FOMC Minute — 2002-09-24

Minutes of the Federal Open Market Committee

September 24, 2002 
       A meeting of the Federal Open Market Committee was held in the offices 
        of the Board of Governors of the Federal Reserve System in Washington, 
        D.C., on Tuesday, September 24, 2002, at 9:00 a.m. 
      
Present:
Mr. Greenspan, Chairman
Mr. McDonough, Vice Chairman
Mr. Bernanke
Ms. Bies
Mr. Ferguson
Mr. Gramlich 
Mr. Jordan
Mr. Kohn
Mr. McTeer
Mr. Olson
Mr. Santomero 
Mr. Stern

 
Messrs. Broaddus, Guynn, Moskow, and Parry, Alternate Members of the Federal Open Market Committee                                                                                                                       

       Mr. Hoenig, Ms. Minehan, and Mr. Poole, Presidents of the Federal Reserve 
        Banks of Kansas City, Boston, and St. Louis respectively
       Mr. Reinhart, Secretary and Economist
        Mr. Bernard, Deputy Secretary
        Mr. Gillum, Assistant Secretary
        Mr. Mattingly, General Counsel
        Mr. Baxter, Deputy General Counsel
        Ms. Johnson, Economist
        Mr. Stockton, Economist
       Messrs. Connors, Howard, and Lindsey, Ms. Mester, Messrs. Oliner, Rolnick, 
        Rosenblum, Sniderman, and Wilcox, Associate Economists
       Mr. Kos, Manager, System Open Market Account
  Messrs. Ettin and Madigan, Deputy Directors, Divisions of Research and Statistics 
        and Monetary Affairs respectively, Board of Governors 
      
       Messrs. Slifman and Struckmeyer, Associate Directors, Division of Research 
        and Statistics, Board of Governors
       Mr. Whitesell, Deputy Associate Director, Division of Monetary Affairs, Board 
        of Governors
       Mr. Clouse, Assistant Director, Division of Monetary Affairs, Board of Governors
       Mr. Simpson, Senior Adviser, Division of Research and Statistics, Board 
        of Governors
       Mr. Skidmore, Special Assistant to the Board, Office of Board Members, 
        Board of Governors 
      Ms. Low, Open Market Secretariat Assistant, Division of Monetary Affairs, 
        Board of Governors
      Mr. Moore, First Vice President, Federal Reserve Bank of San Francisco
      Messrs. Eisenbeis, Fuhrer, Hakkio, Judd, Lacker, and Steindel, Senior 
        Vice Presidents, Federal Reserve Banks of Atlanta, Boston, Kansas City, 
        San Francisco, Richmond, and New York respectively
      Messrs. Coughlin, Elsasser, and Sullivan, Vice Presidents, Federal Reserve 
        Banks of St. Louis, New York, and Chicago respectively 
      
