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, asmeasured by some key indicators.

Your task is to diagnose the state of the U.S. economy and its prospects for the comingmonths to make a recommendation regarding what the Federal Reserve ought to do tointerest rates. Specifically, you are to recommend that the Fed take action to increaseinterest 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 economywith high unemployment) or leave them unchanged (if neither unemployment norinflation seems to be a problem.) In making your recommendation, please considerwhat 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 ininterest rates?)

You are to diagnose the state of the economy using actual statistics for the three keymeasures of macroeconomic performance: The rate of growth of Real Gross DomesticProduct (GDP), the unemployment rate, and the inflation rate. Additionally, toproject the direction of the U.S economy in the coming months you are to use data on thePurchasing Managers Index or the Index of Leading Economic Indicators. Briefcomments 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).
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2. The National Association of Purchasing Managers (now called the Institute ofSupply 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 GDPgrows during a given quarter, it is the annual speed at which the U.S. economy isgrowing during that quarter. Example: If the report says that GDP growth for the firstquarter of 2016 was 1.5%, it means that is such growth rate is maintained for the nextthree quarters then real GDP will have increased by 1.5% for the whole year. Theconsensus among analysts is that an optimum growth rate for the U.S. is an annual rate ofabout 3%. If that growth rate falls below 3% for several consecutive quarters thengrowth would not be sufficient to provide additional employment opportunities for agrowing labor force and, therefore, increases in unemployment would be likely. On theother hand, when GDP grows at a torrid pace, at an annual rate in excess of 3% to 4% fora prolonged period of time (more than just a couple of quarters) then, according tohistorical experience, the risk of accelerating inflation is increased. This is so becauseduring 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 arealso be very willing to increase their lending and, under these circumstances, fueled bypurchases on credit, there is the risk that total demand for goods and services may exceedthe 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 recenteight quarters and see what type of trend there is in this economic indicator during theyear and a half to two years.

2. The Unemployment Rate, reported monthly, measures those unemployed as apercent of the labor force. Look for the for the figure for the whole country and for allworkers, even though the labor department reports the unemployment rate for differentgroups based on age, race, gender, etc. Find unemployment rate figures for the pasttwelve months to see what trend, if any, has developed during the past year.

NOTE: Monthly Unemployment and inflation data are compiled and published by theU.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 beenjust under 3%. The Inflation rate is reported monthly via the Consumer Price Index fora given month. For comparison purposes, to ascertain whether inflation is accelerating,decelerating or remaining unchanged, one needs to compare annual inflation figures.

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Here’s what you need for the project.
Find the historical data set for the Consumer Price Index (C.P.I.) monthly time series andthen calculate the annual inflation rate for each of the past six years as follows: annualinflation rate for year X = (C.P.I. December year X minus C.P.I. December for prioryear) divided by C.P.I. for December of prior year (year X minus one). For example, theinflation rate for 2016 would be equal to the (CPI for December of 2016 minus the CPIfor December of 2015) divided by the CPI for December of 2015. Also, look for themonthly changes in the CPI in the most recent 6 to twelve months and make judgementregarding whether inflation is accelerating, decelerating, or remaining relative stablerelative 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 themanufacturing sector and the overall economy are now, rather, it is a monthly forecastingindex to project the direction of the overall economy and its manufacturing sector in thecoming months. It is based on historical correlations between this index and theperformance of the economy in general and the manufacturing sector in particular,consistent readings in this index above 42.7% over several consecutive months, suggestcontinuing expansion in the overall economy over the coming months. Readings above50% indicate continuing expansion in the overall economy and in the manufacturingsector as well in the next several months. Readings below 50% indicate an upcomingslowdown in manufacturing whereas readings below 42.7 % suggest that the recession inthe 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 acceleratinginflation in the future. From the web site in number 2 above, obtain data on the PMI forthe past 12 months and analyze the trend, if any, during this period and then make aprojection 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 Reserveought to do to interest rates to promote a healthy economy

An alternative economic indicator to project the direction of the economy in the comingmonths is the Index of Leading Economic Indicators. This index is based on elevenvariables 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’show changes in building permits issued is a good forecaster of future economic activity:Before any residential or commercial construction gets started, the contractor must securefrom local authorities a building permit specifying the type of project to be undertakenand the value of such construction. The processing of such building permit applicationstakes a few weeks, therefore, changes in the number and value of building permits aregood indictors of the level of construction activity (part of the Investment spendingcomponent of GDP) some four to eight week later. Historically, several consecutivemonthly increases in the Index of Leading Economic Indicators have signaled positiveeconomic growth in the months ahead. Conversely, several (six or more) consecutivemonthly decreases in this Index of leading Indicators have, in the past, been associatedwith 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 bodyof your paper should not be more than three typed, double-spaced pages in font 12, notincluding your title paper, graphs or chats appendixes to present your data, and the workscited page.

Your interest rate policy recommendation to the Federal Reserve Board (either toincrease or to decrease interest rates or to leave them unchanged) must be stated inthe 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 thepressing problem or threat confronting the economy? Is it an acceleration of inflation orthe threat of it? Is it raising unemployment or the possibility that a recession is in themaking? Or is the economy fine just as it is, with neither unemployment nor inflationbeing of significant concern?

The rest of the text of your paper must be devoted to substantiating the reasons for yourmonetary policy (interest rate) recommendation. In your text you must include youranalysis of the latest figures/trends in the following economic indicators:

1. GDP growth. 2. Unemployment rate. 3. Inflation as measured by percentagechanges in the Consumer Price Index. Statements such as …”the economy hascontinued to grow at a healthy pace over the last few quarters”… or….”unemploymenthas increased sharply in the last few months”…or… “inflation appears to be undercontrol” are too vague, you need to use numbers!!!

To support your assessment of where the U.S. economy is heading over the next fewmonths you must also include your analysis the Purchasing Managers Index or theIndex of Leading Economic Indicators.

III. Technical Requirements.

Your paper must be typed, double spaced, using a font size no smaller than 12. Inaddition to the title page, the main body of you report must not exceed three pages oftext 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 numberand section, course title, semester offered and professor.

Sources of statistics or quotes included in the main body (text) of the paper must beidentified via abbreviated parenthetical references in the text itself. Example: Supposethat the following statement appears in your text…

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The Purchasing Managers’ Index (Graph III) increased from 53.4 in September to 54.2in October 200x (WSJ, date) …….. your text continues…….

A full citation, including author (if identified), title of article, report or book, name ofperiodical, 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 yourstatement about the change in the Purchasing Managers Index in August 200x)

Bodipo-Memba, Alejandro, “Economic Data Show Strength in August”, The Wall StreetJournal, 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 anoriginal graph (generated with Excel or some other software using the statistics/data yougathered) 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 thePurchasing Managers’ Index, there is a parenthetical reference to Graph III. Please donot load the Appendix with extra charts or graphs or figures or statisticalinformation not mentioned in the text of your paper. Also, somewhere in theAppendix section, perhaps at the end, include information on the source(s) for theinformation (data) used to create your graphs. Please number your graphs in the sameorder 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 economicindicators used in your text/analysis.) Please don’t simply cut and paste into yourpaper graphs found already made and presented in another publication.

IV. Other.

Value of project: 50 points. Please note that scores for individual group membersare subject to adjustment based on peer evaluations.

Spelling, grammar and punctuation are important and will be considered in yourgrade for this project.

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