Continued economic growth in'84

By Alan M. Geyle Economist Unitcd Virginia Bank Richmond, Va.

terest rates brought a new direction in home center retailing-warehouse retailing.

This "Image Builder," attempts to convey price as the leading motivator to buy with large 70,000to 100,000 sq. ft. display areas and 25,m0 to 30,0(D SKUs piled high to create an atmosphere of intense activity.

We have come a long waY from the mom and pop store, but where do we go from here? We must be careful of overcrowding and attempting to look alike.

There is no substitute for position-

HE ECONOMY has moved ahead at a rapidpaceduring the first three quarters of 1983 following the recesion that ended last November. On this anniversary of sorts, it is im- portant to review the forces behind the recovery and how these same factors will affect the economy in 1984.

The consumer has been the driving force behind the recovery registering strong gains in both the housing and auto sectors. Retail sales grew rapidly during the early part of the year and through the spring, accounting for nearly all of the 9.790 gain in second quarter GNP. However, much of the spending increases came at the expense of savings, so that despite growth in both emPloYment and income, the pace was not sustainable. In fact, by the third quarter, the level of spending tapered significantly and the savings rate returned to a more ttnormal" range.

The business sector was somewhat slow to respond to the recovery early in the year exercising due caution following four years of sluggish sales. Increases in output were sufficient to meet current demand, but inventory liquidation continued into the spring. It was not until June and July that business production reached a level that p€rmitted some accumulation of socks. This rise in inventories was a key element in the 7.990 gain in third quarter GNP.

Against this backdrop of recovery, the Federal Reserve has pursued a narrow course between encouraging growth and maintaining control over inflation and the money suPPlY. As the economy began to gather mo- mentum in the second quarter, it was accompanied by similar growth in the money supply. By May, the Fed determined that it needed to slow this money growth and interest rates began to rise. This particular decision to raise rates was especially difficult in light of the distortions to Ml and M2 related to the creation of the new

Story at a Glance

Economy makes transition to expansion phase. .housing starls near 2 million units. real GNP to expand 5olo, inflation at 41/zo/o. ..higher interest rates. saving more financially attractive. money market accounts. Nevertheless, by the end of the third quarter, all of the monetary aggregates had slowed and moved comfortably within their targeted ranges.

It is important to review the economic and financial developments of the past 12 months as they set the stage for 1984. Following a period of rapid recovery from a long recession, the economy is now making the transition from making up lost ground (the recovery phase) to breaking new ground (the expansion phase). Although it has taken ayear to do so, the economy has nearly moved back to pre-recession levels. As we enter 1984, we should look for continued growth in economic activity, but at a slower and more sustainable pace than we experienced in 1983. The consumer will re-emerge from the summer doldrums just in time for Christmas and remain healthy throughout 1984. Housing and auto sales will pick up and resume a moderate growth rate during the year. Housing starts should approach the 2 million unit rate but are not likely to cross it. Auto sales will also improve but to not more than 10 million units. These are respectable performances but they do not match the "boom" periods of the 1970s. We should look for this recovery to be slower than those of the past decade, but it will be more durable given the continuing presence of the Federal Reserve. Real GNP will expand approximately 590 year over year while inflation will remain moderate at 4VzVo as measured by the CPI.

Interest rates will begin to rise in the second half of the year as the economy gains momentum and the demand for funds clashes with the

Fed's control over the money supply. Until then, however, the combination of slow money growth and sagging business loan demand will allow rates to decline moderately into the second quarter. The projected Federal deficit of $175 billion in fiscal year 1984 will prevent any significant drop in rates. The posture of the Federal Reserve will be to maintain a lid on money growth so as to prevent a resurgence of inflation. To that end, the Fed will tend to follow interest rates down rather than lead any rate decline.

Over the course of the next several years, this expansion will differ from others in some key areas. The first is that inflation will remain low, and with it the demand for goods. We cannot look for inflation to "bail us out" of unprofitable ventures through rising prices. This will also tend to curtail loan demand. On the positive side, however, labor costs will grow much more slowly. The current trend in labor negotiations suggests that this pattern will hold for several more years. Finally, the prospects for large deficits into the foreseeable future and tight control over the money supply will keep real interest rates at high levels for some time to come. Saving will become much more attractive than it was in the past.