       By unanimous vote, the minutes of the meeting of the Federal Open Market 
        Committee held on August 13, 2002, were approved.
       The Manager of the System Open Market Account reported on recent developments 
        in foreign exchange markets. There were no open market operations in foreign 
        currencies for the System’s account in the period since the previous 
        meeting. 
       The Manager also reported on developments in domestic financial markets 
        and on System open market transactions in government securities and securities 
        issued or fully guaranteed by federal agencies during the period August 
        13, 2002, through September 23, 2002. By unanimous vote, the Committee 
        ratified these transactions. 
       The Committee then turned to a discussion of the economic and financial 
        outlook and the conduct of monetary policy over the intermeeting period 
        ahead.
       The information reviewed at this meeting indicated that the economy 
        continued to expand in the third quarter, though the tenor of incoming 
        reports was mixed. Data on household and business spending had been solid 
        for the most part, and residential construction remained high. Motor vehicle 
        production provided a sizable boost to economic activity, but other factory 
        output changed little on net. Employment continued to expand unevenly, 
        while labor productivity remained on a strong upward trend. Overall price 
        inflation had fallen over the past year, reflecting favorable developments 
        in the food and energy sectors and a decline in core inflation.
       Aggregate labor market conditions had been mixed in recent months. While 
        nonfarm payroll employment registered further small gains in July and 
        August, the aggregate hours worked by production or nonsupervisory workers 
        declined on balance over the two-month period. The manufacturing and retail 
        trade sectors registered sharp job losses in August, but those were more 
        than offset by hiring in the services and construction sectors. A hefty 
        increase in government jobs at the federal, state, and local levels also 
        boosted payroll employment. The civilian unemployment rate fell to 5.7 
        percent in August despite advances in claims for unemployment insurance.
       Industrial production declined in August, largely offsetting July’s 
        rise. Excluding motor vehicles, manufacturing output was unchanged in 
        both July and August after sizable advances in the first half of the year. 
        Production in the high-tech sector jumped in August, the manufacture of 
        aircraft and parts fell further, and output in the remainder of the industrial 
        sector was mixed. Capacity utilization in manufacturing changed little 
        in August and was substantially below its long-run average.
       Retail sales remained relatively brisk in August despite further decreases 
        in stock prices and consumer confidence. Households boosted their already 
        high level of spending on motor vehicles in response to zero percent financing 
        and larger cash incentives offered by auto manufacturers, and household 
        purchases of goods other than motor vehicles continued to advance at a 
        moderate pace. According to the latest available data, outlays for services 
        rose moderately in July.
       Residential housing activity slowed a little in July and August from 
        the robust pace of the second quarter as further declines in mortgage 
        rates apparently helped to support housing activity in an environment 
        of sluggish employment and diminishing household wealth. Starts of single-family 
        units fell in August to their lowest rate since last November, while starts 
        in the multifamily sector in the July-August period were at their average 
        rate for the first half of the year. Sales of new single-family homes 
        posted a record high in July, and the inventory of unsold new homes remained 
        low. Sales of existing single-family homes in July partially retraced 
        a large drop in June.
       Based on the limited information available, business investment in equipment 
        and software seemed to be advancing at a solid pace in the third quarter. 
        This reflected an acceleration in spending that was associated importantly 
        with notably stronger motor vehicle sales and a halt to the contraction 
        in aircraft expenditures. Outside the transportation sector, outlays on 
        equipment continued to expand at a moderate pace; in addition, the level 
        of orders in July (latest data) moved above shipments for the first time 
        since early last year, and the backlog of unfilled orders edged up. Nonresidential 
        construction activity remained on a steep downtrend in July, with further 
        reductions of spending in all major categories except office buildings. 
       The book value of manufacturing and trade inventories excluding motor 
        vehicles registered a second straight monthly gain in July after many 
        months of heavy liquidation. Despite the rise in stocks, gains in sales 
        and shipments drove inventory-sales ratios to even lower levels across 
        the manufacturing, wholesale, and retail sectors. Survey and anecdotal 
        information suggested that few industries were burdened with sizable inventory 
        overhangs.
       The U.S. trade deficit in goods and services narrowed appreciably in 
        July after two quarters of large increases. The smaller deficit in July 
        reflected continued strong expansion of the value of exports coupled with 
        a decrease in the value of imports. The step-up in goods exports occurred 
        mostly in motor vehicles and aircraft, while the gain in exports of services 
        was spread across travel and other private services. The decline in imports 
        was concentrated in consumer and capital goods, royalties, and license 
        fees. The very limited available information on economic activity abroad 
        in the third quarter suggested continued sluggish expansion in the euro 
        area and Japan, moderate growth in the United Kingdom, further brisk recovery 
        in Canada, and ongoing recovery in emerging Asia. Conditions in South 
        America remained fragile: Economic activity was still very weak in Argentina 
        and Venezuela, and the Brazilian economy had been adversely affected by 
        the turbulence in financial markets, though those markets had stabilized 
        recently. By contrast, Mexico experienced brisk growth in the second quarter.
       Despite a slight pickup in consumer price inflation in August, the increase 
        in consumer prices (measured by either the consumer price index or the 
        chain-indexed personal consumption expenditure index) for the year ending 
        in August was considerably smaller than that for the previous twelve-month 
        period. Much of the drop in inflation reflected developments in the food 
        and energy sectors, but core inflation also declined noticeably. Producer 
        prices for core finished goods likewise signaled a drop in inflation over 
        the last year. With regard to labor costs, average hourly earnings of 
        production or nonsupervisory workers decelerated sharply over the twelve 
        months ended in August, reflecting the effects of both the rise in unemployment 
        and the drop in consumer price inflation.
       At its meeting on August 13, 2002, the Committee retained a directive 
        that called for maintaining conditions in reserve markets consistent with 
