In contrast

when bond issuance was heavy in late in 1993 the

respondents noted that demand from large customers had weakened because of increased use of the capital markets. Lending to Households As in August

about a fifth of the domestic banks reported that

they were more willing to make consumer loans than they had been three months earlier, and a few banks indicated that standards for approving mortgage applications had been eased. demand has eased in the last two surveys.

Consumer loan

About as many banks

reported weaker demand for installment loans in November as reported stronger demand

By contrast

between 20 and 40 percent of the

respondents reported stronger demand for installment loans each quarter between the third quarter of 1993 and the second quarter of this year

The respondents continue to report weaker demand for

home mortgages, likely reflecting the fall off in refinancing activity.

Despite this decline, and the likely resulting fall off

in the refinancing of home equity loans with new mortgage loans, demand for home equity loans was reported little changed in the November survey, as it has been for the past several quarters. Risk-Rating of Business Loans The November survey asked a series of questions about banks' evaluation of the riskiness of their business borrowers.

Most of

the respondents reported that most or all business borrowers are assigned to a risk category in the course of the underwriting

process.

Only 5 to 10 percent of the respondents indicated that

they rarely or never graded the risk of potential borrowers. about a sixth of the respondents, however

Only

reported using a

statistically-based credit scoring model to help assign risk grades, and thus risk grading is presumably done on a judgmental basis in most cases

Small customers are somewhat more likely to be assessed

using a statistical model than are middle-market or large customers A large majority of the respondents indicated that price and nonprice loan terms are varied based on a borrower's risk.

The

fraction of banks that reported that they vary price terms according to risk is higher than previous anecdotal evidence had indicated In many cases, however

differences in price or non-price terms are

based on a less formal assessment of the borrower's risk, rather than on the borrower's assigned risk grade.

A large share of the

respondents reported that the average risk grade of their borrowers that have been assigned a risk grade has improved over the past year

suggesting that the improved economy has had a stronger

influence than the steady easing of standards reported in surveys since mid-1993. Two final questions focused on the pricing of small business loans.

According to the Federal Reserve Board's quarterly Survey of

Terms of Bank Lending, spreads of rates on smaller business loans (those under $1 million) over base rates are currently elevated relative to spreads posted in the late 1980s.

By contrast

spreads

on large loans are not similarly elevated, suggesting that the spreads on smaller loans do not reflect higher costs of intermediation owing to factors such as increased FDIC premia or capital requirements.

The survey respondents indicated that the

higher spreads on small loans were primarily the result of an increase in the costs of making small business loans as well as a

-12-

rise in the riskiness of such loans relative to the late

1980s.

A

number of the respondents also noted an easing of competition for small business loans from both other banks and non-bank lenders.

A

final question asked whether the current high level of the spread of the prime rate over market rates is likely to persist over the next year

About half of the respondents indicated that it would do so.

-13-

COMMERCIAL BANK CREDIT AND SHORT-

AND INTERMEDIATE-TERM

BUSINESS

CREDIT1

(Percentage change at annual rate, based on seasonally adjusted data) Dec.

Type of credit

Level,

1992

1994

1994

to Dec. 1993

Q2

Q3

1994

1994

1994

Oct

Aug

Sep

Oct

1994 ($billions)

Commercial bank credit 1. Total loans and securities

5.3

5.8

2.

8.6

6.3

Securities

3.9

3.4

-3.4

-9.4

-5.2

-10.9

958.1

6.8

3.0

3,286,7

3.

U.S. government

9.6

2.6

-6.1

-7.8

-10.0

-18.5

728.6

4.

Other

4.8

19.3

5.9

-14.8

10.7

14.3

229.6

11.2

9.6

7.0

8.8

2,328.6

10.0

11.6

9.1

8.5

11.1

633.6

5.4

9.5

10.8

9.3 13.7

5.

Loans

4.0

5.5

6.

Business

7.

Real estate

4.5

8.

Consumer

9.0

13.5

18.2

17.0

9.

Security

35.8

-34.5

-36.7

-41.7

10.

