BofA Says U.S. Economic Growth to Continue Slowing, Interest Rates to Trend Downward.

SAN FRANCISCO--(BUSINESS WIRE)--Nov. 29, 1995--Economic growth in the United States is expected to slow from a strong 4.2 percent annual rate in the third quarter of this year to 2.8 percent in the fourth quarter, and continue declining to a rate of 2.2 percent in the second half of 1996, according

Writing in the latest edition of Bank of America's Economic & Business Outlook, Wilson notes that since lowering the federal funds rate a quarter percentage point to 5.75 percent on July 6, the Federal Reserve has been holding monetary policy steady. "Based on our projections for the U.S. economy in the coming months, we expect the Fed to keep the federal funds rate constant through the first quarter of next year, before gradually reducing it to 5.25 percent by the end of 1996 to sustain the economic expansion," says Wilson.

In addition, he believes the consumer inflation rate should remain at just under 3 percent next year, as a slowdown in health care costs holds down the cost of labor. This would be the fourth straight year that inflation has been 3 percent or less. In 1993, the inflation rate was 3.0 percent, it was 2.6 percent in 1994, and it is projected to be 2.9 percent in 1995 and 1996.

The yield on 30-year Treasury bonds has been trending downward from a recent peak of 8.1 percent in November of last year to 6.3 percent in November of this year, according to the report. "Based on our latest analysis of the U.S. economy, the yield on 30-year Treasury bonds will likely continue declining, reaching 5.7 percent in the second half of 1996, as economic growth gradually slows and the Fed eases monetary policy," says Wilson.

Looking forward, the prospects for future economic growth depend on the outcome of the fiscal policy debate now taking place in Washington. The Republican-controlled Congress is attempting to make the biggest changes in government spending and tax policies in 60 years. The changes are embodied in 13 appropriations bills, covering one-third of all federal government spending, and a massive "reconciliation bill," incorporating substantial reductions in Medicare, Medicaid, and welfare spending, as well as a large tax cut.

No one knows how the negotiations between the Republicans and President Clinton over these bills will turn out. The President -- breaking with Congressional Democrats -- has already accepted in principle most of the Republicans' goals: balancing the budget in seven years; substantially slowing the growth of welfare, Medicare, and Medicaid spending; and cutting taxes on the middle class and capital gains. But the two sides are far apart on the magnitude of these changes.

Most observers expect the final compromise to be closer to the Republicans' position than the President's, with tax cuts totaling about $190 billion and Medicare savings of about $230 billion. In return, the President will likely receive additional funding for his favorite education and environmental programs.

The BofA Economic & Business Outlook also contains these forecasts by Wilson:

-- For all of 1995, and again in 1996, the civilian unemployment rate is expected to average 5.6 percent, compared to 6.1 percent in 1994 and 7.4 percent in 1993.

-- The interest rate on 30-year fixed-rate mortgages in 1996 is forecast to average 7.0 percent, down considerably from an average rate of 8.1 percent in 1995. In 1994, that rate was 8.4 percent, up substantially from a rate of 7.1 percent in 1993.

-- During 1996, housing starts are expected to decline slightly to 1.33 million units, from 1.35 million units projected for 1995. For all of 1994, there were 1.45 million housing starts, up from 1.30 million starts the prior year.

-- Automobile and light truck sales in 1996 will remain unchanged from 1995, with 14.8 million units being sold in the United States in both years. This is down somewhat from the 15.1 million units sold in 1994, but significantly higher than the 13.9 million units sold in 1993.

-- The budget deficit for fiscal year 1995 was $164 billion and is expected to drop very slightly to $163 billion in the 1996 fiscal year. For fiscal years 1994 and 1993, the budget deficit was $203 billion and $255 billion, respectively.

Through skill or luck -- or some combination of the two -- the Federal Reserve seems to have brought the economy in for a soft landing, says Frank McCormick, vice president and senior economist at Bank of America, who co-authored the report. The Fed has slowed economic growth from an unsustainable 4.1 percent annual rate during the four quarters of 1994 to about 2.8 percent in the four quarters of this year. In 1996, economic growth is expected to slow further to an annual rate of 2.6 percent in the first quarter, 2.4 percent in the second quarter, and 2.2 percent in the third and fourth quarters, says McCormick.

"It should be emphasized, however, that whenever the economy slows to its long-run potential growth rate of about 2.5 percent per year, it is vulnerable to shocks that can tip it into a recession. Indeed, the last time the economy was in this sensitive situation, in mid-1990, the Iraqi invasion of Kuwait caused oil prices to soar and consumer confidence to plunge, precipitating a recession," says Wilson.

"Currently, the budget negotiations present the most significant threat to continued economic expansion. In the unlikely event that negotiations between Republicans and the President completely break down, the reaction of financial markets could be quite adverse. The yield on 30-year Treasury bonds could jump a full percentage point to more than 7 percent, and the dollar could plunge 10 percent to 15 percent in the foreign-exchange markets. In response, consumer confidence might plummet, toppling the slowly growing economy into a recession," Wilson concludes.

CONTACT: Bank of America, San Francisco

Jack Houseman, 415/622-5324