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1111 IIIlIK\1 KI"IK\I U\""'()f'J)\IL", J\:\l \R\ 1'1')0

Money:Its Effect on

the SouthwestEconomy

When:l ch:lnge occurs in the n:llion'smoney ~upply, the effects felt in the

Southwest will vary from slate to slalc1Jl;:C"J,use cach st:ltc's economy differs incomposition.

As C;lrly as the 1950:;, MihonFriedman ol).~en'(,>d th:l( changes in themoney supply have a greater impact onsome SL"CWrs of the economy thanothers, I Recent econometric an:llysisconfirms Fnt;."(!man's observation,Durable goods m;lnufacturing is theIypc of industry most sensitive tochanges in the mone)' supply. $cn'ice­producing industries are the leaslsenSItIve, l11is research has importantimpJictioos for the econonl)' of lheSoulhwest

The economIes of louisiana. '\cwMexico and Texas dIffer in composllionfrom one 3fl()1her, as well as from thenational ("CorlOTll)". For example.dUr:l.bIe goods manuf-aetunng repre­sents a smaller proponion of lou~l­ana's ecooomy than of the nauonaleconomy, '\"ew Mexico's manufaelunngsector is smaller than lhat of lhe nation,and Ihe Texas sen'ice seaor is smaller

lhan lIS national C'OUl11crpan. Examimnghow the U.S, economy diffel"i from theeconomies of Southweslem ~Iates

n.·...eals how effects of money-supplychanges can \'ar) from stale 10 Siale

How Money Affectsthe U.S. Economy

As Chart I shows, research indicalesthat the U.S. L'Conomy's sensitivity 10changes in the money suppl)' \';Hies hyseelOr. The goods-producing andstructures-producing sectors arc morcsensilive 10 a money suppl)' dun)!;ethan is the .service-producing St.'Clor, j

Within the goods-producing sector,money-supply changes aff<"ct rn;tnufac­luring much more than the other-goodssector. Also wi(hin the m:tnuf:!ctufingseCIOr. durJ,ble goods industries arcmore sensilive to the~ changl'!> lhannondur:l.ble goods industries. \ (St.·e-",'by Mom,. l1as Di1Jeremj(lf Effects- II/­

side for expJ(l/w/jmlS of11x-sejiru/illgs)

Chan 2 proVides a funher brc:lk­down of the manufacturing St.'CIor Thechan ranks manufacturing lI'IdustrK.-saccording 10 me degn.--c (0 \\ hichmoney g1"O\\1h affects their OUlput Thebars indicale the peak-percentageincrease in OUtpUi lhal WIll occur inresponse 10 a I-percent lI'ICTe3SC in themoney supply in a gi\'en year Sc\"t~n ofthe 10 indu.stries Il'lO& affected bymoney-supply changes are durablegoods indU51ries 11le lumber, nonelec­tric:d machinery, electricl and dec-

Chart 1Peak Response 01 U,S. Output to a I-PercentIncrease In the Money Supply......u

--"• -"'"""'--­._~-.....~

S<uce '" original aata P9ler KreUmer (1989)

tronic machinery and primary and fabri­cated metals induSlries are among thosemoSl affected. Industries leaSI affeeledlend to be nondurables such as foodand kindred products, tobacco, primingand publishing and petroleum and coal.

The eslimated industry responses,combined wilh the composition of IheU,S, economy, indicte mat me peakimpaCl of a I-percent change in themoney supply is a boo,s{ of 1.11percent in the nationaltOlal of realgross stale product (Table I). Mer lhesecond rear. however, the positivercl:Uionship between money growthand OUtpul begins 10 reve~. Over:14-rear period. a gi...en rnoney-suppl)'increase Ie-J,\'es real OUtput in each.sector unaffected.' But if OIher money­supply changes occur. and in alllikelihood the). ~;Il. (he further stimuluswill ()\"erride the fC\'ersal of the firs!

chan8C.

This document was digitized and made available by the Federal Reserve Bank of Dallas' Historical Library (FedHistory@dal.frb.org).

How Money Affects

the Texas Economy

Chart 2Peak Response of Manufacturing Output to a l·Percent Increase in the Money Supply

'.00

Peteent Change

3.00

The Louisiana economy is JUStslightly less sensitive to changes in themoney supply man is the n:uion.Gcxxb· and structures-producingmdustries make up 61 perrent ofLouisiana's economy (Tabie 3), incontrnS{ to the nation's 54 percent. As

in Texas. this breakdown suggests thatLouisiana would be more affected bynlOl\t"}'+supply changes than the nation.Howt"\,(."T. within the goods sector.

fac.1unng industries. On balance. theeff...-a of nlOney-supply changes onTex:ls m:lnufaeturing is slightly lessthan it is for the nation.

