FROM THE OFFICE OF PUBLIC AFFAIRS

When you were here three months ago, real growth had fallen below 2 percent annual rate in the second quarter. It was unclear at the time whether this was a temporary development, or an early signal of a downshift to a slower pace of growth going forward. Last week's advance Gross Domestic Product report settled that issue, at least for the third quarter, with real growth rebounding close to 5 percent. It still leaves unanswered the question of whether growth is likely to continue at such an elevated pace, or whether it will begin to move down toward the economy's longer-term growth potential.

The other major domestic economic development in the past three months had been the apparent intensification of concern over the threat of rising inflation. While the broad inflation measures in the Gross Domestic Product accounts were surprisingly well behaved in the third quarter, there have been some relatively high inflation readings recently from the monthly producer and consumer price indexes. The key question here was the extent to which the bulge in these indexes could safely be attributed to special factors, or whether it might be a signal of a more general increase of inflationary pressures. Recent data releases seem to have reduced, although perhaps not entirely removed, those concerns.

Turning first to the issue of economic growth, last week's Gross Domestic Product results also included a comprehensive benchmark revision of the national income and product accounts, a regular occurrence every 4 to 5 years which in this case changes results from 1959 through the second quarter of 1999. There has been insufficient time to examine the full implications of these revisions to the national accounts with the close attention that they deserve. The changes will undoubtedly prove to be important in appraising longer-term historical developments, and certainly they represent a commendable effort by the Commerce Department's Bureau of Economic Analysis to improve and modernize its accounts in order to keep pace with the ever-changing U.S. economy. But it seems questionable whether such data revisions have much immediate practical significance for us today in tracking the short-term behavior of the economy.

On the revised basis, real growth jumped from 1.9 percent annual rate in the second quarter to 4.8 percent in the third. But, domestic final demand only edged up from a 4.7 percent annual rate increase in the second quarter to 4.9 percent in the third. Consumer spending actually slowed a little from 5.1 percent in the second quarter to 4.3 percent in the third quarter. These are hardly significant changes and do not suggest any clear slowdown in consumer spending. But they do highlight the fact that higher growth in the third quarter was mainly accounted for by a turnaround in inventory investment. In the second quarter, inventory investment had dropped sharply, leaving inventory levels very low in relation to sales, and the third quarter seems to have been a period of voluntary inventory buildup -- one of replenishment. Aside from the inventory swing, the second and third quarters were fairly similar periods of strong final demand.

There are a few scattered signs currently that the economy may be shifting toward a more moderate pace of growth, but nothing that could yet be regarded as decisive. Consumer confidence seems to be slipping from its peak levels, although still remaining high. Largely anecdotal reports suggest that retail sales may have cooled a little. Residential construction is hobbled by shortages of construction labor and home sales have softened. Special explanations can be found for most of these possibly transient signs of weakness and the economy seems to be rolling along currently at generally undiminished speed.

The fourth quarter is regarded by many forecasters as likely to feature even more inventory buildup, as many businesses and perhaps even some consumers begin to practice a "just in case" inventory policy in advance of the Y2K transition into the new millennium. That may introduce some modification of the quarterly path. For example, the Blue Chip consensus forecast in early October from about fifty economists at major businesses, financial institutions and academic research organizations, was carrying a 3.8 percent real growth estimate for the fourth quarter and 2.0 percent for the first quarter of next year as precautionary inventory building ran its course. For the four quarters of next year, real growth was expected to average 2.6 percent, probably not far from many current estimates of the economy's trend rate of growth potential.

Inflation, or perhaps one should say its comparative absence, remains the major puzzle in the current situation.

• Broad measures of inflation in the national accounts remained well behaved in the third quarter. The GDP chain weight price index (which captures only prices for goods and services produced in the U.S.) rose at a 1.0 percent annual rate, down from 1.3 percent in the second quarter. The price index for gross domestic purchases (which reflects only prices paid by U.S. residents) moved up by 1.6 percent at an annual rate in the third quarter following a 1.9 percent rise in the second. An upturn in the price of imported oil is primarily responsible for the higher -- but still low -- rates of inflation on this basis.
  
• The employment cost index (ECI) continues to defy the conventional expectation of an accelerating pattern in a period of such tight labor markets. During the three months ended September, the index rose by 0.8 percent. Growth over the twelve months ended September comes to only 3.1 percent -- a slowdown of 0.6 percentage point from 3.7 percent during the comparable year-ago period. The slowdown has been centered in wages and salaries, which grew by 3.3 percent during the latest twelve months compared to 4.0 percent a year earlier. Growth of benefit costs accelerated narrowly from 2.6 percent to 2.7 percent.
  
• In sharp, and at the time somewhat disturbing, contrast, producer and consumer price indexes for September rose rather abruptly. The 1.1 percent increase in producer prices was a nine-year high. Excluding aberrant jumps in cigarette and passenger car prices, the core PPI index would, however, have risen only 0.1 percent. Even without this deconstruction approach, the core PPI is up this year at only a 0.6 percent annual rate. The CPI core index was up 0.3 percent in September but roughly two-thirds of that increase was due to higher prices for cigarettes and apparel, believed to be temporary.

The economy continues to roll along with few clear signs of difficulty ahead and a remarkably quiescent inflation situation. That is a summary of recent economic developments and the near term economic outlook.