March 14, 1979
Business conditions are very strong, according to directors and other respondents in the First District. There are no signs of a slowdown. A few businessmen are concerned that the present situation looks ominously "boomy"; however, most have been pleasantly surprised by the economy's strength. Manufacturers report that new orders remain strong; there has been no slackening in the order rate. Capacity utilization is high. Lead times for materials have lengthened markedly in the past couple of months. Retailers seem generally content; inventories have been reduced to more satisfactory levels. In the banking sector, loan demand is quite strong for this time of year. Borrowers do not appear to be deterred by current high interest rates.
New orders are still coming in strongly for New England manufacturers. Capacity utilization is high. The prosperity appears to be widespread: among the products said to be doing well are electrical appliances, electronic components, automotive products, machine tools, aircraft parts, and ski apparel. A large producer of non-electrical machinery reports that all divisions of the company are doing well and there are enough orders for heavy capital equipment to last through 1979. A tire manufacturer says that they are operating flat out, although this is at least partly in expectation of a strike by the United Rubber Workers in late April. The major change from previous months' reports is a substantial increase in the number of firms mentioning longer delivery times for materials and components. Most companies have observed some lengthening in lead times and several claim that the change over the last couple of months has been very marked. Electronic components, aluminum and steel were identified as particular problem areas. Several companies mentioned unusually sharp increases in the prices of petrochemical and glass products and one firm was very concerned about recent increases in trucking rates. Labor shortages seem to be becoming both more widespread and more critical. Difficulties in obtaining engineers, especially electrical engineers, were mentioned by most large firms. There is also a severe shortage of computer software people and, in some areas, skilled assembly workers. The head of one large firm stated that the wage guidelines, with which they must comply because of large defense contracts, are seriously hindering their ability to recruit needed workers. The representative of the tire manufacturer pointed out that, while his company has accepted the guidelines in principle, the URW with whom the firm is negotiating, has said that they are not even considering them.
Retailers seem generally content. In northern New England those associated with the resort industry are doing particularly well. The head of a large department store chain thinks that there has been a slight easing; however, he also believes that the retail inventory situation has improved substantially from what it was in the fall.
In the banking sector, loan demand is healthy, although there has been a seasonal slackening in demand in northern New England. This easing has occurred primarily in the consumer area; commercial demand has held up well. Despite the season, northern New England banks are almost completely loaned up. One respondent is planning on borrowing in the secondary market; because of the cost of these funds he will be charging 11 percent or more for mortgages. In Vermont the usury ceiling, which has been at 9-3/4 percent, is going to be lifted. In southern New England, the head of one large bank reports that loan demand in all categories is good and the outlook for the rest of 1979 is promising. Banking directors do not think that today's high interest rates are a serious deterrent to borrowing. Bankers in northern New England expect mortgage demand to pick up as soon as the weather turns warm. A survey by one bank of small businesses in New England reveals that in February most such firms did not think that high interest rates had seriously affected either their profit position or cash flow. None had been deterred from seeking funds by high interest rates and very few had encountered difficulty in acquiring financing.
Professors Eckstein and Houthakker were available for comment this month. Both are reluctant to attach great significance to the recent marked decline in the rate of growth of the monetary aggregates, independently citing the tremendous growth of money market mutual funds as an offsetting influence. Both agree that the real economy is currently quite strong, although Houthakker is reluctant to follow Eckstein in labeling this a "boom" period. For these reasons, neither is prepared to advocate an easing of Federal Reserve policy at the present time.
Professor Eckstein is concerned about the effect of the strong economy on the short-term expectations of businessmen. His impression is that the January data revealing a sharp deterioration in vendor performance and large increases in durable goods orders and manufacturing inventories have been interpreted by the business community as signs that the economy is now in a full-fledged boom. Fearing that business will react to this by attempting to build inventories, Eckstein feels that the situation is becoming uncomfortably similar to that which prevailed at the end of 1973. In his view, if a big inventory correction next year is to be avoided, the Fed must act now to convince businessmen that it does not intend to permit the boom to continue. While he would prefer to see this done without a general increase in interest rates, for example by rhetoric or a discount rate hike, Eckstein is not averse to raising market rates if milder steps fail.
Professor Houthakker is concerned about the implications of the strong economy for the inflation outlook. Although he feels that the current low savings rate provides evidence that some of the recent acceleration in inflation is due to excess demand, he expects this to become a less important source of difficulty in the future as high real interest rates induce a return to normal saving behavior. Potentially more important in Houthakker's view is the dramatic increase in commodity prices. Since this price series has in the past been a good "leading indicator" of the wholesale price index, Houthakker expects continued high inflation from this source for the next few months at least. On the positive side, Houthakker thinks that spot oil prices will drift down as Iranian production increases, and that the stable dollar should lead to a slowdown in the upward trend of import prices.