Requirements for the Project on Interest Rate Recommendation. I. Objective.
This project seeks to provide students with an understanding of how economic policy, specifically monetary policy, seeks to influence the performance of the U.S. economy, as measured by some key indicators.
Your task is to diagnose the state of the U.S. economy and its prospects for the coming months to make a recommendation regarding what the Federal Reserve ought to do to interest rates. Specifically, you are to recommend that the Fed take action to increase interest rates (if you believe that the key problem is one of accelerating inflation), decrease them (if you believe that the key problem is a recession or a stagnant economy with high unemployment) or leave them unchanged (if neither unemployment nor inflation seems to be a problem.) In making your recommendation, please consider what the Federal Reserve has done with respect to interest rates in the recent past (within the past six months or so –have they taken action to influence changes in interest rates?)
You are to diagnose the state of the economy using actual statistics for the three key measures of macroeconomic performance: The rate of growth of Real Gross Domestic Product (GDP), the unemployment rate, and the inflation rate. Additionally, to project the direction of the U.S economy in the coming months you are to use data on the Purchasing Managers Index or the Index of Leading Economic Indicators. Brief comments on these economic indicators follow:
As a starting point for finding the data, I suggest the following sites: 1. Good websites for many statistics about the US economy are:
The U.S. Bureau of Economic Analysis (BEA): www.bea.gov
(For data on real GDP Growth—look for the % change from the preceding period
in chained 2009 dollars).
The U.S. Department of Labor’s Bureau of Labor Statistics: www.bls.gov
(for data on Unemployment rates, and Inflation as measured by % changes in the
Consumer Price Index—CPI).
2. The National Association of Purchasing Managers (now called the Institute of Supply Chain Management): www.ISM.ws
For the Purchasing manager’s Index, look for the “ISM Report on Business”. Some comments of these key economic indicators:
1. GDP growth rate: reported quarterly, it measures the annual rate at which real GDP grows during a given quarter, it is the annual speed at which the U.S. economy is growing during that quarter. Example: If the report says that GDP growth for the first quarter of 2016 was 1.5%, it means that is such growth rate is maintained for the next three quarters then real GDP will have increased by 1.5% for the whole year. The consensus among analysts is that an optimum growth rate for the U.S. is an annual rate of about 3%. If that growth rate falls below 3% for several consecutive quarters then growth would not be sufficient to provide additional employment opportunities for a growing labor force and, therefore, increases in unemployment would be likely. On the other hand, when GDP grows at a torrid pace, at an annual rate in excess of 3% to 4% for a prolonged period of time (more than just a couple of quarters) then, according to historical experience, the risk of accelerating inflation is increased. This is so because during those very prosperous times of rapidly rising incomes and low unemployment, consumers and business are very willing to get into higher levels of debt and bankers are also be very willing to increase their lending and, under these circumstances, fueled by purchases on credit, there is the risk that total demand for goods and services may exceed the economy’s capacity to produce enough to satisfy those demands and, ultimately, when demand exceeds supply, inflation is inevitable.
So, for your project, find the quarterly rate of GDP growth (in %) for the most recent eight quarters and see what type of trend there is in this economic indicator during the year and a half to two years.
2. The Unemployment Rate, reported monthly, measures those unemployed as a percent of the labor force. Look for the for the figure for the whole country and for all workers, even though the labor department reports the unemployment rate for different groups based on age, race, gender, etc. Find unemployment rate figures for the past twelve months to see what trend, if any, has developed during the past year.
NOTE: Monthly Unemployment and inflation data are compiled and published by the U.S. Department of Labor’s Bureau of Labor Statistics at www.bls.gov
3. Over then long-term, the average annual rate of inflation in the United States has been just under 3%. The Inflation rate is reported monthly via the Consumer Price Index for a given month. For comparison purposes, to ascertain whether inflation is accelerating, decelerating or remaining unchanged, one needs to compare annual inflation figures.
Here’s what you need for the project.
Find the historical data set for the Consumer Price Index (C.P.I.) monthly time series and then calculate the annual inflation rate for each of the past six years as follows: annual inflation rate for year X = (C.P.I. December year X minus C.P.I. December for prior year) divided by C.P.I. for December of prior year (year X minus one). For example, the inflation rate for 2016 would be equal to the (CPI for December of 2016 minus the CPI for December of 2015) divided by the CPI for December of 2015. Also, look for the monthly changes in the CPI in the most recent 6 to twelve months and make judgement regarding whether inflation is accelerating, decelerating, or remaining relative stable relative to the recent past and relative to the long-term annual average rate.
