ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT ORGANISATION DE COOPERATION ET DE OEVELOPPEMENT ECONOMIQOES ©S^ UUl ®@GB OECD ECONOMIC SURVEYS UNITED STATES NOVEMBER 1985 ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT Pursuanttoarticle 1 oftheConventionsignedinParison 14thDecember, 1960,andwhichcameintoforceon30thSeptember, 1961,theOrganisation for Economic Co-operation and Development (OECD) shall promote policiesdesigned: - toachievethehighestsustainableeconomicgrowthandemployment andarisingstandardoflivinginMembercountries,whilemaintaining financial stability, and thus tocontribute to thedevelopment ofthe worldeconomy; - to contribute to sound economic expansion in Member as well as non-membercountries in theprocessofeconomicdevelopment; and - to contribute to the expansion of world trade on a multilateral, non-discriminatory basis in accordance with international obliga¬ tions. The SignatoriesoftheConvention on theOECD are Austria, Belgium, Canada, Denmark, France, the Federal Republic of Germany, Greece, Iceland, Ireland, Italy, Luxembourg, the Netherlands, Norway, Portugal, Spain,Sweden,Switzerland,Turkey,theUnited Kingdomand the United States.ThefollowingcountriesaccededsubsequentlytothisConvention(the datesarethoseonwhichtheinstrumentsofaccessionweredeposited):Japan (28thApril, 1964), Finland (28thJanuary, 1969), Australia (7thJune, 1971) and New Zealand (29thMay, 1973). TheSocialistFederalRepublicofYugoslaviatakespartincertainworkof theOECD (agreement of28thOctober, 1961). © OECD, 1985 Application for permission toreproduce or translate all or part ofthis publication should be made to: DirectorofInformation, OECD 2, rue André-Pascal, 75775 PARIS CEDEX 16, France. CONTENTS Introduction 7 I. Therecovery sofar 8 A. Overview 8 B. Domestic demand and theexternal balance 8 C. Inflation, employment and the labour market 15 II. Fiscaland monetary policies 23 A. Budgetary policy 23 B. Monetary policy 34 III. Short-term prospects, tensions and risks 42 A. Policy stance and the short-term outlook 42 B. Risks and imbalances 44 IV. Deficits,debtand medium-term imbalances SO A. Budget deficits, interest ratesand investment SO B. Thedollar and the sustainability oftheexternal deficit 61 V. Economic deregulation: transportationand communications 67 A. The motives and extent ofderegulation 67 B. Consequencesofderegulation 71 C. Lessons ofderegulation 84 Conclusions 85 Notes and references 90 Annexes 1. Labourmarket flexibility 104 2. The tax reduction programme and investment incentives 117 3. Deregulation and productivity in the transport and communications sectors 120 4. Federal administrative deregulation 124 5. Calendarof main economic events 126 Notes and references 130 Statistical annex 134 TABLES Text 1. Contributions toGNP growth 10 2. Gross private domestic investment 11 3. Current account ofthe balanceofpayments 13 4. Labour market indicators 17 5. General government expenditure and taxation 24 6. Sources ofthe federal deficit: structural and cyclical components 26 7. Sources ofthe federal deficit: effectsoffiscal policy changes since 1981 27 8. FY 1985 and FY 1986 budgets 28 9. Fiscal stance and the recovery 32 10. Monetary indicators 37 11. Demand and output forecasts 42 12. Negotiated wage settlements 45 13. Costs and prices 45 14. Household financial positions 46 15. Federal debt and the primary deficit 57 16. Investment incentives 1980 and 1984 58 17. External debt position 62 18. Capital account ofthe balanceofpayments 63 19. Domestic and foreign saving 65 20. Imports by general type 66 21. Comparative transportation costestimates 69 22. Indexesofreal freight rates and averagecompensation 73 23. Comparison ofairline costs for serving 200-mile markets 74 24. Employment reductions after AT&Tdivestiture 75 25. Index ofrail carloadings 76 26. Index ofairline fares 78 27. Comparative price performance 78 28. Residential communications, costs and prices 1985 Ql 80 29. Stock values oftrunk airlines 81 30. Return on equity forsurface transportation 83 31. Profit for bell operatingcompanies 