The E - Conomy?

the e - conomy? FEDERAL RESERVE BANK OF CHICAGO 1999 ANNUAL REPORT E-commerce Is Changing How We Work and Live CONTENTS PRESIDENT’S MESSAGE 1 THE E-CONOMY 4 HIGHLIGHTS OF 1999 16 A YEAR OF SERVICE 19 DIRECTORS 20 ADVISORY COUNCILS 22 OFFICERS 24 EXECUTIVE CHANGES 26 OPERATIONS VOLUMES 27 FINANCIAL STATEMENTS 30 NOTES TO FINANCIAL STATEMENTS 33 PRESIDENT’S MESSAGE IS “ECONOMY.COM” THE WAVE OF THE FUTURE? It is clear that technology is changing how we do our jobs, how firms interact with each other, and how businesses sell to their customers. If the 1990s was the decade of the Internet, the decade during which our eyes were opened to amazing new possibilities, then this may be the decade in which those new possibilities are more fully realized — the decade of “e-commerce.” In just six years, we’ve seen an explosion of online commercial sites directed at consumers and other businesses. E-commerce is certainly a new development, but it is also the latest installment in the history of technology-driven advancement. Like other major technological breakthroughs of the past, e-commerce has the potential to bring the market economy a step closer to its theoretical potential. The cornerstone of the market economy is competition, which gives us the opportunity to choose the best product at the best price and forces us to become more efficient and productive. The result is a higher overall standard of living over time. Despite the major economic progress of the past century, however, we have not harnessed the full potential of competition to improve our lives. From left: Deputy Chairman Arthur Martinez, Chairman Lester McKeever, President Michael Moskow, and First Vice President William Conrad 1 One missing ingredient has been adequate information—the fuel that drives competition. A century and a half ago, a factory owner had a limited amount of information about customers and about potential suppliers and their products. Access to such information was limited by distance and the speed of a horse and buggy. Consumers faced the same limitations in choosing goods and services. As technology improved during the course of the last century, a factory owner could gain information from several different sources within minutes...simply by picking up the phone, or later, by sending a fax. Today, thanks to the Internet, the amount of information available is enormous and the process is closer to being instantaneous. Businesses are using the Internet to find the best price and quality for their inputs. The Internet also enables producers to better monitor customers’ buying patterns and streamline their production process by accurately tracking inventories and flows of material. Some companies are using the Internet to strengthen information links among suppliers, allowing greater customization of products based on customers’ preferences. The Internet has affected the demand side of the economy as well. Consumers now have more choices by accessing the vast, networked marketplace created by the Internet. Of course, the economy may never, in practice, exhibit all the characteristics inherent in the text- book description of perfectly competitive markets. Even the Internet cannot offer us a 100 percent fully-informed choice. There will even be some self-imposed limitations. For example, the question of how to balance the benefits of free flowing information with privacy rights will continue to be a critical issue for the nation and for individuals. Technology and the market are shaping solutions to this dilemma every day, and governmental institutions have also begun to weigh in on the issue. Resolving this and other questions democratically will require the public to become increasingly informed and involved. But what- ever path we choose, the Internet will reduce some of the inevitable limitations of any physical market. It’s too early to tell if e-commerce is just an important innovation, or a revolution in the making. Either way, e-commerce is already having a profound impact on how we work and live. The Internet can already bring buyers and sellers together far more efficiently than ever before. And we could potentially see one universally accessible market for a certain product instead of many disparate markets. How our society shapes, and is shaped by, e-commerce today, will have a lasting impact on our nation and our economy. The dramatic advances in information technology certainly played a role in the healthy economic growth that the U.S. experienced during much of the 1990s. And 1999 provided an appropriate flourish to the end of the decade. Growth in real Gross Domestic Product (GDP) over the four quarters of 1999 was above 4 percent for the fourth straight year, and the unemployment rate averaged 4.2 percent, the lowest since 1969. However, the outcome for inflation, as measured by the Consumer Price Index (CPI), was not as favorable in 1999 as in 1998. The CPI rose 2.6 percent over the four quarters of 1999, up from 1.5 percent in 1998, with the increase largely the result of rising energy prices. 