The New Economic Landscape

William Strauss Senior Economist and Economic Advisor Federal Reserve Bank of

Chicago

The Progressive Manufacturing Summit 2009Sarasota, FLJune 10, 2009

The economy entered a recession in the first quarter of 2008

-8

-6

-4

-2

0

2

4

6

8

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Real gross domestic productpercent

Quarterly change (saar)

Percent change from a year earlier

First quarter GDP was driven down by large decreases in business fixed investment and inventories

-5.7

1.1

-4.5

-1.4-2.3

-0.7

2.2

-8

-6

-4

-2

0

2

4

GDP Consumption Business Fixed

Investment

Residential Investment

Inventories Government Net Exports

Contributions to real GDP growth in Q1:2009percentage points (annual rate)

GDP growth is forecast to be quite weak this year,but then grow closer to trend in 2010

-8

-6

-4

-2

0

2

4

6

8

2000 01 02 03 04 05 06 07 08 09 10

Real gross domestic productpercent

Quarterly change (saar)

Percent change from a year earlier

Q1-2009

Blue Chip GDP Forecast

Actual Forecast 2008 2009 2010-0.8 -1.3 2.8

Potential Historical Context

Historical1

Blue Chip Forecast for Current

Episode

Average Range Consensus

Duration (months)11 6 to 16 18-24

Change in GDP2 -1.7 -0.4 to -3.1 -3.63

Maximum Unemployment Rate2

7.8 6.1 to 10.8 9.9

Change in payroll employment2 -2.1 -1.3 to -3.1 -4.5 to -5.04

1. Calculated over the 1960-61, 1969-70, 1973-75, 1980, 1981-82, 1990-91, and 2001 recessions. 2. Percent change from peak to trough of GDP.3. Starting from the peak of GDP in the second quarter of 2008.4. My guess. – through May 2009 employment is down 4.3%

The Chicago Fed National Activity Indexbottomed in January 2009 and has begun to rise

-5.0

-4.0

-3.0

-2.0

-1.0

0.0

1.0

2.0

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Monthly

Chicago Fed National Activity Index

Three month average

Consumer confidence rose quite sharply in May

0

20

40

60

80

100

120

140

160

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Consumer confidence indexIndex: 1985=100

Inflation has reversed its upward trajectory

0

1

2

3

4

5

6

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Personal consumption expenditure - chain price indexpercent change from a year earlier

In large part due to the movement of oil prices

0

20

40

60

80

100

120

140

1970 '75 '80 '85 '90 '95 '00 '05

West Texas Intermediate oil pricedollars per barrel

Adjusted for inflation - current oil prices are well below early 1980s prices

0

20

40

60

80

100

120

140

1970 '75 '80 '85 '90 '95 '00 '05

Real West Texas Intermediate oil pricedollars per barrel. 2008 dollars

Expenditures on energy increased over the past few years,and they are currently well below the historical average

4

5

6

7

8

9

10

1960 '65 '70 '75 '80 '85 '90 '95 '00 '05

Energy goods and services expenditures as a share oftotal consumptionpercent

4

5

6

7

8

9

10

1960 '65 '70 '75 '80 '85 '90 '95 '00 '05

Energy goods and services expenditures as a share oftotal consumptionpercent

60s 70s80s

90s 00s

1960-2009

Removing the volatile food and energy components from the PCE,

“core” inflation has remained in the “comfort zone”

0

1

2

3

4

5

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Personal consumption expenditure - less food and energy -chain price indexpercent change from a year earlier

Inflation is anticipated to moderate this yearand then rise by just under two percent in 2010

-10

-8

-6

-4

-2

0

2

4

6

8

2000 01 02 03 04 05 06 07 08 09 10

Consumer price indexpercent

Quarterly change (saar)

Percent change from a year earlier Q1-2009Blue Chip CPI Forecast

Actual Forecast 2008 2009 2010

1.5 0.5 1.9

Employment has fallen by over 6 million jobssince December 2007

-7-6-5-4-3-2-10123456

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Total employmentpercent

Monthly change (saar)

Percent change from a year earlier

The unemployment rate has risen tothe highest level since August 1983

3

4

5

6

7

8

9

10

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Unemployment ratepercent

The unemployment rate is forecast to peak at 9.9%early next year and then begin to edge lower

0

2

4

6

8

10

2000 01 02 03 04 05 06 07 08 09 10

Unemployment ratepercent

Unemployment ratepercent

Q1-2009

Blue Chip UR Forecastpeaks at 9.9% in Q1-2010

Employment recoveries have takenmuch longer over the past two cycles

-30 -25 -20 -15 -10 -5 0 5 10 15 20 25

2008

2001

1990

1981

1980

1974

1970

1960

Employment

number in parenthesis is percent change of employment from peak

Months of declines in employment

recession year

Months until previous employment peak is reached

(-2.3%)

(-4.3%)

(-2.0%)

(-1.5%)

(-3.1%)

(-1.3%)

(-2.8%)

(-1.5%)

through May 2009

Light vehicle sales collapsed

89

10111213141516171819202122

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Light vehicle salesmillions of units (saar)