Money-supply changes affect TexasmanufactUring less than n:ltion:ll manu­fac.1uring Ix"Cluse durJble goodsindustries constitute a smaller percent­age of the m:lnufacturing sector inTexas than in the nation. However. theO\'cr:lll proponion of output fromproduction of goods and structures islarger for Texas than for the n:ltion. M;t result. money-supply changes affectoutput in Texas slightly more than inthe n:ltion.

How Money Affects

the Louisiana Economy

2.001.00o

,;;;;;;;;;;;;;;;;;::=' Rubbef and Plastics~ Lumber and Wood ProductsNonelectrical Machinery

Electrical and Electronic: Machi09l'Y

Prtmary Metal Induslries

Fumiture and FIxtures

FabncalecI Metal Proetucts

Paper and AliecI Products

Stone, Clay and Glass ProductsChemicals and AIied Products

Mlsoeltaneous Manulaewong

Lealher aTd Leather Products

Inslluments_.•TrartSj)OI'\alJOn Equtpment

Petroleum and Coal Products

PrintIng and PubliShIng

_ Tobacco Manulaetures

_ Food and Kindred Products

largeS{ proponion of Texa1> m:mufactur·ing output. As Chan 2 sllO\\1>, ch;mgesin the money supply strongly afk'<.1these twO industries. Petroleum :mdcool. food and kindrt.-d produCl1> andpriming and publishing arc among thc.'largest nondurnble goods industries.These industries arc the least affectedby money-supply changes. Thus. theTexas economy consbts of some of themost sensitive and least scruoilive manu-

Texas is mare sensitive to changesin the money supply than the nation is.To undel"Sland why, consider the natureof the S1ate's <."C01lomy. Roughly 61perren! of Texas indusnies fall into thegoods and structures categories, asTable 2 indicates. The comparJ.b1efigure for the Uniled Slates IS onl}' ;'1perren!. l3ecluse the goods- andstructures-producing S<.."Ctors are the twosectors most aff<."Cted by chang<."S in themoney supply, and becau~ these twosectors represent a larger share of theTexas <."COOOffi}' than of the n:uion'seconomy, Texas is more affected bymoney-supply changes th:1.I\ is thl:nation.

The Texas m3nufaClunng sector is

fairly evenly split b<."l\\·een durnble andnondurnble goods industries. InCOn!raSl, durable goods induSlrk>scomprise about 64 percent of the U.S.manufacturing S<.."Ctor. and nondurablegoods industries make up 36 percem.l3ecause Texas has a lower pcrcen!ageof dUT;lble goods industries, andbec:luse these industries are n'lO:>taffected by money-supply changes. theTexas manufacturing se<:tor is lessaffected by changes in the moneysupply than its national counterpart.

Within the durable goods SCi:lOr.nonelel1ricil machinery and electrical;lI\d electronic machinery comprise the

Table 1Peak Effect on Output of a 1·Percent Increase in the Money SupplyUnited States

scuw~ ..... CumonI a.--. "fOUl~ SlMt ProducI, by~ lot sc.-. _ RtigoonIIot SMaect "''''''lll11i3-46.· flEA, u.s. o.~.",,,,.,,,,,eo.m.c.. May 1_.

Percentageof total Percent

Industry: real GSP change"

Goods 49.17 1.466Manufacturing 25.35 1.949

Durable 16.22 2.219Nondurable 9.13 1.424

Other 23.82 0.953Structures 5.25 1.270Services 45.58 0.707

Total 100.00 1.110

'based on Kretzmer's estimates, where M1 is the money-supply measure.

This document was digitized and made available by the Federal Reserve Bank of Dallas' Historical Library (FedHistory@dal.frb.org).

'based on Kretzmer's estimates, where M1 is the money-supply measure.

"based on Kretzmer's estimates, where M1 is the money-supply measure.

Sourot: Survey 01 CU""'l au..--. "'f0Ul1 Gross Stallt Producl. b¥ C<>mponen1, lot Stal" and Regions 101 s.leclld V.....1963-86: BEA. U,S. Otpertr""" Q1 Com"",,,,. May 1988.

of manufa<.1uring in New Mexico. com­p3rt."<! to the nalion's 64 perrent. Thesefigures suggest that output for KeYo'

Mexico's manufacruring sector issomewhat Jess affected by lTIOOt....y­

supply changes man is OUlput in then:lIion's manufacturing sector.

