inflation expectations from the Michigan survey were little changed, on net, in November and early December.
Measures of labor compensation indicated that increases in nominal wages continued to be modest. Compensation per hour in the nonfarm business sector rose moderately over the year ending in the third quarter, and unit labor costs moved up at a similar pace as gains in productivity were small. The employment cost index expanded a little more slowly than the compensation per hour measure over the same yearlong period. The increase in nominal average hourly earnings for all employees over the 12 months ending in November was also modest.
Foreign economic activity strengthened in the third quarter, as the euro area continued to recover from its recent recession, economic growth picked up in China after slowing in the first half of the year, and the Mexican economy rebounded from a second-quarter contraction. Inflation slowed recently in many advanced foreign economies, partly as a result of a deceleration in prices for energy and other commodities. Monetary policy remained very accommodative in most advanced economies, but central banks in some emerging market economies recently tightened policy further to contain inflation and support the foreign exchange value of their currencies.
Staff Review of the Financial Situation
Financial market developments over the intermeeting period appeared to be driven largely by incoming data on employment and economic activity that exceeded investor expectations as well as by Federal Reserve communications.
Investors appeared to read the economic data releases over the intermeeting period as better than had been expected and therefore as raising the odds that the FOMC might decide to reduce the pace of asset purchases at its December meeting. Survey evidence suggested that market participants now saw roughly similar probabilities of the first reduction in the pace of asset purchases occurring at the December, January, or March meeting. Market expectations regarding the timing of liftoff of the federal funds rate seemed to be little changed over the period. In part, a variety of Federal Reserve communications were seen as strengthening the Committee’s forward guidance for the federal funds rate and contributing to the stability of expectations for the near-term path of the federal funds rate in the face of an improved economic outlook.
On net, judging by financial market quotes on interest rate futures, the expected federal funds rate path through the end of 2015 moved only slightly since the October FOMC meeting. The expected federal funds rate path at longer horizons rose somewhat, and the Treasury yield curve steepened, with the 2-year Treasury yield about unchanged but the 5- and 10-year yields higher by 21 and 34 basis points, respectively. The measure of 5-year inflation compensation based on Treasury inflation-protected securities dipped 5 basis points, while the 5-year forward measure increased 7 basis points. The 30-year current-coupon yield on agency mortgage-backed securities increased a bit more than the 10-year Treasury yield.
Stock prices were about unchanged, on net, over the intermeeting period, even though some broad equity price indexes temporarily touched all-time nominal highs. Corporate risk spreads narrowed somewhat.
Business finance flows were robust over the intermeeting period. Gross equity issuance by the nonfinancial corporate sector in October and November reached levels not seen in a decade. Gross bond issuance by nonfinancial corporations picked up again after a dip related to the fiscal standoff in October. Similarly, institutional issuance of leveraged loans rose in October and November, and collateralized loan obligation issuance remained strong.
Financing conditions in commercial real estate (CRE) markets were consistent with increased confidence. Year-to-date issuance of commercial mortgage-backed securities (CMBS) remained strong, but far below levels seen before the financial crisis. Responses to the December 2013 Senior Credit Officer Opinion Survey on Dealer Financing Terms (SCOOS) suggested that demand for funding for CMBS picked up since September. CRE loans on banks’ books expanded in October and November at an increasing pace.
Automobile loans continued to expand in October, and available data suggested that this trend was sustained in November. Automobile asset-backed securities (ABS) issuance accelerated in November, and issuance of paper backed by subprime automobile loans stayed strong. In contrast, credit card balances moved sideways, and ABS issuance in that sector stayed flat.
In the residential mortgage market, several large lenders were reported to have eased their underwriting standards slightly, but data suggested that mortgage lenders generally continued to be reluctant to lend to borrowers with less-than-pristine credit scores. Mortgage rates rose over the intermeeting period to levels about 100 basis points above their early-May lows. On balance, refinancing applications were down substantially since May while purchase applications declined much less. House prices rose significantly in October, but some indicators suggested that the pace of house price gains continued to decelerate relative to earlier in the year.
Responses to the December SCOOS generally showed little change in dealer-intermediated financing since September. Credit terms for most classes of counterparties were little changed. One-third of respondents reported a decline in the use of financial leverage by trading real estate investment trusts, whereas the use of financial leverage by other classes of counterparties was basically unchanged. In response to special questions in the survey, dealers indicated that the current use of repurchase agreements or other forms of short-term funding for longer-duration assets was roughly in line with or somewhat below the levels seen early