At this time last year, the nation was expected to be headed for a
"soft landing" with GNP growth for 1990 approaching 2.0
percent and no significant increase in inflation. The Tennessee Valley was expected to follow the nation, but with a "rougher
landing." The national slowdown resulting from the Federal
Reserve's efforts to control inflation through higher interest
rates was disproportionately affecting manufacturing-a sector of more
importance to the Valley than to the nation as a whole-bringing even
lower, though still positive, growth to the region. By 1991, the nation
was expected to recover and the region to again experience
faster-than-national growth.

SOFT LANDING ROUGHED UP

BY INVASION OF KUWAIT

The above scenario was on track through most of the first half of
1990. By the end of the second quarter, however, there were signs that
the national economy was weakening even further. The scenario might
still have come about, but Iraq's invasion of Kuwait in August
completely derailed this outcome. The Iraqi invasion caused oil prices
to jump in August by $10,to $30 dollars per barrel. Saudi Arabia and the
other oil producers quickly increased oil production to make up for the
lost Iraq and Kuwait supplies. Nevertheless, oil prices have widely
fluctuated between $27 and $40 per barrel depending upon speculation as
to the outcome of a war that could greatly limit Middle East supplies.

The sharp increases in oil prices were quickly reflected in higher
overall inflation. The Consumer Price Index (CPI) jumped from a 3.7
percent annual rate of increase in the second quarter to 6.4 percent in
the third quarter and is expected to edge higher in the fourth. Economic
weakness caused by the oil price shock was not as immediately apparent
as the increase in inflation, but the signs have been mounting. Housing
starts have been dropping, unemployment has been on the rise, and
consumer confidence has plunged. Industrial production actually declined
in October, and retail sales have been sluggish.

Reports have not been all bad, however. GNP estimates for the third
quarter indicate a healthy 1.7 percent increase after the dismal 0.4
percent increase in the second quarter. Factory orders for durable goods increased sharply in October. And, except for energy price increases,
inflation does not appear to be a problem.

These events have been reflected in the Tennessee Valley economy.
Total regional employment growth was stagnant in the third quarter, and
the unemployment rate increased from 5.6 percent in the second quarter
to 5.8 percent in the third. Building permits and construction
employment have been declining. Already sluggish retail sales slumped in
August and September (the latest numbers available as of this writing).

Valley economic weakness is also evident in manufacturing. Regional
manufacturing employment began to decline consistently in the second
quarter of 1990. Durable manufacturing employment had actually been in
decline throughout 1990 due to restrictive Fed policy, but nondurables
were holding up relatively well until the second quarter.

As with the U.S., not all reports on the regional economy are bad.
Commercial and industrial electrical sales have continued to grow. In
spite of the generally poor conditions in the U.S. auto industry, the
Saturn plant in Smyrna, Tennessee, began production. Sales of Saturn
models have been extremely brisk, and the plant has not been able to
produce enough cars to keep up with dealer orders. Overall, the economic
situation of the Tennessee Valley at the end of third quarter 1990 can
be classified as very weak, but not generally contracting.

1990 COMES TO A BAD END

With the spate of bad reports, it is not surprising that 1990 is
not expected to end on a positive note for the U.S.economy. the U.S.auto
industry has already announced big cutbacks in production for the end of
the year. National surveys of consumers as well as retailers show that
not much buying, especially of the big ticket items, is expected for the
Christmas season. Surveys also show that business investment plans are
generally being put on hold. The positive note is that exports are doing
well due to the low dollar. Government expenditures for Operation Desert
Storm have also been helping to prop up demand. After skirting negative
growth in fourth quarter 1989 and second quarter 1990, there is little
doubt about a contraction of the U.S. economy in fourth quarter 1990.

The fourth quarter performance will carry its momentum into 1991
and start the year off on a bad footing. In real terms, oil price shocks
have thus far been less than half what they were in 1973 and 1979. There
is no reason to expect anything more than a mild contraction of the U.S.
economy.

But, the real key to 1991 is the Middle East situation. It is
assumed that a resolution to the crisis will occur by spring with no
additional disruptions to oil supplies. Oil prices will drop quickly to
the lower $20s per barrel as supply-especially with the hoarding that
has been occurring as a hedge against war-will be ample.thiswill quickly
restore both consumer and business confidence.

The Federal Reserve has been lowering interest rates through the
second half of 1990, although cautiously, and is expected to continue
dropping rates to offset the declining economy. These efforts will see
fruition by providing an extra boost as consumer confidence-and thus
spending and investment-is restored. Thus, the second half of 1991 will
be a period of recovery. However, pervasive problems with a weak
financial system, the Federal budget deficit, and inflationary pressures
will keep growth relatively sluggish.