        keeping the intended level of the federal funds rate at 1-3/4 percent, 
        but it shifted from a statement of a neutral balance of risks to one that 
        was tilted toward economic weakness in the foreseeable future. Market 
        participants read the tilt and the wording of the announcement as indicating 
        that economic activity in the coming months likely would be weaker than 
        had been expected, and some short-term interest rates eased slightly while 
        broad indexes of equity prices moved lower. The following day’s 
        deadline for the recertification of corporate financial statements passed 
        uneventfully and equity markets rallied. Subsequently, however, a weaker 
        tone to incoming data on production and employment, a gloomier outlook 
        for business profits, and heightening tensions over Iraq seemed to lead 
        investors to revise down their outlook for the economy. Over the intermeeting 
        period, intermediate- and longer-term Treasury security yields and broad 
        equity indexes fell considerably on balance.
       In foreign exchange markets, the trade-weighted value of the dollar 
        in terms of the major foreign currencies appreciated slightly on balance 
        over the intermeeting period as projections for growth of foreign industrial 
        countries, particularly Germany and Japan, were marked down more than 
        those for the United States. The dollar moved within narrow ranges against 
        most major currencies but rose somewhat against the yen and the currencies 
        of other important trading partners.
       M2 growth remained elevated in August, though somewhat below July’s 
        rapid pace. Much of the strength of the aggregate’s liquid components 
        likely was associated with the continuing historically low opportunity 
        costs of holding such deposits, the recent surge in mortgage refinancing 
        activity, and the safe haven provided from volatile equity prices. Borrowing 
        by domestic nonfinancial businesses remained weak, likely reflecting reduced 
        requirements for funds to finance capital spending projects and perhaps 
        the improved tone in the corporate bond market and a modest increase in 
        the issuance of corporate debt. 
       The staff forecast prepared for this meeting suggested that, in light 
        of weaker-than-expected incoming economic data, the expansion of economic 
        activity would pick up more gradually but would still reach a relatively 
        brisk pace late next year. The considerable monetary ease and fiscal stimulus 
        already in place, continuing gains in structural productivity, and improving 
        business confidence would provide significant impetus for spending. Inventory 
        overhangs appeared to have been largely eliminated, and business capital 
        stocks appeared to have moved closer to desired levels. As a consequence, 
        a gradually improving outlook for sales and profits, low financing costs, 
        and the temporary federal tax incentive for investment in new equipment 
        and software were expected to boost business investment spending. However, 
        a less robust pickup in final sales was now expected over the forecast 
        period, which would put somewhat less pressure on resource margins than 
        had been anticipated previously, and the level of activity would remain 
        below that of the economy’s potential for a longer time. The persistence 
        of underutilized resources was expected to foster some moderation in core 
        price inflation.
       In the Committee’s discussion of current and prospective economic 
        conditions, members commented that economic growth appeared to have picked 
        up in the third quarter but that the most recent information had been 
        mixed, raising questions about whether the pace of the expansion going 
        forward would be strong enough to erode margins of underutilized labor 
        and capital resources. For now, a high degree of business caution in the 
        context of substantial uncertainties, exacerbated recently by apparently 
        increased concerns about the geopolitical outlook, continued to restrain 
        business investment and hiring. Even so, the economy appeared to be well 
        positioned for solid gains over time in light of the progress that had 
        been made in bringing inventories and capital stocks into better alignment 
        with sales, the stimulus provided by accommodative fiscal and monetary 
        policies, and the implications of the strong uptrend in productivity for 
        profitable investment opportunities and growth in consumer incomes. With 
        the growth of economic activity nonetheless expected to remain below the 
        economy’s potential for some time, pressures on labor and other 
        resources would be limited and in turn wage and price increases likely 
        would continue to edge lower. 
       In their review of developments in and prospects for key sectors of 
        the economy, members commented that household spending had continued to 
        be well maintained. Buttressed by exceptional strength in sales of motor 
        vehicles, consumer spending had displayed solid growth during the summer 
        months. While survey indicators of consumer confidence had declined this 
        year, the high levels of consumer spending on homes, motor vehicles, and 
        other big-ticket items were, in the view of at least some members, perhaps 
        a better gauge of consumer confidence. The value of homes had continued 
        to rise in most areas, and unusually low interest rates were inducing 
        people to refinance mortgages and in the process to extract and spend 
        some of the embedded equity gains. Increasing home equity values probably 
        were also providing some counterweight to the impact on consumer spending 
        of the negative wealth effects associated with the declines in stock market 
        prices since the spring of 2000. Other positive factors cited as helping 
        to undergird the persisting strength in consumer spending included reductions 
        in federal income tax rates; the availability of financing for consumer 
        durable goods at relatively attractive interest rates, including zero 
        interest rates for selected motor vehicles; and the cumulative effects 
        of productivity gains on current and expected real consumer incomes. Looking 
        ahead, sales of motor vehicles likely would moderate to some extent over 
        coming months from their currently unsustainable levels, and some members 
        referred to indications of slower growth in retail sales in late summer 
        and somewhat downbeat forecasts for coming months reported by a number 
        of retailer contacts. Moreover, the absence of significant growth in employment, 
        should it persist, could at some point have significant adverse repercussions 
        on consumer spending. On balance, consumer spending was seen as likely 
        to remain a positive but possibly a more limited source of support for 
        the expansion over the next several quarters.
       In the context of sustained growth in incomes, low mortgage interest 
        rates, by facilitating the extraction of homeowners’ equity, had 
        played a key role in inducing a high level of spending on residential 
        structures and home improvement expenditures. Tending to confirm currently 
        available data on housing activity, members cited persisting anecdotal 
        reports of robust home sales and residential construction in many regions, 
