The U.S. economy has demonstrated marked resilience in the face of foreign economic turbulence and the reverberations felt in domestic financial markets. As Federal Reserve Board Chairman Alan Greenspan noted in a recent speech, however, "it is just not credible that the United States can remain an oasis of prosperity unaffected by a world that is experiencing greatly increased stress." Two questions now exist: Where will those effects appear, and how severe will they be?The American economy continues to enjoy the longest expansion in peacetime history. Recessions do not occur simply because expansions reach a certain age but instead are triggered either by monetary policy moves or external shocks. The Federal Reserve has removed itself for the time being as the primary threat. Outside shocks pose a greater risk, with troubles mounting in Russia, Asia and Latin America. A further significant widening of the trade gap or a stock market-induced cutback in consumer spending could also jeopardize this expansion.
At this point, the U.S. economy remains poised for a "soft landing." With a 4.5 percent jobless rate signaling full employment, we have contended for some time that the economy would inevitably decelerate to a growth rate close to its long-run potential of about 2.5 percent. Prior to the latest foreign flare-ups, it appeared the Federal Reserve would have to step in to dampen accelerating growth. Now it appears that the economy, which has been growing at an average rate of 3.5 percent during the past year, will moderate to an average clip of about 2.5 percent during the second half of this year and to a pace slightly less than 2.5 percent in 1999.
A widening trade gap stripped more than two percentage points from our gross domestic product (GDP) growth during the year's first half. While that damage is unlikely to accelerate further during the second half of 1998, consumer spending can be expected to moderate in response to recent losses in the stock market. Households have largely relied on rising stock prices to "do their saving for them." As a result, they have been able to spend aggressively while building up their savings at the same time. Saving will now have to come more at the expense of consumption. Meanwhile, other drivers of consumer spending remain healthy. Employment continues to advance impressively, unemployment and interest rates remain low, and wages are rising more than twice as fast as prices.
As nerve-racking as foreign events have been, they continue to produce some positive side effects for the U.S. economy. The search for a safe harbor in U.S. Treasury securities has held 30-year fixed-rate mortgages below 7 percent for three months, the longest span since 1993. This has triggered a record year for home sales and launched a new wave of refinancing.
The dollar's strength and excess capacity abroad have helped keep inflation unusually low for this late in the economic cycle. We forecast an average rise of only 1.6 percent for consumer prices in 1998, while wages are likely to rise an average of about 4 percent. Because consumers account for roughly two-thirds of the U.S. economy, their behavior holds the key to the economy's performance going forward.
Strong business investment in computers and other capital equipment has been a hallmark of this expansion. While slower profit growth may curb some spending, further declines in computer costs, the drive to boost productivity and continued spending to address the Y2K (year 2000) computer problem will support the important investment side of the economy.
The information provided in this analysis was obtained from sources that NationsBank deems to be reliable; however, we do not guarantee its accuracy or completeness.