Realistic Optimism for the U.S. Economy: Realistic Optimism for the U.S. Economy: An Update and Consensus ForecastAn Update and Consensus Forecast

CPA Workshop LuncheonCPA Workshop Luncheon

September 29, 2004September 29, 2004

Thomas H. Payne, Ph.D.Thomas H. Payne, Ph.D.

Dunagan Chair of Excellence in Dunagan Chair of Excellence in BankingBanking

The University of Tennessee at The University of Tennessee at MartinMartin

September 2004 Views on the Economy….September 2004 Views on the Economy….

"The outlook remains poor, production cutbacks at "The outlook remains poor, production cutbacks at Ford and GM, mediocre personal income growth Ford and GM, mediocre personal income growth and record trade deficits all bode poorly for and record trade deficits all bode poorly for economic growth and jobs creation." - economic growth and jobs creation." - University of University of Maryland Business School Professor Peter MoriciMaryland Business School Professor Peter Morici

"The Fed is in a very enviable position right now, "The Fed is in a very enviable position right now, the economy is growing, competition is keeping the economy is growing, competition is keeping prices down, wages are not under pressure and prices down, wages are not under pressure and commodity price rises will fade.” - commodity price rises will fade.” - William Hummer of William Hummer of Hummer Investments Hummer Investments

More September 2004 Views….More September 2004 Views….

"Overall, we've added about 1.7 million new jobs "Overall, we've added about 1.7 million new jobs since August of 2003 ….. The unemployment rate of since August of 2003 ….. The unemployment rate of 5.4 percent was nearly a full point below the rate last 5.4 percent was nearly a full point below the rate last summer and below the average of the 1970s, 1980s summer and below the average of the 1970s, 1980s and 1990s” – George Bush (September 3, 2004)and 1990s” – George Bush (September 3, 2004)

  "I don't think this is something to celebrate. I think "I don't think this is something to celebrate. I think it's something to get to work on ….. this is the first it's something to get to work on ….. this is the first president in 60 years who is absolutely certain to be president in 60 years who is absolutely certain to be running for re-election on Election Day by having lost running for re-election on Election Day by having lost jobs in America…" - John Kerry (September 3, 2004)jobs in America…" - John Kerry (September 3, 2004)

Job Growth is Good ..….Job Growth is Good ..….Nationally, in Tennessee, and in our RegionNationally, in Tennessee, and in our Region

And is Continuing ….And is Continuing ….

Based on the first two weeks of September data, the U.S. economy is anticipated to Based on the first two weeks of September data, the U.S. economy is anticipated to Add approximately 200,000 new jobs this month.Add approximately 200,000 new jobs this month.

And, Income & Consumer Spending And, Income & Consumer Spending Remain Strong ………..So FarRemain Strong ………..So Far

Latest Conference Board survey shows unexpected dip in September.

September 28, 2004: 10:51 AM EDT

And, Despite Talk of “Bubbles” - No Jitters are And, Despite Talk of “Bubbles” - No Jitters are Evident in the Housing MarketEvident in the Housing Market

But Some Economic Uncertainty Does Exist - But Some Economic Uncertainty Does Exist - Oil Prices, Presidential “Dead Heat”, War on Oil Prices, Presidential “Dead Heat”, War on

Terror, and Interest RatesTerror, and Interest Rates

And, What About Those Oil Prices!?And, What About Those Oil Prices!?

….$50/barrel!! But how bad is it in comparison with other oil price increases?

The 1979 oil shock began as unrest in Iran led to the toppling of the Shah …. Oil went from $15 a barrel to almost $35. That would be like going from $30 last year to $70 per barrel (instead of $50) today.

Rules of Thumb: 1 cent increase → $1 billion off consumer spending 25% increase in oil prices → .25% off GDP

While increases in oil prices increase both inflation and unemployment, the Federal Reserve is maintaining a strong anti-inflationary approach.

A trader shouts orders during activity in the oil trading section of the New York Mercantile Exchange

And we’re back near $2.00/gallon……

And, (Related) Growth in Corporate Profits....And, (Related) Growth in Corporate Profits.... Have Led to Recent Declines in Stock Prices Have Led to Recent Declines in Stock Prices

Bottom Line - Despite “Rational Non-Exuberance” Bottom Line - Despite “Rational Non-Exuberance” and Structural Changes in the Workforce – and Structural Changes in the Workforce –

Our Overall Economy Remains Strong…..Our Overall Economy Remains Strong…..

So, Here is the Consensus Forecast……So, Here is the Consensus Forecast……

Note: Results from a USA TODAY economic survey conducted Aug. 13-18, 2004.

Sixty-one public and private sector economists took part.

Notwithstanding the Run-up in Energy Notwithstanding the Run-up in Energy Prices…..Inflation Should Remain LowPrices…..Inflation Should Remain Low

And, Even with Continued Outsourcing, And, Even with Continued Outsourcing, Unemployment Should Continue to DeclineUnemployment Should Continue to Decline

Consistent with GDP and Job Growth, Consistent with GDP and Job Growth, Interest Rates are Expected to IncreaseInterest Rates are Expected to Increase

Despite Relatively Flat Growth in Despite Relatively Flat Growth in Consumer SpendingConsumer Spending

How is the Fed Doing? How is the Fed Doing? The Consensus is ….. Very GoodThe Consensus is ….. Very Good

What to Expect Next YearWhat to Expect Next Year

Continuing Job Growth – Strong service growth along with a Continuing Job Growth – Strong service growth along with a modest rebound in manufacturing. modest rebound in manufacturing.

Outsourcing will continue and commodity prices (oil, steel, Outsourcing will continue and commodity prices (oil, steel, etc.) will remain high as China and other countries continue etc.) will remain high as China and other countries continue to boom. Political pressure will build as consumption will to boom. Political pressure will build as consumption will lag production and China to dislodge the Yuan from the $. lag production and China to dislodge the Yuan from the $.

Continuing increases in short term interest rates – The Fed Continuing increases in short term interest rates – The Fed will continue to cautiously raise the Fed Funds rate target will continue to cautiously raise the Fed Funds rate target (25 basis points/meeting maximum).(25 basis points/meeting maximum).

GDP will trend back toward natural rates of growth and GDP will trend back toward natural rates of growth and productivity gains will decline with decreases in productivity gains will decline with decreases in unemployment.unemployment.

What to Expect Next YearWhat to Expect Next Year

Flattening of the Yield Curve - long term rates will remain at Flattening of the Yield Curve - long term rates will remain at or near current levels due to increased demand being offset or near current levels due to increased demand being offset by decreased inflationary expectations. Fixed mortgage by decreased inflationary expectations. Fixed mortgage rates may, however, increase early next year as a result of rates may, however, increase early next year as a result of changes in the secondary markets. changes in the secondary markets.

Consumer spending will level off due to the combined effects Consumer spending will level off due to the combined effects of structural shifts in employment, consumer debt saturation, of structural shifts in employment, consumer debt saturation, and increased interest rates. and increased interest rates.

However, look for 10-15% gains in the S&P 500 as However, look for 10-15% gains in the S&P 500 as uncertainty dissipates following the election and the uncertainty dissipates following the election and the economy continues to gain traction. economy continues to gain traction.