        though indications of softening were noted in some areas and market segments, 
        particularly in the high-price sector of the housing market. Some members 
        questioned whether generally rising housing prices and elevated levels 
        of refinancings would persist. However, given the anticipated continuation 
        of accommodative conditions in mortgage markets and forecasts of rising 
        incomes, the overall outlook for housing remained favorable.
       Business fixed investment remained a significant question mark in the 
        outlook for economic expansion. Recent readings on business spending for 
        equipment and software pointed to gradual improvement, but nonresidential 
        construction activity continued to be severely depressed in many areas. 
        It was unclear whether the recent strength in orders and shipments signaled 
        a significant acceleration in capital outlays, and in this regard the 
        new information that would become available in the next few weeks might 
        provide important evidence on the outlook for capital spending and thus 
        for the performance of the economy more generally. At least for now, however, 
        anecdotal reports suggested that a high degree of caution continued to 
        characterize business investment decisions in the face of an elevated 
        level of uncertainty. Much of the current spending for equipment and software 
        reportedly represented replacement demand largely associated with the 
        short useful lives of various types of equipment, and there appeared to 
        be little spending that would entail capital deepening. At the same time, 
        several positive factors in the outlook for capital spending could be 
        cited including the greater productivity of new capital equipment, the 
        temporary accelerated expensing tax incentives, generally strong business 
        cash positions, and the relatively rapid depreciation of existing capital 
        equipment. For the present, however, business contacts widely reported 
        that because of prevailing uncertainties they were deferring major investment 
        initiatives until they saw clear evidence of an increased need for capital 
        to meet growing demand.
       Business firms appeared to be in the process of moving from inventory 
        liquidation to accumulation, and the available evidence suggested that 
        inventory positions were getting tighter. Accordingly, prospective growth 
        in final demand would have to be met through increased production. And 
        as demand rose over the next several quarters, businesses were expected 
        to accumulate inventories to maintain desired inventory-sales ratios, 
        adding in the process some limited impetus to the growth of GDP.
       The growth of economic activity in most major foreign countries appeared 
        to be falling below expectations earlier in the year, with adverse implications 
        for U.S. exports. Among those nations, only Canada had experienced a robust 
        economic recovery thus far this year. Current forecasts continued to anticipate 
        strengthening activity abroad, but as in the case of the U.S. economy 
        substantial uncertainties surrounded the timing and pace of the improvement.
       In the context of limited demand pressures on labor and other resources, 
        current forecasts continued to point to quite low and perhaps declining 
        inflation over the next several quarters, although there appeared to be 
        significant crosscurrents in the outlook for prices. Rapid increases in 
        healthcare and other insurance costs and the lagged passthrough of large 
        increases in oil prices would tend to maintain upward pressure on prices. 
        Tending to oppose those forces, though, were the effects on resource use 
        of an extended period of economic activity below the economy’s potential 
        as well as the effects of robust productivity gains on costs, apparently 
        declining inflation expectations, and the persistent absence of pricing 
        power in highly competitive markets. Indeed, the members did not rule 
        out the emergence of appreciably lower inflation. In this regard, some 
        observed that a significant decline in inflation from current levels could 
        imply an unwelcome tightening of monetary policy in real terms. In addition, 
        further sizable disinflation that resulted in a nominal inflation rate 
        near zero could create problems for the implementation of monetary policy 
        through conventional means in the event of an adverse shock to the economy 
        that called for negative real policy interest rates.
       In the Committee’s discussion of policy for the intermeeting period 
        ahead, all but two of the members endorsed a proposal to maintain an unchanged 
        policy stance. In the view of all the members, current forecasts clearly 
        were subject to the risk that economic growth would not be sufficient 
        to reduce excess capacity in labor and capital markets. However, the members 
        who favored a steady policy course noted that the recent data on household 
        and business spending had been a bit stronger than expected and that a 
        number of factors pointed to solid growth over time. In these circumstances, 
        they believed that in the context of prevailing uncertainties more evidence 
        of subpar expansion was desirable before policy was eased further. It 
        was noted in this regard that the information that would become available 
        over the next several weeks should provide an improved basis for assessing 
        the recent anecdotal reports from around the nation that pointed to a 
        possibly slowing expansion. Several members indicated that if compelling 
        evidence of a weak economy were to materialize they would be prepared 
        to ease promptly. Two members preferred an immediate easing action because 
        they were persuaded by what they viewed as already strong evidence of 
        a persisting unsatisfactory, and perhaps weakening, economic performance. 
        While the current stance of policy was already accommodative, they felt 
        that greater stimulus was now called for to foster an acceptable pace 
        of economic expansion.
       All the members agreed that the risks to the economy remained tilted 
        toward weakness and that such an assessment needed to be incorporated 
        in the statement to be released shortly after today’s meeting. The 
        members also accepted a proposal to add a reference in the statement regarding 
        what they viewed as recently heightened geopolitical risks that appeared 
        to constitute a major source of the uncertainty currently prevailing in 
        the economy. The addition was not intended to signal that any particular 
        policy response would be forthcoming in the event of a crisis. Rather, 
        consistent with its usual practice, the Committee would assess the implications 
        of any such development for the domestic economy before deciding on an 
        action. Indeed, if the geopolitical uncertainties were to ease significantly 
        along with what already were apparently diminishing concerns about corporate 
        governance issues, the resulting improvement in business and consumer 
        sentiment could generate a more robust economic expansion. 
       At the conclusion of the discussion, the Committee voted to authorize 
        and direct the Federal Reserve Bank of New York, until it was instructed 
        otherwise, to execute transactions in the System Account in accordance 
        with the following domestic policy directive. 