VALLEY ECONOMY FALLS

BEHIND U.S.

On average, 1991 will be a very weak year for the U.S., similar to
1990 except with a bad start as opposed to a bad end. GNP growth for
1991 will be about 1.2 percent. Me regional economy will follow the same
pattern as that of the nation, but will be somewhat weaker. Gross
Regional Product (GRP) will grow by only about 0.8 percent in 1991.
Figure 1 and Table 1 show the expectations for major economic variables
for the region and the nation in 1991.

The good news for the region is that manufacturing is expected to
perform better in the Valley than in the nation. As seen in Table 1,
regional manufacturing employment is expected to decline only 1.0
percent in 1991 as compared to 1.8 percent for the nation. The tennessee
Valley will see less of a decline in employment in both durable goods
and nondurable goods than will the U.S.

The major reason for the more favorable performance of regional
manufacturing is the current export position of the U.S. In the early
1980s, the U.S. saw a very strong dollar as foreign investors took
advantage of high U.S. real interest rates and the dollar as a safe
haven. The situation is very different today. With tensions between the
major powers minimized, other currencies are considered as safe as the
dollar. Real interest rates in other countries, especially Japan and
Germany, are high; thus, there are good investment opportunities abroad.
This has led to the dollar being valued relatively low against other
currencies.

This is good for the Valley. The region is much more "export
oriented" than the U.S. as a whole. ("Export oriented"
refers to the production of not only goods for export, but also goods
for domestic consumption that are in strong direct competition with
imports.) An analysis of the top 50 export oriented" manufacturing
industries shows that the Valley has over twice the amount of employment
in these industries as a percentage of the total manufacturing base than
does the nation.

Whereas the strong dollar in the early 1980s hurt regional
manufacturing greatly and contributed to the region's slow recovery
from the 1982 recession as compared to the nation, the low dollar is
helping Valley manufacturing today. Other countries, especially Europe
and Japan, have not been as affected by the oil price shock and continue
to expand. This improves the market for Valley export goods, such as
some of the machineries, which are competitively priced given the
current low value of the dollar. Also, Valley goods for domestic
consumption that compete with imports are also more competitive. For
example, the low dollar allows Valley textiles to be more competitive
against European imports.

Finally, the low dollar also makes it more cost effective to
produce goods for U.S. consumption in U.S. plants rather than producing
in plants abroad and importing the goods into the U.S. Valley
manufacturing will benefit from this as there are several plants in the
Valley that are part of international operations, such as the Nissan
plant in Smyrna, Tennessee.

Even with the export boost, overall demand will be lower in 1991,
causing a decline in manufacturing employment both in the U.S. and in
the region. The decline will be less in the Valley, however, because of
the more favorable impact of the low dollar on regional manufacturing.
In spite of this, the valley economy will perform more poorly overall in
199 1, as was seen in Table 1. Total employment is expected to grow by
0.4 percent for the nation in 1991, while total regional employment
growth will be only half that rate.

This results from the more important role that manufacturing plays
in the regional economy as compared to the nation. Manufacturing
employment makes up 28.0 percent of total civilian non-agricultural wage
and salary employment in the region, but only 18.0 percent in the
nation. Thus, the same percentage decline in manufacturing employment in
both areas implies a larger percentage decline in total employment for
the region.

Further, commercial sector employment in the region is more
dependent upon the income generated by manufacturing than is the case
for the U.S. as a whole. As seen in Table 1, commercial employment in
the nation is expected to grow 1.2 percent in 1991. The Valley's
commercial employment is only expected to grow 0.9 percent, however.
This also contributes to the lower over all growth for the region as
compared to the U.S. in 1991.

UNCERTAINTY IN 1991 DUE

TO MIDDLE EAST SITUATION

As mentioned previously, the scenario depicted above depends upon
the assumption of a quick resolution of th(, Middle East situation by
spring. This is by no means a certainty.

The impact of the war in the Middle East on the economy primarily
depends upon its duration.

If the war lasts only a few months with a quick resumption of oil
production thereafter, the effects would be minimal. The economy would
be worse during the short time oil supplies were cut off during the war,
but would likely recover quickly after post-war oil prices declined.

If the war continues for a long time or if oil fields are seriously
damaged causing a lengthy disruption to oil supplies, the U. S. and
Valley economies would be thrown into a recession rivaling those of 1975
and 1982.

As the Middle East crisis wages on, the Valley should stiffer
through a very weak economy in 1991 but be on the road to recovery,
along with the nation, by the end of the year.

COPYRIGHT 1990 University of Memphis
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