To summarize, 56 percem of NewMexico's OUtpUl comes from produ<.1ionof goods and strucrures, an amountabOUI equal 10 th:" of the n:lIion inlhe...c sectors. This implies Ihat theeffecl of money-supply changt..'S wouldbe lhe same in New "''lexica as in lhe

Percentageof lotal Percent

Industry: real GSP change'

Goods 55.79 1,291Manufacturing 13.61 1.609

Durable 4.63 2.160Nondurable 8.98 1.336

Other 42,18 1.188Structures 5.37 1.270Services 38.84 0.803

Total 100.00 1.100

Table 3Peak Effect on Output of a 1-Percent Increase in the Money SupplyLouisiana

Percentageof total Percent

Industry: reat GSP change'

Goods 54.91 1.393Manufacturing 19.25 1.896

Durable 10.97 2,370Nondurable 8,28 1.329

Ofhe, 35.66 1,122Structures 5.63 1.270Services 39.46 0.820

Total 100.00 1.160

percent of lhe New Mexico economy­nearly the same percentage as for thenalion. Howevcr, the Slate's m:mufac­

luring sector provides only 20 percentof lotal goods production. whereasmanufacruring is orK....half of thenalion's goods-producing sector. Thus.the goods-producmg sector in NewMexico, which includes manufactUring,

is less sensilive 10 chan~ in Ihemoney supply than the nation.

Durable goods industri<,-s-IhoseinduSlries most sensitive 10 money­supply ch:mgcs-make up 54 percent

Table 2Peak Effect on Output of a l-Percent Increase in the Money SupplyTexas

Soutce Suntey 01 Currltl'll~. "l0la1 Gross SIal, Producl. b¥~. lot SlaJ" and Regoon!llot SeIIIC:IId '1__,J963-86: BEA. u.s. Oepertmeonl ot Comme<oe. May 1988.

1lle New Mexico economy is lesssensJ(we 10 changes in Ihe n1OJll")'

supply Ihan lhe nation. TIle bre"Jk­down of New Mexico's OUlpul into

goods, services and strudUres indicateslhal aggregale Slate OUtput should beaffccled 10 lhe same degree as lheUnik"<! St:lles. This is be<.-Juse. as Table4 shows, OlllPUl in the goods andslrudures industries consliltJles 56

How Money Affectsthe New Mexico Economy

Louisiana's manufa<.1uring is dominatedby nondurable goods indU5tries, whichare lillie affected by money-suppl)'changes.

TIle breakdown of durable andnondurable goods industries in louisi­ana is almost exactly oppositc lhal inthe UnJled States: outpul from durablegoods Industries in lhe statc comprises

approximalel)' 34 percem of lOla Imanufacturing OlLlpul, whilc OUtpulfrom nondurable goods indU5tril..'S

comprises roughl)' 66 percen!. Thisanalysis indicales lhal lhe effed ofmoney-supply changes on manuf:ldur­

ing is much less for Louisiana lh:m forlhc nation. Further, three of the fourlargest induslries in Louisiana arcpclrolcum and coal, food and kindredprodUdS and tra.ns!X'rtation equipmem.These induslries are all l<x:'all"d ncar thebOItom of Chan 2, indicating lhat

Louisiana's nondurable goods industriesare among those leaM affected bychanges in the money supply.

l3ec;,ause a fairly large proponlon ofLouisiana's outpul comes from proc:luc­tion of goods and structures. aggrcgalcOUtpul in louisiana should be SOffiC­

wh:u more affect:ed by money shocksthan nalional OUtpul would be. lIow­ever. louisiana's manufacturing 5t."C1orconsblS primarily of nondurahle g()()(6

induslries lhat remain relalively unaf­k'Clcd hy money-supply changes. -!litis.

cvcn lhough the goods-prodUcingsector is proportionally I:Irger inlouisi:ma, it is less sensilive 10 ch:mgcsin the money supply than lhe nation'sgoods-producing sector. The combina­lion of (lll'Se effects cause louisiana tobe jU.':>1 slightl)' less affected b)' looney­supply changes than Ihe liMed States.

This document was digitized and made available by the Federal Reserve Bank of Dallas' Historical Library (FedHistory@dal.frb.org).

'based on Kretzmer's estimates, where M1 is the money-supply measure.