In an attempt to keep inventories in line with falling saleslight vehicle production has been cut back quite severely

3456789

1011121314

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Light vehicle productionmillions of units (saar)

Consumer attitudes about buying a vehicle is very low

3

4

5

6

7

8

9

10

11

12

1980 '85 '90 '95 '00 '05

Consumer attitudes - plan to buy automobile in six monthspercent of respondents

Increases in new domestic production sharehas offset losses in Detroit-3 market share

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10

20

30

40

50

60

70

80

90

100

0

10

20

30

40

50

60

70

80

90

100

1980 '83 '86 '89 '92 '95 '98 '01 '04 '07

Share of light vehicle salespercent

Detroit-3

new domestics

imports

percent

Manufacturing production fell off sharplybeginning in the second half of 2008

-25

-20

-15

-10

-5

0

5

10

15

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Industrial production - manufacturingpercent

Quarterly change (saar)

Percent change from a year earlier

Manufacturing capacity utilization has fallen to the lowest levels in more than 70 years

6668707274767880828486

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Capacity utilization - manufacturingpercent

Purchasing managers’ composite index has improved

30

35

40

45

50

55

60

65

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Purchasing managers' index - compositenet percent reporting increases

The new orders component has improved significantly

202530354045505560657075

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Purchasing managers' index - new ordersnet percent reporting increases

Residential investment fell off sharply beginning in 2006

-40-35-30-25-20-15-10

-505

10152025

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Real residential investmentpercent

Quarterly change (saar)

Percent change from a year earlier

Residential investment as a share of GDP is very low

2

3

4

5

6

7

1960 '65 '70 '75 '80 '85 '90 '95 '00 '05

Residential investment as a share of GDPpercent

The supply of new single family homes is extremely high

3

4

5

6

7

8

9

10

11

12

13

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Months supply of new single family homesmonths

Housing starts have been cut-back sharply

-60

-50

-40

-30

-20

-10

0

10

20

30

40

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Housing starts3-month smoothed - percent change from a year earlier

Housing starts have fallen to a new post WWII low

0

500

1,000

1,500

2,000

2,500

1960 '65 '70 '75 '80 '85 '90 '95 '00 '05

Housing startsthousands

When you take into account the growth of households,it is an even more dramatic decline

0

5

10

15

20

25

30

35

40

1960 '65 '70 '75 '80 '85 '90 '95 '00 '05

Housing starts per 1,000 households

Mortgage rates are very low

4

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6

7

8

9

10

11

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Mortgage rate - 30-year fixedpercent

Home price declines are large

-20

-15

-10

-5

0

5

10

15

20

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Median sales price - existing single family home3-month smoothed - percent change from a year earlier

Home price have fallen by over eight percent over the past year with large differences across regions

Housing affordability has improved dramatically

90

100

110

120

130

140

150

160

170

180

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Composite housing affordability indexindex=100 when median family income qualifies for an 80% mortgage

on a median priced existing single family home

Yet, consumer attitudes for buying a home remain very low

0

1

2

3

4

5

6

1980 '85 '90 '95 '00 '05

Consumer attitudes - plan to buy a home in next six monthspercent of respondents

Lending standards for mortgage loans remain tight

-20

0

20

40

60

80

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Senior Loan Officer Opinion Surveynet percentage of domestic respondents tightening mortgage loan standards

Corporate High Yield rates increased beginning in June 2007

468

1012141618202224

Jan

Feb

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May

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Jan

Feb

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May

Jun

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Aug

Sep

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Nov

Dec

Jan

Feb

Mar

Apr

May

Jun

Corporate Aaa and Corporate High Yield ratespercent

2007 2008

High Yield

Corporate Aaa

2009

Credit spreads between Corporate High Yield securitiesand Corporate Aaa securities rose by over 1,400 basis points,

but have been improving over the past several months

02468

1012141618

Jan

Feb

Mar

Apr

May

Jun

Jul

Aug

Sep

Oct

Nov

Dec

Jan

Feb

Mar

Apr

May

Jun

Jul

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Sep

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Nov

Dec

Jan

Feb

Mar

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May

Jun

Credit spreads between Corporate High Yield and Corporate Aaapercent

2007 2008 2009

The Fed has been very aggressive, lowering theFed Funds rate by nearly 525 basis points

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5

6

7

8

9

1990 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09

Fed Funds ratepercent

The Fed’s balance sheet has expandedin size and in composition

0

500

1,000

1,500

2,000

2,500

Assets of the Federal ReserveBillions of dollars

Other Assets

Term Auction Credit

Securities Held Outright

Central Bank Swaps

Remaining Asset Facilities

Commercial Paper Facility

2007 2008 2009

• The outlook is for the U.S. economy to struggle through

most of this year and then grow at a solid pace next year

Summary

• Employment is expected to remain weak this year,

leading to a continued rise in the unemployment rate

• Slackness in the economy will lead to a relatively

low inflation rate over the coming year

• The volatile credit markets and the weak housing market

are the biggest risk on the horizon for the U.S. economy

www.chicagofed.org www.federalreserve.gov