-1.8

-. 6

Other

-7.2

21.8

8.5

-92.8 15.1

5.8

983.5

18.8

441.7

50.3

72.1

-19.1

197.7

Short- and intermediate-term business credit 11. Business loans net of bankers acceptances 12. Loans at foreign branches

2

13. Sum of lines 11 and 12

9.7

11.7

-12.1

18.8

17.9

-2.5

9.9

11.8

9.1

11.0

7.2

11.7

4.4

14. Commercial paper issued by nonfinancial firms 15. Sum of lines 13 and 14 16. Bankers acceptances, U.S. trade-related3,4 17. Loans at finance companies

-2.1

4

18. Total (sum of lines 15,,16, and 17)

-9.2

-1.1

6.1

-12.2

-13.3

1.3 -. 7

13.5 7.9

8.8

15.9

21.0

12.2

624.5

-36.1

22.6

10.7

647.1

15.8

32.8

157.7

8.7

10.4

14.8

-3.9

11.9

-11.8

n.a.

7.2

5.8

22.0

n.a.

339.1

10.1

8.0

13.2

n.a.

1,154.1

8.9

1. Except as noted, levels are averages of Wednesday data and percentage changes are based on averages of Wednesday data; data are adjusted for breaks caused by reclassification; changes are measured from preceding period to period indicated. 2. Loans to U.S. firms made by foreign branches of domestically chartered banks. 3. Acceptances that finance U.S. imports, U.S. exports, and domestic shipment and storage of goods. 4. Changes are based on averages of month-end data. 5. September 1994.

n.a.

Not available.

5

-14SELECTED FINANCIAL MARKET QUOTATIONS (Percent except as noted) 1993

Instrument

1994

Oct lows

Feb

Change to Nov 9, 1994:

FOMC, 3 Sep 27 Nov 9

From Oct 93 lows

From Feb 3

-i

SHORT-TERM RATES 2 Federal funds 3 Treasury bills 3-month 6-month 1-year Commercial paper 1-month 3-month Large negotiable CDs 1-month 3-month 6-month 4 Eurodollar deposits S-month 3-month Bank prime rate

From FOMC, Sep 27

i 3.07

3 .07

4.70

4.75

S.68

.68

0.05

3.01 3.09 3.23

3.13 3.27 3.52

4.71 5.20 5.56

5.20 5.62 5.97

2.19 2.53 2.74

2 .07 2.35 2.45

0.49 0.42 0.41

3.13 3.23

3.16 3.25

5.03 5.18

5.24 5.73

2.11 2.50

2.08 2.48

0.21 0.55

3.08 3.22 3.23

3.11 3.25 3 .41

5.00 5.18 5.60

5.21 5.72 6.01

2.13 2.50 2.78

2.10 2.47 2.60

0.21 0.54 0.41

3.06

3.25

3.06 3.25

5.00 5.19

5.19 5.75

2.13 2.50

2.13 2,50

0.19 0.56

6.00

6.00

7.75

7.75

..75

1.75

0.00

4.06 5.19 5.78

4.60 5.81 6.31

6.83 7.61 7.85

7.35 7.94 8.09

3 .29 2.75 2.31

2.75 2.13 .78

0.52 0.33 0.24

5.41

5.49

6.66

'.16

.75

.67

0-50

6.79

7.35

8.73

9.00

2.21

1.65

0.27

6,74 4.14

6.97 4.12

8.73 5.56

9.05 5.91

2.31

2.08 '. 79

0.32 0.35

INTERMEDIATE- AND LONG-TERM RATES U.S. Treasury (constant maturity) 3-year 10-year 30-year 5 Municipal revenue (Bond Buyer) Corporate--A utility. recently offered 6 Home mortgages FHLMC 30-yr. fixed rate FHLMC 1-yr. adjustable rate

1989

1.77

1994

Percentag e change to Nov 9:

Record high ______

Stock exchange index

Level Dow-Jones Industrial NYSE Composite NASDAQ (OTC) Wilshire

3978.36 267.71 803.93 4804.31

Date

Low. Jan. 3

1/31/94 2144.64 2/2/94 3/18/94

154.00 378.56 2/2/94 2718.59

1. One-day quotes except as noted. 2. Average for two-week reserve maintenance period closest to date shown. Last observation is average for maintenance period ending Nov 9, 1994. 3. Secondary market.

From

FOMC, Sep 27

Nov

3863.04 254.87 755.37 4582.41

3831.75 255.01 767.25 4610.18

9

record high 3.69 -4.74 -4.56 -4.04

From 1989 low 78.67 65.59 102.68 69.58

4. Bid rates for Eurodollar deposits at 11 a.m. London time. 5. Most recent observation based on one-day Thursday quote and futures market index changes. 6. Quotes for week ending Friday previous to date shown.

From FOMC, Sep 27 -0.81 0.05 1.57 0.61