One worrisome trend in the fourth quarter was the sharp rise in margin debt, as consumers shifted to borrowing against their stocks which could eventually give the Fed even more reason to crack down. Home sales have been trending down since June 1999, reflecting the higher mortgage rates. This downward trend is expected to continue. Despite the decline, however, both sales and starts remain high with affordability is at its best level since 1974, even though mortgage rates have increased 150 basis points over the past year. Business spending on equipment and software remains strong, despite some weakness in the fourth quarter.
Interest rates are still low, while labor markets are still tight.
The need to substitute machinery for people remains clear. Nonresidential construction has softened because of the higher interest rates and some overbuilding, particularly in the retail sector, which is likely to temper growth in 2000. An additional problem will be the availability of labor, especially with the anticipated boost in highway construction resulting from the Transportation Equity Act. This would be a total of 175 basis points of tightening, putting the funds rate 100 basis points higher than the level that prevailed before the three 25 basis point emergency cuts that were implemented in the fall of 1998. The outlook for Fed policy beyond the next few months has an unusually high degree of uncertainty as unlike past tightening cycles, much of the Fed's impetus to tighten is tied to the strength in the stock market.