84 Annex tables A1. Distribution ofemployment growth by industry 105 A2. Labour market indicators in majorOECD countries 106 A3. Peak-to-peak employment gains and losses by industry 107 A4. Industrieswithlargecyclicallossesandgainsinemployment,November 1982through January 1985 108 A5. Indicators ofemployment mobility in major OECD countries 110 A6. Changing regional disparity in unemployment rates 113 A7. Trends in unionization andcollective bargaining 113 A8. Characteristics ofwage and benefit concessions 1979-1982 114 A9. Service industries: somecharacteristicsofcapital and labour intensity 116 A10. The growth ofairline "hubbing" 122 Statisticalannex Selected background statistics 134 A. National product and expenditure 135 B. Labour market 136 C. Costs and prices 137 D. Household income and expenditure 138 E. Monetary indicators 139 F. Balance ofpayments, OECD basis 140 DIAGRAMS Text 1. The recovery in perspective 9 2. Exchange rate, international competitivenessand the current balance ofpayments 14 3. Cyclical indicators 16 4. Employmentperformance 18 5. Wage and price trends 20 6. Government revenues and expenditures 25 7. Effective rates ofincome tax and corporation tax 31 8. Budget indicators 33 9. Monetary trends and targets 35 10. Money and debt indicators 38 11. Interest rates 40 12. Company finances 47 13. General government indebtedness 53 14. Federal debt 54 15. Interest rates on government debt and the growth rate ofGNP 55 16. Interest rates in the OECD area 59 17. Investment, profits and the relative price ofcapital goods 60 18. Cross-subsidy issue in telecommunications: local and long distance 70 19. Airline productivity: load factor versus distance 77 20. Post-deregulation airline market share and growth 81 21. Post-reform railroad market share and growth 82 22. Post-reform trucking market share and growth 83 Annex 3 A-1. Scale economy issue: aircraft level 1978 120 A-2. Post-deregulation: the economics ofhubbing 121 BASIC STATISTICS OF THE UNITED STATES THELAND Areacontinental UnitedStatesplus Populationofmajorcities,includingtheir HawaïandAlaska(thous.sq.km) 9363 metropolitanareas(1.4.1980estimates): NewYork 9 120000 LosAngeles-LongBeach 7478000 Chicago 7 104000 THEPEOPLE Population,July 1984 236600000 Civilianlabourforce 1984 113544000 No.ofinhabitantspersq.km 25 ofwhich: Population,annual netnaturalincrease Employedinagriculture 3321 000 (average1976-1981) 1 486000 Unemployed 8 539000 Annualnetnatural increase,percent, Netmigration(annualaverage 1976-1981) 487000 1976-1981 0.6 PRODUCTION Grossnationalproductin 1984(billionsofUS$S)) 3662.8 Originofnationalincomein 1984(percent GNPperheadin 1984(US$) IS481 ofnational income'): Grossfixedcapitalformation: Agriculture,forestryandfishing 2.6 PercentofGNPin 1984 17.8 Manufacturing 22.3 Perheadin 1984(US$) 2763 Constructionandmining 5.9 Governmentandgovernmententerprises 14.3 Other 54.9 THEGOVERNMENT Governmentpurchasesofgoodsandservices, Compositionofthe99thCongress: 1984(percentofGNP) 20.4 House RevenueofFederal,stateandlocalgovernments, of Senate 1984(percentofGNP) 33.5 Representatives FederalGovernmentdebtaspercentofreceipts fromthepublic. 1984 186.3 Democrats 255 46 Republicans 180 54 Independents Undecided Total 435 100 FOREIGNTRADE Exports: Imports: Exportsofgoodsandservicesaspercent Importsofgoodsandservicesaspercent ofGNPin 1984 9.9 ofGNPin 1984 11.7 Mainexports 1984(percent Mainimports 1984(percentof ofmerchandiseexports): merchandiseimports): Machinery 28.4 Food,feedsandbeverages 6.4 Transportequipment 14.0 Industrialsuppliesandmaterials 37.7 Foodandliveanimals 11.5 Capitalgoods(excl.cars) 18.3 Crudematerials(inedible) 9.5 Automobilevehiclesandparts 16.9 Chemicals 10.5 Consumergoods(non-food) 18.1 Manufacturedgoods 7.1 Allother 2.5 Allother 19.0 I. Withoutcapitalconsumptionadjustment. Note: Aninternationalcomparisonofcertainbasicstatisticsisgiveninanannextable. ThisSurveyisbasedontheSecretariat'sstudypreparedfor the annual review ofthe United States by the Economic and Development Review Committeeon 23rdSeptember 1985. Afterrevisionsin