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Economic Review
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When investors make financial plans, their strategies depend on the returns they expect from investments in the stock market. The expected returns from stocks affect how much investors save, how long they plan to work, and how they allocate their portfolios among alternative investments. Their strategies are most likely to be successful, of course, when they have realistic expectations about stock returns. Over the past several years, stock returns have exceeded their long-run historical averages. For example, the 15 percent average annual return on stocks over the last decade is substantially higher than the 10 percent average return over the previous 100 years. Stock returns were particularly high in 1995 and 1996, averaging almost 30 percent for the S&P 500 stock index. Market observers have reacted to high stock returns in different ways. Many individual investors, for example, interpret recent market strength as the beginning of a new era, with 15 percent returns continuing into the foreseeable future. In contrast, market professionals are generally less optimistic. Indeed, some analysts interpret high stock prices as an indication that future returns will be below their historical average. Golob and Bishop analyze how macroeconomic fundamentals and high price-earnings ratios on stocks will affect long-run returns. Back to top Economic Review home
Growing public awareness of future pressures on Social Security is eroding many Americans' confidence in this key retirement program. These pressures are nearly certain in the next century, stemming from the retirement of the large baby-boom generation, longer average life spans, and lower projected fertility rates. To meet such pressures, various reforms of Social Security have been proposed, ranging from simple repairs to the current system all the way to full privatization. In this context, privatization usually means moving the public retirement system toward a set of individual accounts with the workers' funds invested partly in private securities and with workers having some measure of control over investment allocations. Choosing among the competing reform proposals is a daunting task. Supporters of privatization believe such reforms would boost economic efficiency, resulting in higher real output per worker and helping the nation cope with the future pressures from population aging. Supporters also believe privatization would produce a retirement system that treats different generations more fairly. Critics fear, however, that the privatization of Social Security would produce a more unequal income distribution for retirees and expose them to greater investment risks. Garner examines these fundamental issues of economic efficiency and fairness that should be weighed when considering Social Security privatization. He suggests that any decision to privatize Social Security will require balancing the likely gains of greater real output and fairer returns to younger generations with the possible adverse effects of a more unequal income distribution among retirees and greater investment risks. This balancing must occur through the political process because fairness is a matter of values rather than economic analysis. Back to top Economic Review home
Forecasts of real economic activity are a critical component of many decisions. Businesses rely on such forecasts in forming their production plans. Policymakers rely on such forecasts when choosing the path of monetary policy or when forming the national budget. The appropriateness of these choices depends, in large part, on the quality of the forecast. Despite their importance, forecasts of real economic activity can be unreliable. Forecasts based on macroeconomic models are often hindered by the lack of timely and accurate data and the complexity of the forecasting model. These difficulties have led to a growing interest in using financial variables to supplement traditional model-based forecasts of real economic activity. The advantages of forecasts based on financial variables are that such forecasts are simple to implement, and the data are readily available and less prone to measurement error. One financial variable that has been particularly successful in forecasting U.S. real economic growth is the difference between long-term and short-term interest rates, or the yield spread. While evidence on the usefulness of the yield spread as a predictor of real economic activity for the United States is now well-established, evidence outside the United States is limited. To obtain such evidence, Bonser-Neal and Morley evaluate the ability of the yield spread to forecast real economic activity in 11 industrial countries. Back to top Economic Review home
Recent developments in Congress and the courts have focused attention on the relative roles of commercial banks, thrifts, and credit unions. As concern mounted last year about the state of the thrift deposit insurance fund, Congress required commercial banks to share the burden of recapitalizing the fund. In return, Congress promised to come up with a plan for merging the bank and thrift charters, a move the banking industry has long favored. About the same time, a federal appeals court ruled against a major source of credit union growth since the early 1980s the acceptance of new members with a common bond different from the original members. The Supreme Court later agreed to hear the case, sparking a renewed debate in Congress about the proper role of credit unions in the financial system. These recent actions by Congress and the courts follow a decade and a half of dramatic changes in the depository industry in Tenth District states. Some of these changes have been due to shifts in laws and regulations. Others have resulted from shocks to the regional and national economy and long-run financial trends such as the growth of secondary loan markets. While the changes to the district depository industry have been many and varied, four stand out. First, there has been a significant decline in the number of district depository institutions a decline in which banks, thrifts, and credit unions have all shared. Second, total deposits have declined when adjusted for inflation or measured relative to economic activity. Third, the share of thrifts in total deposits has plummeted relative to that of banks and credit unions. And fourth, while banks, thrifts, and credit unions still specialize in different loans and investments, the three types of institution do not look as different today as at the beginning of the 1980s. Such changes are important because they affect the thousands of depository institutions in the district and the supply of credit and other financial services to district households and businesses. With those effects in mind, Keeton and McKibbon show how the district depository industry has changed since 1979, explain the factors behind each change, and suggest what further changes may lie ahead. |