       
        
          The Federal Open Market Committee seeks monetary and financial conditions 
          that will foster price stability and promote sustainable growth in output. 
          To further its long-run objectives, the Committee in the immediate future 
          seeks conditions in reserve markets consistent with maintaining the 
          federal funds rate at an average of around 1-3/4 percent. 
	
      The vote encompassed approval of the sentence below for inclusion in 
        the press statement to be released shortly after the meeting:
	   
        Against the background of its long-run goals of price stability and sustainable 
          economic growth and of the information currently available, the Committee 
          believes that the risks continue to be weighted mainly toward conditions 
          that may generate economic weakness in the foreseeable future.
        Votes for this action: Messrs. Greenspan, McDonough, 
          Bernanke, Ms. Bies, Messrs. Ferguson, Jordan, Kohn, Olson, Santomero, 
          and Stern. 
         Votes against this action: Messrs. Gramlich and McTeer.
     
		
      Messrs. Gramlich and McTeer dissented because they preferred to ease 
        monetary policy at this meeting. The economic expansion, which resumed 
        almost a year ago, had recently lost momentum, and job growth had been 
        minimal over the past year. With inflation already low and likely to decline 
        further in the face of economic slack and rapid productivity growth, the 
        potential cost of additional stimulus seemed low compared with the risk 
        of further weakness.
       It was agreed that the next meeting of the Committee would be held on 
        Wednesday, November 6, 2002. 
       The meeting adjourned at 1:30 p.m. 

      Notation Vote
      By notation vote completed on September 30, 2002, the Committee authorized 
        Vice Chairman McDonough to accept the “Decoration of Merit” 
        honor to be awarded by the government of Argentina.
	
       Votes for this action: Messrs. Greenspan, Bernanke, 
        Ms. Bies, Messrs. Ferguson, Gramlich, Jordan, Kohn, McTeer, Olson, Santomero, 
        and Stern. 
       Votes against this action: None.
       Abstention: Mr. McDonough.
     
      

Vincent R. Reinhart
Secretary


             
Return to top



Home | 
FOMC
Accessibility |
Contact Us
         Last update: November 7, 2002, 2:00 
        PM