4. The Purchasing Managers Index this indicator is not a measure of where the manufacturing sector and the overall economy are now, rather, it is a monthly forecasting index to project the direction of the overall economy and its manufacturing sector in the coming months. It is based on historical correlations between this index and the performance of the economy in general and the manufacturing sector in particular, consistent readings in this index above 42.7% over several consecutive months, suggest continuing expansion in the overall economy over the coming months. Readings above 50% indicate continuing expansion in the overall economy and in the manufacturing sector as well in the next several months. Readings below 50% indicate an upcoming slowdown in manufacturing whereas readings below 42.7 % suggest that the recession in the manufacturing sector of the economy is expected to spread to the rest of the economy. Persistent readings in upper 50s range and above suggest increasing risk of accelerating inflation in the future. From the web site in number 2 above, obtain data on the PMI for the past 12 months and analyze the trend, if any, during this period and then make a projection about where the U.S. economy is heading in the near future.
With this information, you can then make a judgment as to what the Federal Reserve ought to do to interest rates to promote a healthy economy
An alternative economic indicator to project the direction of the economy in the coming months is the Index of Leading Economic Indicators. This index is based on eleven variables whose changes precede changes in economic activity that directly affect GDP. For instance, one of the eleven components of this Index is Building Permits. Here’s how changes in building permits issued is a good forecaster of future economic activity: Before any residential or commercial construction gets started, the contractor must secure from local authorities a building permit specifying the type of project to be undertaken and the value of such construction. The processing of such building permit applications takes a few weeks, therefore, changes in the number and value of building permits are good indictors of the level of construction activity (part of the Investment spending component of GDP) some four to eight week later. Historically, several consecutive monthly increases in the Index of Leading Economic Indicators have signaled positive economic growth in the months ahead. Conversely, several (six or more) consecutive monthly decreases in this Index of leading Indicators have, in the past, been associated with a very high probability of an upcoming recession in the months to come.
II. Content Requirements.
The following requirements apply to the text / main body of your paper: The main body of your paper should not be more than three typed, double-spaced pages in font 12, not including your title paper, graphs or chats appendixes to present your data, and the works cited page.
Your interest rate policy recommendation to the Federal Reserve Board (either to increase or to decrease interest rates or to leave them unchanged) must be stated in the opening paragraph of your paper along with a brief and general justification (explanation) of why you have decided to suggest such policy option—what is the pressing problem or threat confronting the economy? Is it an acceleration of inflation or the threat of it? Is it raising unemployment or the possibility that a recession is in the making? Or is the economy fine just as it is, with neither unemployment nor inflation being of significant concern?
The rest of the text of your paper must be devoted to substantiating the reasons for your monetary policy (interest rate) recommendation. In your text you must include your analysis of the latest figures/trends in the following economic indicators:
1. GDP growth. 2. Unemployment rate. 3. Inflation as measured by percentage changes in the Consumer Price Index. Statements such as …”the economy has continued to grow at a healthy pace over the last few quarters”… or….”unemployment has increased sharply in the last few months”…or… “inflation appears to be under control” are too vague, you need to use numbers!!!
To support your assessment of where the U.S. economy is heading over the next few months you must also include your analysis the Purchasing Managers Index or the Index of Leading Economic Indicators.
III. Technical Requirements.
Your paper must be typed, double spaced, using a font size no smaller than 12. In addition to the title page, the main body of you report must not exceed three pages of text plus the Appendix with the graphs and a works cited/bibliography page(s).
The title/cover page must include the name(s) of student(s), title of paper, course number and section, course title, semester offered and professor.
Sources of statistics or quotes included in the main body (text) of the paper must be identified via abbreviated parenthetical references in the text itself. Example: Suppose that the following statement appears in your text…
The Purchasing Managers’ Index (Graph III) increased from 53.4 in September to 54.2 in October 200x (WSJ, date) …….. your text continues…….
A full citation, including author (if identified), title of article, report or book, name of periodical, date of publication and relevant page(s) must be included in the works cited/ bibliography section of the paper as follows: (The full citation below refers to your statement about the change in the Purchasing Managers Index in August 200x)
Bodipo-Memba, Alejandro, “Economic Data Show Strength in August”, The Wall Street Journal, September xx, 200x, p. A2.
Works cited must be arranged in alphabetical order—by author’s last name (if identified) or by name of agency publishing the report.
For each of the four economic indicators mentioned in your text you must include an original graph (generated with Excel or some other software using the statistics/data you gathered) in the Appendix section of your paper, just before the works cited / bibliography page. Please note that in the example above, on the change in the Purchasing Managers’ Index, there is a parenthetical reference to Graph III. Please do not load the Appendix with extra charts or graphs or figures or statistical information not mentioned in the text of your paper. Also, somewhere in the Appendix section, perhaps at the end, include information on the source(s) for the information (data) used to create your graphs. Please number your graphs in the same order that their respective economic indicators appear in the text of your paper. All told, your Appendix must include four graphs (one for each of the four economic indicators used in your text/analysis.) Please don’t simply cut and paste into your paper graphs found already made and presented in another publication.
Value of project: 50 points. Please note that scores for individual group members are subject to adjustment based on peer evaluations.
Spelling, grammar and punctuation are important and will be considered in your grade for this project.