The University of Michigan
News Service
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November 18, 1999 (20)
Contact: Bernie DeGroat
Phone: (734) 647-1847
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Web http://www.umich.edu/~newsinfo/Releases/1999/Nov99/r111899.html
The Fed will continue to bump up interest rates to help stave off inflation and keep the U.S. economy strong, U-M economists say.
ANN ARBOR---With the dawning of the new millennium, the booming American economy will continue to expand, but at a somewhat slower rate over the next two years as the Federal Reserve continues to pursue an anti-inflationary monetary policy, say University of Michigan economists.
"It's our view that the combination of a still-strong U.S. economy, strengthening economies abroad, and the gathering evidence that tight labor and tightening materials markets are tipping the balance toward increasing inflationary pressures imply that the Fed will have to continue to tighten monetary policy," says Saul H. Hymans, U-M professor of economics.
"We've assumed that the Fed will increase the federal funds rate a third time before this year ends and will raise rates by another 50 basis points next spring---and even that won't be enough to allay the Fed's concerns about accelerating inflation if the economy stays as strong as we're expecting through 2001."
In their annual two-year forecast of the U.S economy, Hymans and colleagues Joan P. Crary and Janet C. Wolfe predict that economic growth will slow from this year's rate of 3.8 percent to 3.1 percent next year and 2.9 percent in 2001.
"While the rate of output expansion is forecast to moderate from the well-over-3.5-percent rates of this and the previous three years, we believe that these growth rates are about at the potential rate of expansion that characterizes the current U.S. economy," Hymans says.
With U.S. labor markets remaining tight, economic activity abroad improving, and labor and materials costs rising, inflation in consumer prices is expected to increase from a rate of 1.6 percent this year to 2.1 percent next year and 2.4 percent in 2001, according to the forecast.
The researchers say that the growth of household purchasing power over the next two years will slow due to the moderate output growth predicted and the increasing rates of price inflation. Real disposable income is expected to rise by 3.8 percent this year, 3.2 percent in 2000 and 2.4 percent in 2001.
While unemployment over the next two years will hold steady at this year's rate of 4.2 percent, interest rates will continue to creep upward, thanks to the Fed's continued tightening of monetary policy, Hymans and colleagues say.
The conventional mortgage rate is predicted to climb from 7.5 percent this year to 8 percent next year and 8.1 percent in 2001. The rate for three-month Treasury bills is forecast to rise from this year's 4.6 percent to 5.4 percent in 2000 and 5.9 percent the year after, while 30-year Treasury bonds rates are expected to increase from 5.9 percent in 1999 to 6.4 percent next year and 6.5 percent in 2001.
"With mortgage rates headed up, home building activity is expected to slip in 2000, with housing starts forecast to drop by about 100,000 units (from 1.65 million to 1.55 million)," Hymans says. "A further dip to 1.51 million starts in 2001, though, still implies more home-building activity in that year than in '96 or '97, which, at the time, were the best years since 1988."
The U-M forecast, based on the Michigan Quarterly Econometric Model of the U.S. Economy and compiled by the U-M Research Seminar in Quantitative Economics, also predicts that:
--Sales of light vehicles will set a new record this year at 16.6 million units, before scaling back to a still-strong 16 million cars and light trucks in each of the next two years.
--Business capital spending will increase by 8.9 percent this year, 6.3 percent in 2000 and 7.1 percent in 2001.
--The value of the dollar will fall by 3.8 percent next year and by 2.3 percent the year after.
--The federal budget surplus will grow to $145 billion in fiscal 2000, $194 billion in 2001 and $267 billion in 2002.
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