2 The year 1999 marked a successful conclusion of the decade for the Chicago Fed, as well as the economy. The Bank’s highest priority for 1999 was to prepare for Y2K, and I would like to thank our staff for their dedication in ensuring that we were successful in meeting this and many other challenging goals. A listing of the Bank’s key accomplishments can be found on pages 16-19. The Bank’s success in 1999 also reflects the outstanding leadership and counsel of our directors in Chicago and Detroit. I would like to extend my special appreciation to Lester McKeever, who served as the Bank’s chairman from 1997 through 1999. Lester is stepping down as chair in keeping with the Federal Reserve practice of periodically rotating the position. Lester’s wisdom, dedication, support, and leadership have been especially valuable throughout his service on the board, and particularly during his time as chairman. Fortunately, the Bank will continue to benefit from his counsel and insight as he will remain a director during 2000. I would also like to acknowledge Florine Mark, who completed the maximum of six years as a director on the Detroit Branch in 1999, including serving as chair for three full years. Florine’s energy, enthusiasm and expertise will be sorely missed. Finally, I would like to welcome Connie Evans to the Chicago board and Elizabeth Bunn and Edsel Ford to the Detroit board. Each brings important areas of knowledge and experience to our board deliberations. The Chicago Fed had an eventful and successful year in 1999, and we expect that 2000 and the decade following will be even more promising, challenging and full of change. As we enter this new decade, all of us at the Chicago Fed will continue to be guided by our vision, which reaffirms our mission to serve the public interest and commits us to setting the standard of excellence in the Federal Reserve System and providing services of unmatched value to our customers and stakeholders. MICHAEL H. MOSKOW PRESIDENT AND CHIEF EXECUTIVE OFFICER MARCH 20, 2000 3 E-commerce Is Changing How We Work and Live E-COMMERCE.AN ECONOMIC REVOLUTION or an over-hyped fad? Without question, the growth of the Internet has consistently surpassed the expectations of most observers. In 1995, for example, most experts projected that the Internet would have a worldwide user population of about 35 million by 1998. The actual number exceeded 100 million users. Today an estimated 200 million people use the Internet. The astounding growth of the Internet has created a huge and constantly expanding market for businesses involved in electronic commerce directed at consumers as well as other businesses. Experts estimate that Internet users worldwide will spend $2.78 trillion online during the next five years. The U.S. has been the most enthusiastic participant in the surge of e-commerce activity, accounting for 44 percent of the global Web population using the Internet. The U.S. should continue to be the leading market worldwide, with estimates that e-commerce will represent 8 to10 percent of U.S. Gross Domestic Product (GDP) by 2003. However, there is an increasing number of people outside the U.S. using the Internet, and they are expected to account for 65 percent of worldwide Internet usage within five years. While Amazon.com and other online sites directed at consumers have captured most of the headlines, the predominant users of e-commerce are businesses selling to other businesses. According to the International Data Corporation, 70 percent of the transactions conducted globally on the Internet in 1998 were business-to-business, with this millions percentage expected to increase to 86 percent by 2003. INTERNET USER FORECAST 600 How many Web users Forrester Research estimates that annual worldwide revenue there are projected to be for business-to-business sites will reach $1.3 trillion by worldwide at year-end 400 2003 as compared with $108 billion for e-commerce sites Source: ICMM V6.1, IDC 2000 aimed at consumers. U.S. companies are responding to the growing 200 acceptance of the Internet. More than 56 percent of U.S. companies were expected to sell their products online 0 2000 2003 to both businesses and private consumers by 2000, up from 24 percent in 1998. The declining prices of telecommunications, along with decreasing hardware costs, should continue to accelerate e-commerce growth. Increased competition among Internet service providers will put downward pressure on telecommunication prices, affecting costs both in the U.S and abroad, where telecommunication charges are often three times more expensive than in the U.S.

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