Transcripts of the monetary policymaking body of the Federal Reserve from 2002–2008.

Thank you, Mr. Chairman. The weather has been frigid in New England, but the economy may actually be heating up. Anecdotally, many contacts in manufacturing are more upbeat, and our contacts in the retail arena reported a noticeable pickup in business in the fourth quarter. Business confidence in Massachusetts surged in December, and consumers are more confident as well, particularly about future conditions. Even employment trends may be better than we thought. An early assessment of the likely benchmark state employment revision suggests that job losses in early 2003 were greater than previously thought but the latter months of the year saw a greater rebound. Nonetheless, regional employment levels are still below 2002, and the area’s unemployment rate held at 5.1 percent in November. Initial unemployment claims rose as well, though help-wanted advertising is picking up.

The increase in business confidence that I noted earlier was accompanied by statements that employers in Massachusetts have abandoned their wait-and-see posture and now believe that a robust economic recovery is under way. However, other contacts are more skeptical about that. The continued ability to increase productivity and the expanded use of outsourcing seem reasons enough for reining in domestic hiring, at least over the near term. Recent contacts with sources in the high-tech world indicate that optimism is spreading there. Big customers are starting to spend money, and the mood of software executives has definitely brightened. I think that is along the lines of what President Parry and President Hoenig mentioned as well. One of our directors is the CEO of a relatively large chip manufacturing company. He reports that worldwide semiconductor manufacturing is increasing on the basis of solid new orders growth and rising profitability. Companies in this industry were waiting for growth to materialize before committing to new hiring. Now he believes that they are ready to add staff; and in one case, a major firm recently hired 100 workers for its Portland, Maine, facility. That is a start anyway.

I certainly hope that solid employment growth in the nation as a whole will start soon. As I see it, that’s the remaining fly in the ointment, if you will, to a recovery that in every other way shows signs of really picking up. I, like others, was disappointed with the December unemployment report. The disappointing numbers may get revised away, but I think there is still a sense of caution—though perhaps it’s ebbing—on the part of businesses to both spend and hire. In my view, questions remain about the durability and self-sustaining nature of this expansion, past the fiscal impulse. It is certainly true that consumer spending continues to be buoyant, and we expect it will remain so. Business spending also seems to have picked up and will likely accelerate further given profit levels and incentives that are built into fiscal policy. It’s likely that hiring will follow, but I think it will take some time before all lights are green for both spending and hiring.

Speaking of green, the Greenbook forecast continues to anticipate an economy that is about as good as it gets or is likely to get. I don’t have any major problems with that forecast. Growth is expected to be strong over the next couple of years, with unemployment lower and inflation a moot issue. Fiscal policy stimulus recedes in the latter half of this year, but the economy is sustained by continued strong consumption, an improving external sector, a declining dollar, and very favorable financial markets. We in Boston, not unlike others around the table, show lower growth projections for 2004 and 2005 than does the Greenbook. But the direction of our numbers is the same as those in the Greenbook, and I don’t want to quibble about differences at the margin. The overall message is the same: Productivity is strong; the gap in resource use narrows; and inflation, if anything, is likely to trend down in the near term, but that trending down isn’t worrisome.

What I think could turn out to be a little worrisome and needs to be given some thought are the implications of the extremely accommodative financial markets that we are seeing. For now, very low credit spreads and rising equity markets are not out of line with profits and are one of the key underpinnings to sustaining a solid pace of growth in 2004. What I view as a possible concern is whether these markets have the potential over time to feed into the types of speculative excesses that were so damaging to emerging markets abroad and then to our own economy in the late ’90s. It hasn’t even been ten years since the first Asian crisis so there is reason to believe that borrowers, lenders, and investors remember the hard lessons they learned and will manage their risks more effectively. But I think it’s something to watch. However, what I’m most focused on watching, at least over the near term, is whether we will begin to see the increased level of employment envisioned in the Greenbook forecast or even in our forecast, which is a little lower.

On balance, as I look ahead there seem to be risks on both sides of the projection. If employment picks up as the Greenbook projects, we could see some surprises in reduced productivity and higher inflation. On the other side, the employment growth in the projection remains a forecast, and if doesn’t occur soon, it could take longer than we expect to realize any tightening of resources. As Vince put it in the Bluebook, we may be able to be patient for a while; but I think we have to be watchful as well.

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