Gayle Ennis

English

Research Papers in Economics

FINANCIAL FORECASTS: 1974
The views and opinions set forth in this article are those of
various forecasters. No agreement or endorsement
by this Bank or by the author is implied.
It is now fairly apparent that the 1974 economy
will experience a sharply slower pace of real growth
than in previous years. The consensus
1 opinion is
that gross national product in current dollars, after
expanding 11.5 percent in 1973, is forecast to in-
crease only 7.6 percent in 1974. Personal consump-
tion expenditures will rise to $861 billion or 7.0 per-
cent, with most of the gain in the nondurable and
service sectors. A sharp decline in residential struc-
tures is expected to result in a $210 billion level for
gross private domestic investment. In terms of real
GNP, 1974 economic growth appears even more
dampened. After expanding nearly 6 percent in 1973,
real GNP is projected to increase only 1 percent, if
at all, in 1974. Predicted declines in corporate profits,
housing starts, and auto sales, combined with slowed
industrial production growth, make the outlook for
1974 appear rather gloomy. The final factor, prices,
further clouds the picture, with the implicit price
deflator predicted to rise at a 6.4 percent annual rate
during the coming year.
The Arab oil embargo makes any forecast, finan-
cial or otherwise, uncertain at best. Fiscal and mone-
tary policies will be geared to adjust to energy de-
velopments as the year unfolds. The need to take
into account not only the pace of economic activity
but also the rate of inflation and the dollar’s position
abroad presents a challenging proposition. The key
for policymakers in 1974 will be flexibility.
Funds Raised in 1974 The total volume of funds
raised, without regard to maturity length, is expected
to register roughly $175 billion in 1974, markedly
lower than the $185 billion in 1973 (Table I). The
decline is attributable to a substantial drop in the
volume of short-term funds, from $85 billion in 1973
to an anticipated $59 billion in 1974. Some down-
ward pressure on short-term rates should result. On
the other hand, funds raised in the long-term market
are predicted to jump to $116 billion in 1974 from a
1973 level of $100 billion, foreshadowing some up-
ward pressure on long-term rates.
1 The “consensus” figures represent a modal average of approxi-
mately 30 individual forecasts.
There are four categories that must be examined in
any discussion of the funds markets: banks, busi-
nesses, consumers, and government. The past year
saw an almost unprecedented demand for bank credit.
Total bank loans were roughly $31 billion, substan-
tially higher than in 1971 or 1972. This strong de-
mand is expected to abate in 1974 with the increase
in bank credit returning to a more traditional $14
billion. The prime rate is projected to return to a
level more in line with other short-term market rates ;
and as the economy slows, the demand for working
capital funds should diminish.
The volume of business loans will vary more
dramatically in composition than in amount during
1974, with the emphasis shifting from short-term to
long-term business financing. In 1973, the business
sector borrowed nearly $20 billion in the long-term
markets ; this figure will rise to $33 billion during
1974, with the major emphasis on the corporate bond
Table I
CONSENSUS FUNDS FORECASTS*
(billions)
1973 1974
Funds Raised in the
Short-Term Market $ 85.3 $ 59.2
Bank loans 30.5 14.0
Consumer credit 19.9 11.5
Open market paper 5.7 10.8
U. S. Government 8.5
Agencies 21.3 14.4
Funds Raised in the
Long-Term Market 99.7 116.2
Mortgages 68.4 68.7
Corporate bonds 10.8 20.2
Corporate stocks 9.0 12.8
State and local 11.5 14.5
Total Funds Raised 185.0 175.4
*These numbers represent on estimation of the consensus
forecasts of many well-known economists.
14 ECONOMIC REVIEW, MARCH/APRIL 1974market. A subsequent decline in short-term business
borrowing is anticipated. From a 1973 level of $36
billion, short-term financing is forecast to dip to $25
billion in the coming year as a result of the major
decline in bank loans.
Consumer net borrowing in 1974 is expected to
amount to $80 billion, only slightly below the 1973
level. The decrease is wholly attributable to an an-
ticipated $8 billion decline in short-term consumer
credit-installment loans-as automobile and con-
sumer durable sales decline. The demand for mort-
gage funds is forecast to remain strong at $69 billion,
partly because a large amount of construction begun
in 1973 was carried over to 1974 and mortgage
money should be more readily available in the second
half of 1974. It is the consensus opinion, however,
that housing activity is headed downward for 1974
as a whole.
The volume of funds raised by the government
sector is predicted to advance slightly in 1974 to
$23 billion. The U. S. Treasury is expected to main-
tain its modest level of borrowing at almost $9 billion,
an increase of less than $1 billion over 1973. State
and local governments are forecast to increase their
financing more dramatically to nearly $15 billion,