thelightofdiscussionsduringthereview, final approval ofthe Surveyfor publication was given by the Committeeon 22ndNovember 1985. CONVENTIONAL SIGNS Ql.etc. Calendarquarters BEA BureauofEconomicAnalysis DoC MI Calendarhalfyears BPEA BrookingsPaperson Economic nsa Notseasonallyadjusted Activity saar Seasonallyadjustedannual rate CBO Congressional Budget Office COLA Cost-of-livingadjustment CEA Council ofEconomicAdvisors FY Fiscal Year DoC DepartmentofCommerce NIPA National Income and Product DoL DepartmentofLabor accounts FOMC Federal Open Market Committee NOW Negotiableorderofwithdrawal FRB Federal Reserve Board MMDA Moneymarketdeposit account NBER National BureauofEconomic MMMF Moneymarket mutual fund Research OMB Office of Management and the Budget INTRODUCTION TheAdministration's medium-termeconomic strategy,presented in the 1981 Program for Economic Recovery,contained a commitment to anti-inflationarymonetary policy, tax andpublicexpenditurereductionsandregulatoryreform.Expectationsofsustainedbalanced economic growth were initially frustrated by the worst recession since the thirties (in 1981-1982)andpost-warrecordhighunemployment. Butthesubsequentcyclical upturn hasalsobeenveryrapid.Inthefirsttwoyearsoftherecovery (1983/1984)outputgrowthwas stronger than in past upturns, inflation came down toone ofthe lowest rates in the OECD area,whileunemploymentalsofellsubstantially.Thissituationstandsinmarked contrastto that in Europe, where disinflation has been accompanied by modest economic growth and risingunemployment. Businessfixedinvestmentin theUnitedStateshasalsorisenstrongly. Risks that the recovery may abort in the near future because of inflation and supply constraintshavethereforebeenreduced.Sinceearly 1985,however,activityhassloweddown markedlyandalthoughprospectspointtocontinuedexpansion,oftheorderof2'A-3 percent over the next eighteen months or so, increasing signs of hesitancy have appeared. Rising domestic and external imbalances are indeed imposing increasing risks for the sustainability of the recovery. These imbalances include continuing large budget deficits, rapidly risinggovernmentdebt,awideningcurrentexternal deficitand a rapid deterioration of the U.S. international investment position. In spite of recent declines, high real interest ratesandthestrongdollarremainsourcesofdifficulty. Decliningnetexportshaveintroduced a wedge between domesticdemand andoutput. Industrial production has risen onlyslightly overthe last year. By threateningthesurvival ofsomesectorsoftheeconomy poorexternal competitivenessalsotendstofuelprotectionistpressure. Ifleftuncorrected,theseimbalances could ultimately build up to unmanageable proportions, leading to a recession or to a rekindling ofinflation, perhaps both. This situation raises fundamental issues for economic analysis and for policy, both in the United States and abroad. Major challenges will be to reduce thestructural budgetdeficitand securea smooth,orderly depreciation ofthe dollar, while sustaining the momentum ofthe recovery. PartIoftheSurveyhighlightsthekeyfeaturesofthecurrentrecoveryinrelationbothto pastcyclical episodesand todevelopmentselsewhere, notably in Europe. The monetary and fiscalpolicystanceisdescribedinPartII.Short-termprospectsarepresentedinPart III,with special emphasis being put on the potential risks and uncertainties which could blow the economyoffcourse. Medium-termfinancialimbalancesareexaminedin Part IV;theanalysis dealswiththeimpactoffederaldeficitson interestrates,governmentdebtaccumulationand activity. Problems related tothedollarand thesustainability oftheexternal deficit are also reviewed in thecontextofmedium-term financial imbalances. Section V assessesthe impact ofderegulationinthetransportandtelecommunicationssectors.Conclusionsarepresentedin PartVI. I. THE RECOVERY SO FAR A. Overview The current recovery, now over two-and-a-half years old, followed the longest and deepest recession since the Great Depression. The threeyears between 1980 and 1982 were characterizedbynearstagnationofoutputandasharpriseinunemploymentand