Why Money Has Differential Effects

Sourc:e: SuMty 01 CurteN 8usIne$s. "Total G'O$$ Sla'e P,oOuc1. b\I Compor1enl, Tor Sial" and Region$lot 5elecled Year1O.1963-86: BEA. U.S. Oep.anmenl 01 Comme,ce, May 1988.

Table 4Peak Effect on Output of a 1-Percent Increase in the Money SupplyNew Mexico

sumer. Only durable goods can providesuch a stream. so a change in themoney supply will mQSl likely affectpurchases of durable goods.

A second argument offered 10

explain why money-supply changesimpaa the goods and SUUClUres sectorsof the economy maintains that thesesectors COnsisl of large fllTIlS, wherewage rates are set through laborcontracts. Over any shan-run period,wages cannot rise in response [0 an

increase in the money supply. Instead,a money-supply increase stimulales

demand, and hence output. of goods 10these sectors. Over time, however,wages and prices increase, demandslows and output returns to its previouslevel.

A final argument is lhal money­supply changes affect fltfllS thai arelarge and have substantial marketpower. These fltlllS respond 10 changes

in demand for their produC1S byadjusting the amoum of OUtpulproduced, nOl. by adjusling prices.\

Neither of Ihese latter IWO argumentsapply to firms in lhe service sector,because this sector is generallycomposed of smaller, less concenlratedindustries.

I see Robert Hall, "Markel SUu~and Macroeconomic Auetuations,~

BrooIlings Papers on Economk AetMty2 (19$6): 285-322.

Three arguments can be offered toexplain why changes in the moneysupply may have a greater impact onthe goods and structures se<:lors of theeconomy than on the service sector.One explanation is that these first rwosectors product' output whose pur­chase is interest-rate sensitive. Pur­

chases of goods and structures ::Iremainly fmanced through loans or byissuing deb!: high interest ratesdiscourage such finandng. Thus. to theextent that changes in interest ratesresult from money-supply changes.purchases of these items will beaffected.

Furthermore, within the manufactur­ing SC(1or, money-supply changes havea larger effect on durable goodsindusuies than on nondurable goodsindUSUies. This can be explained bythe fact that, as mentioned above.changes in the money supply affectinterest rates, and durable goodsspending is more imCfCSI-rate sensitivethan nondurable goods spending.Another explanation is thai a change inthe money supply affects personalincome lempor,uily. A money-supplyincrease has a small. positive impact ona person's income before prices adjusland real income returns to its previouslevel. This temporary increase inincome. called transitory Income. isoften spent. on goods that provide afuture stream of benefits 10 Ihe con-

Percentageof total Percent

Industry: real GSP change'

Goods 48.53 1.236Manufacturing 9.22 1.627

Durable 4.98 2.209Nondurable 4.24 0.943

Other 39.31 1.145Structures 7.67 1.270Services 43.80 0.782

Total 100.00 1.040

Ik-'Gluse Texas, Louisiana and NewMexico differ from the nation insector.ll composition, changes in themoney supply affeci e:lch of thesestates differently than the nation,Money-supply changes affeci Texasslightly more than the nation, Louisianajust slightly less than the nation :LOdNew Mexico somewhat less than then:l(ion. These results arc based on the

peak effects of money on output in themajor sectors of each of these e<:ono­mies. Although these effects begin toreverse themselves after two years, ::Ichange in the money supply clearly hasan initi:ll impact on output. [n lll.1ny

cases. subsequent reinforcing changesin the money supply will occur. There­fore, continual increases in money canassist:l region's growth-hut :It the costof infl:nion.-Car.l S. Lawn and O'Ann M. 07.ment

Summary

1 See i\lihon Friedman. l::SSays III

Positive ECOllomics. Chicago: Universityof Chicago Press, 1953.~ See Jean G::Iuger :llld Walter Enders,"Money Neutrality at Aggregate andSectoral Levels.- SOll/bcm ECOllomicjOllma/(lanuary 1989): nl-78, andPeter Kretzmer, "The Cross-IndustryEffects of Un::lnticip:lted Money.~

jOllmal ofMonetary Eco'iomics (March1989): 275-96.} See Kretzmcr (1989). Kretzmer usedM1 ::IS his llloney-supply measure anclonly ::Illowed for unanticipated changesin MI to have an effect on output.• Kretzmer (I989).

n:nion. However. New Mexico'smanu[:lcturing sector constitutes ;1 fairlyslll:lll proportion of its goods-producingsector, and dUl"Jble goods industriesmake up only a small share of manu­fat1Uring. These factors combine tomake New Mexico less sensitive tomoney-supply changes than the n:ltion.