with the volume of security issues up substantially.
The agency market during 1974 is predicted to re-
duce its financing needs sharply to $14 billion from
$21 billion last year. A decline in the volume of funds
needed to support the housing industry is anticipated,
although recent data indicate the drop-off may not
be as large as originally predicted.
The Interest Rate Outlook Interest rates are
undoubtedly the most volatile part of any financial
forecast. The past year was a bitter experience for
rate forecasters, and as a result, most predictions for
1974 mention interest rates in the briefest fashion.
The consensus view, as shown in Table II, is that
short-term rates will decline from the very high
levels reached in August and September 1973. The
decline will be moderated by the atmosphere of in-
flationary expectations that pervades the money mar-
kets, but such factors as a decreased demand for
short- and intermediate-term credit combined with
the expectation of a less stringent monetary policy
should exert a downward thrust on short-term rates.
On the other hand, rates in the long-term sector are
predicted to be almost unchanged from 1973; how-
ever, stronger-than-anticipated demand for funds in
the long-term markets along with intensified infla-
tionary expectations could push long-term rates to
new highs in 1974. A closer look at the anticipated
behavior of some individual rates may produce a
clearer picture of 1974 predictions.
Table II
CONSENSUS INTEREST RATE FORECASTS*
(percent)
Second
Year half avg. Year
1973 1973 1974
Treasury Bills† 7.07 8.05 6.35
Commercial Paper† 8.11 9.39 7.30
Prime Rate 8.01 9.45 7.34
Aaa Corporate Bonds 7.63 7.62 7.75
Aa Utility 7.76 8.14 7.87
*These numbers represent an estimation of the consensus
forecasts of many well-known economists.
†Three-month maturity.
Short-term rates As Table II indicates, the con-
sensus rate on three-month Treasury bills is expected
to decline some 60 basis points by the close of 1974
to a level of 6.35 percent. This figure is over 125
basis points below the average rate for the second half
of 1973. Relatively modest Treasury needs combined
with a reduced demand for short-term funds account
for the downward pressure on bill rates. In the
market for prime, three-month commercial paper the
rate declines are predicted to be more dramatic. By
the close of 1974 the commercial paper rate should
be down just about 80 basis points from 1973 at 7.30
percent, over 200 basis points below the average rate
for the second half of last year. Closely related to the
commercial paper rate is the rate charged prime bank
borrowers-the prime rate. After rising to 10 per-
cent on several occasions during 1973, the prime rate
is forecast to drop below 7½ percent by late 1974,
or over 200 basis points below the average rate for
the entire second half of 1973. The consensus fore-
cast places the prime rate in closer proximity to the
commercial paper rate than the traditional 50-75
basis point spread, but corporate financing patterns
among other things will dictate a tight parallel be-
tween the commercial paper and prime rates during
1974.
Long-term rates The consensus forecast for 1974
shows long-term rates rising slightly over 1973 levels.
The rate on new issue Aa utility bonds is expected to
be at 7.87 percent at the close of 1974, up just over
10 basis points. The heavy bond calendar for the
coming year is the primary stimulus behind the up-
ward shift in the utility rate. As cash flows fail to
keep pace with investment spending and inflationary
expectations strengthen, the rate on Aaa corporate
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bonds should rise during 1974, though not dramati-
cally. The consensus forecast shows the corporate
rate at 7.75 percent in 1974, up 12 basis points. The
rate could move sharply higher if forecasters have
underestimated the volume of long-term financing
needed by the business sector in the coming year.
Monetary Policy The course of monetary policy
plays an important role in shaping conditions in the
financial markets. The conflicting forces of slowed
economic growth, a high inflation rate, an improved
international monetary situation, and a relatively low
level of anticipated Treasury financing will be pulling
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Richmond, Va.
against each other in the coming year, each trying to
influence the course of monetary policy. The con-
sensus of the forecasts shows that a policy of relative
ease is anticipated with moderate growth in the ag-
gregates. A 5.7 percent MI growth rate is forecast
for 1974. The monetary authorities are expected to
be moving toward a policy that allows the aggregates
to expand at a pace consistent with balanced economic
growth and long-term price stability, carefully
avoiding unnecessarily sharp movements in interest
rates.
B. Gayle Ennis
16 ECONOMIC REVIEW, MARCH/APRIL 1974

Financial forecasts : 1974

http://www.richmondfed.org/publications/research/economic_review/1974/pdf/er600204.pdf

Financial forecasts : 1974

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