North American Economy Will Keep Growing, Propelled by Healthy U.S. Market

11-Jun-1998 12:00 AM EDT

Conference Board

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For further information:
Gail D. Fosler
The Conference Board
(212) 339-0301

Tom Higgins
The Conference Board
(212) 339-0314

For Release Wednesday, June 10, 1998 at 6:30 PM ET Release #4420A

NORTH AMERICAN ECONOMY WILL KEEP GROWING, PROPELLED BY HEALTHY U.S. MARKET But Strong Dollar Weighs On Canada and Mexico

North America - the U.S., Canada, and Mexico -- will grow 3.5% in 1998 and 2.7% in 1999, according to a three-nation study released today by The Conference Board, Inc., The Conference Board of Canada and Centro de Estudios Economicos del Sector Privado A.C. of Mexico.

"While this is slower than the almost 4% growth recorded in 1997, North America's growth rate will still be among the highest in the industrialized world," says Gail D. Fosler, senior vice president and chief economist of The Conference Board, who co-authored the report with Tom Higgins, associate economist. "Only Europe, which is still recovering from the 1993-1994 recession, is expected to grow faster this year than last."

Asia's financial crisis will have little direct impact on the U.S., Canada, or Mexico. But the indirect effects of the crisis on commodity prices, interest rates, and currencies will slow growth and change the dynamics of the North American economy this year.

Trade between North America and the five Asian countries most affected by the crisis (Indonesia, Malaysia, the Philippines, Thailand and Korea) amounts to just 6% of North American exports, or less than 1% of Gross Domestic Product. But the Asian slowdown has depressed commodity and oil prices and this has reduced Canadian export earnings, cut Mexican fiscal revenues, and weakened the currencies of both countries relative to the dollar.

"U.S. market growth will outpace its North American neighbors in 1998 and possibly well into 1999, as Canada and Mexico restrain domestic growth to support their currencies," says Fosler. ( m o r e )

- 2 - THE FED IS BEING CAUTIOUS

The relatively strong, noninflationary position of the U.S. economy has caused the dollar to appreciate. The flight to quality in international capital markets has depressed U.S. bond yields. Both forces have added to U.S. purchasing power at a time when the economy already enjoys strong cyclical gains in employment and income. The U.S. posted a 3.7% advance in first quarter GDP and a 4.9% year-on-year gain in domestic demand. Since Canada and Mexico each send more than 80% of their exports to the U.S., market strength in the U.S. is reflected in advancing exports for both countries. U.S. imports from Canada rose 8% last year, while imports from Mexico surged 15%. These exports have a major impact on the Canadian and Mexican economies.

The U.S. Federal Reserve is charting a careful course between disinflationary forces globally and potentially inflationary forces in the U.S. economy that continue to grow well in excess of even the most optimistic measures of economic potential. Says Fosler: "Look for neutral monetary policy and steady short-term interest rates. But as the Asian economies begin to expand later this year and in early 1999, U.S. inflation and interest rates are likely to rise, slowing both growth and profitability."

CANADA AND MEXICO SHOWING SIGNS OF WEAKENING

Both Canada and Mexico experienced stronger-than-expected growth in 1997. But the Asian crisis and the resulting flight to the U.S. dollar has hurt both the Canadian dollar and the Mexican peso and tempers the immediate growth outlook. The Canadian dollar dropped over 4% during the last six months, prompting the Bank of Canada to raise short-term interest rates twice to help stabilize the currency. This brought Canadian interest rates, which had been lower than U.S. rates for most of 1997, to levels roughly approximating U.S. levels.

A record number of personal bankruptcies suggests consumers will not play as big a role in the Canadian economy this year. Consumer spending, which accounts for roughly 60% of the economy, is expected to rise only 2.6% this year after surging nearly 4% in 1997. The combination of higher interest rates and a weaker consumer sector is expected to dampen domestic demand in Canada. After rising 4.4% last year, domestic demand is projected at 3.2% in 1998 and 3.1% in 1999.

Mexico has been struggling with the decline in the price of global oil. Oil sales provide the Mexican government with approximately one-third of its revenue and account for roughly 10% of total foreign exchange earnings. When oil prices dropped from about $20 per barrel to $14 per barrel between October 1997 and March 1998, currency markets responded by pushing the peso down 8 percent. To defend the peso, the central bank raised interest rates and the government slashed spending to contain the fiscal deficit. The tighter fiscal and monetary stance will cause the domestic economy to slow. After increasing 6.3% last year, domestic demand in Mexico is expected to rise 4.9% this year and 5.1% in 1999. ( m o r e )

- 3 - DOLLAR CRITICAL TO GLOBAL ECONOMY

The value of the U.S. dollar continues to shape the global outlook. Low inflation, strong U.S. economic fundamentals, and a growing appetite to use the dollar for global trade and investment are the basis for a remarkable surge in the dollar's value that began in 1995.

"Although this is good for the U.S. in many ways, the strong dollar also erodes U.S. business profitability and helps to finance a rising trade deficit," says Fosler. "The U.S. trade deficit is expected to rise from $150 billion in 1997 to $220 billion in 1998 and to $260 billion by the end of 1999 - about 3% of U.S. GDP. This expanding deficit adds to the global supply of dollars at a time when changes in currency regimes, and therefore potential changes in the demand for dollars, are underway."

The introduction of the euro in 1999 will add an important currency to the world marketplace that has fundamentals which are almost attractive as the dollar. The U.S. dollar currently dominates the European Union currencies, accounting for nearly half of all trade transactions. The euro may play a larger role in global trade and foreign exchange transactions than do the individual European currencies today, one that is more in line with Europe's role in the global economy. Also, several Asian countries are contemplating currency that would be less dollar-based.

"All of these forces could undermine the U.S. dollar, but, for the foreseeable future, the dollar is king," says Fosler.

GLOBAL GROWTH SHIFTING TOWARD THE U.S.

Global growth will drop from rates of slightly more than 4% in recent years to 3% to 3.5% in both 1998 and 1999. This is a consequence of the dramatic shift in the sources of growth away from the emerging markets to the industrialized countries. For the first half of the 1990s, emerging markets accounted for two-thirds of the increase in world output, although they made up only one-third of the world economy. This year, these countries will still contribute more than their share of growth, but the industrialized world -led by the U.S.-will account for well over half of global output and close to two-thirds of global demand.

- 30 -

Source: North American Outlook, 1998-1999, Report #1218-98-RR, The Conference Board

Information on ordering this publication can be obtained by calling The Conference Board's Customer Service Department at 212-339-0345. Copies are available free to the media (Please call 212-339-0231).


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