inflationto peaks ofabout 11 per cent. In many respects theupturn has followed a classic pattern. The recovery of output stemmed initially from a slowdown in the strong pace of inventory liquidation, and substantial increases in other interest-sensitive components of demand (particularlyautomobiles and housing). Itquickly broadenedtootherdemand components, especiallybusinessfixedinvestment.Ithas,however,beencharacterizedbyseveraldistinctive features. Over the first ten quarters (late 1982 to early 1985), real domestic demand increased more rapidly than in comparable cyclical episodes (Diagram 1) but real GNP growthwasmoretypical becauseofthestrongdeterioration inthecurrentexternal balance. ThispatternresultedfromthestrongcyclicalpositionoftheUSeconomyinrelationtothatof its maintradingpartnersand themarked real appreciationofthedollar. Real businessfixed investment increased at roughly twice the rate experienced in earlier recoveries, with investment in high-tech areas being especiallystrong. The growth ofemployment has been rapidinsharpcontrasttotheEuropeanexperience.Butthelargeimbalancebetweendomestic demand and output has been reflected in the disparity of sectoral growth; manufacturing outputhasstagnatedoverthepastyearwhilegrowthintheservicesectorhasremainedfairly buoyant.Theinflation performanceduringthecurrentrecoveryhasalsobeen betterthanat anytimeduringthe 1970s, withexcessivewagedemandsandupward pricepressureslargely absent so far. B. Domestic demand and the external balance Duringthefirstten quartersofthecurrentrecoverypersonalconsumptionexpenditures accounted for roughly 65 per cent ofthe increase in real GNP from the recession trough, a somewhatlargerthantypical share.Total consumerspendingroseatanannual rateof5 per cent, compared to the average rate of 4.6per cent in past cyclical upswings (Table 1). Spending on durables -particularly automobiles and household furnishings- led the recovery, due both to the decline in interest rates (this category being relatively interest- sensitive)andtostockrebuildingfollowingyearsoflowsales.Thiswasfollowedbyageneral broadeningofconsumerspendingtonon-durablesandservicesastheexpansiongainedhold. Growthofconsumption has beenvery uneven, however. In thefirst six monthsof 1984, real non-autoretail sales burgeoned at a 12percentannual rate but then showed little increase during the second half of the year. Similarly, real residential construction -which had declinedby36percentbetween 1979and 1982-rosenearly50percentduringthefirstyear oftherecovery,providingmuchoftheearlymomentumoftheexpansion.Thereafter,housing starts flattened out, and by the beginning of the third year the housing sector's overall contributiontotheexpansionwasonlyslightlylargerthaninearlierrecoveries.Reflectingthe strong employment performance as well as the final round of personal tax cuts effective 1stJuly 1983, real disposable income grew at a 5.0per cent annual rate over the first ten quartersofthe recovery. Federalgovernmentpurchasesofgoodsand servicesmadea larger contributiontoGNPgrowththanusual,asaresultofhigherdefenceoutlays,butsincethatof state and local spending was somewhat smaller than in the past, the general government's contribution to demand was not out ofline with previous recoveries'. Diagram 1. Therecoveryinperspective ^^ CURRENT RECOVERY AVERAGE RECOVERY . l»7J-7» «ECOVERV INDEX (TROUGH QUARTER - 100) INDEX(TROUGH QUARTER lit 118 ne A. REAL GNP 116 114 ^ 114 112 ./"" 112 110 J&£^ 110 108 108 106 106 (cid:9) 104 104 102 102 100 100 » LJ I I I I(cid:9)I(cid:9)I(cid:9)L_l(cid:9)I(cid:9)III (cid:9) ill » OF GNP % OF GNP B. REAL NET EXPORTS -2 - -2 -4 L_l(cid:9)1(cid:9)1 I I I(cid:9)I(cid:9)l_l(cid:9)I(cid:9)I(cid:9)I I I I I I I I I I INOEX (TROUGH QUARTER - 100) INDEX (TROUGH QUARTER = 100) -I 120 C. REAL TOTAL DOMESTIC DEMAND 115 -= 115 110 ^ât^ - no 105 A^V 105 . -asa»^. " "-^^^ \ 100 100 95 LJ(cid:9)1(cid:9)l_l(cid:9)l__l(cid:9)I(cid:9)L_l(cid:9)L_l(cid:9)I(cid:9)I(cid:9)I I I I I I I I -9-8-7-6-5-4-3-2-10 1 2 3 4 5 6 7 8 9 10 11 12 Source: Secretariatcalculations.