The San Francisco Federal Reserve, which serves the vast Twelfth District, has released its insights from the Beige Book questionnaire that highlights the economic sentiment of the region.
This District encompasses nine western states, two territories, and a commonwealth, making it the largest in the Federal Reserve System.
Through these questionnaires, the Federal Reserve gathers qualitative and quantitative information from various business and community sources.
This collected data has been instrumental in shaping economic outlooks and understanding regional and national economic trends.
Expectations of future inflation, as reported by businesses and communities, significantly influence current consumer spending and business investments.
Higher hopes for economic recovery can energize spending, while concerns can lead to economic sluggishness.
Analysts and economic forecasters have increasingly turned to mixed data approaches, where traditional “hard” quantitative data is complemented by “soft” qualitative measures to improve the accuracy of predictions.
The current analysis, highlighted in the recent economic letter, discusses indicators derived from qualitative data collected through the SF Fed’s Beige Book over the past decade.
Two specific indexes have been constructed: the SF Fed Business Sentiment Index and the SF Fed Inflation Gauge Index.
These indexes are designed to track sentiments and expectations regarding economic growth and inflation among business contacts within the District.
The findings suggest that these indexes can serve as reliable early indicators for upcoming official data releases and enhance near-term forecast accuracy.
The SF Fed Business Sentiment Index has generally mirrored trends in other recent indices capturing business and household sentiments, while the Inflation Gauge Index has reported a notable increase in expected inflation.
As part of their effort to make this information accessible, the San Francisco Fed has launched a new Twelfth District Business Sentiment data page to regularly monitor trends in these two indexes.
To construct these sentiment indexes, the SF Fed distributed a Beige Book questionnaire to diverse business and community contacts within the District eight times annually.
The respondents share their insights about both national and regional economic activities, including their stance on inflationary pressures and potential output growth.
Questions focus on their expectations for national output growth and inflation for the upcoming year, using a five-tiered scale.
Responses are then transformed into business sentiment indexes through weighted scoring, allowing for the analysis of qualitative sentiments alongside quantitative data.
The SF Fed Business Sentiment Index, measured against changes in national GDP, has shown a correlation coefficient of +0.63, indicating a moderately strong positive relationship.
However, a distinct divergence emerged in 2022 when the index indicated a downward trend despite continued economic growth in the broader context.
This period was characterized by anticipations of reduced consumer spending and strain on household financial stability post-pandemic.
This phenomenon gave rise to the term “vibecession,” which describes the disconnect between prevailing sentiment and actual economic data.
Moreover, while the respondents provided insights on national GDP trends, their responses also encapsulated regional economic conditions.
In fact, when comparing the SF Fed Business Sentiment Index with regional GDP growth measures, a high correlation coefficient of +0.74 was observed, confirming that local perspectives indeed shape the sentiment expressed.
As for the first half of 2023, the SF Fed Business Sentiment Index fell into negative territory, attributed to uncertainties surrounding trade policy and a pessimistic outlook for the job market.
This downtrend was also reflected in other sentiment measures, including national metrics.
Next, the Beige Book questionnaire also delved into inflationary expectations among business contacts throughout the District.
The SF Fed Inflation Gauge Index, which tracks sentiment about national inflation over the past decade, presently demonstrates a strong uptick.
This finding corresponds with figures from the year-over-year headline personal consumption expenditures (PCE) inflation rate, supported by a correlation coefficient of +0.65.
Business contacts have expressed heightened expectations for inflation, influenced by shifting trade policies and persistent inflation levels surpassing the Federal Reserve’s targeted 2% mark.
Currently, there is a striking parallel between the recent spike in expectations and similar trends noted in 2018, indicating connections to previous economic contexts marked by elevated trade tensions.
The overarching objective of these sentiment indexes extends beyond reflective measures; they aim to enhance the accuracy of economic projections.
Linear regressions conducted using data from 2014 to 2022 have demonstrated that incorporating these indices into forecasting models significantly reduces forecast errors for national GDP, regional GDP, and inflation measurements.
The results remain consistent whether forecasting economic output growth or inflation, aligning with various studies indicating the value of integrating qualitative data to improve projections over the short term.
In conclusion, the qualitative insights harvested from regional communities and businesses through the SF Fed’s Beige Book questionnaire reveal vital information about evolving economic conditions.
The generation of sentiment indexes from these qualitative responses has proven beneficial for tracking economic activity and inflation, with implications that can potentially enhance the accuracy of future forecasts.
As the SF Fed continues to observe regional economic patterns, it maintains a commitment to fostering a better understanding of the economic landscape through these innovative approaches.
The ongoing development of tools and platforms, such as the Twelfth District Business Sentiment data page, exemplifies its dedication to providing timely and relevant insights into the economic sentiments shaping the region.
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