Today, the Federal Reserve Bank of New York (FRBNY) is hosting the spring meeting of its Economic Advisory Panel (EAP). As has become the custom at this meeting, the FRBNY staff is presenting its forecast for U.S. real GDP growth, the unemployment rate, and inflation. Following the presentation, members of the EAP, which consists of leading economists in academia and the private sector, are asked to critique the staff forecast. Such feedback helps the staff evaluate the assumptions and reasoning underlying its forecast as well as the forecast’s key risks. The feedback is also an important part of the forecasting process because it informs the staff’s discussions with New York Fed President William Dudley about economic conditions. In that same spirit, we are sharing a summary of the staff forecast in this post. For more detail, see the FRBNY Staff Outlook Presentation from the EAP meeting on our website.
Staff Forecast Summary
Here we discuss the FRBNY staff forecast for real GDP growth, the unemployment rate, and inflation in 2017 and 2018.
In our forecast released last April, we anticipated that growth would be weak in the first quarter of 2016 but then rebound over the rest of the year. As a result, we projected a Q4/Q4 growth rate of about 2 percent for 2016, about the same as that for 2015. The logic of that forecast was that the shocks that had been restraining growth at that time, including dollar appreciation, weaker growth among our major trading partners, and the effect of substantially lower oil prices on domestic energy investment, would have run their course by mid-year. The fading effects of those shocks would then set the stage for a rebound of business fixed investment while personal consumption expenditures and residential investment continued to make healthy growth contributions. Finally, the staff assumed that monetary policy would remain accommodative while fiscal policy was expected to be slightly stimulative.
As it turned out, the overall growth rate came in about as expected, although the sources of growth were somewhat different than anticipated. Residential investment, business fixed investment, and government expenditures turned out to be weaker than expected, but consumer spending was stronger than anticipated. In addition, the foreign trade drag was much smaller than expected, which we attribute to the impact of a domestic inventory correction on imports.
The 2 percent growth rate realized in 2016 was above our estimate of the economy’s potential growth rate (1¾ percent), resulting in a moderate decline of the unemployment rate to 4.7 percent in 2016:Q4 and a modest increase in core personal consumption expenditure (PCE) inflation. Both series came in largely as projected in our forecast from last year.
Last year’s forecast envisioned that growth in 2017 would slow to around 1¾ percent as we anticipated slower growth of consumer durable goods spending and a continued substantial trade drag. Even though available data suggest that growth in the first quarter of 2017 was sluggish, we expect growth to rebound over the remainder of the year with the Q4/Q4 growth rate predicted to be around 2 percent once again, as the underlying fundamentals still look favorable.
In particular, the household sector balance sheet is sound and the household financial obligations ratio remains near historical lows. With the labor market at or near full employment and some further strengthening anticipated, growth of real disposable income should increase. We thus project real consumer spending to increase at around a 2¼ percent annual rate, down from around 3 percent in 2016, due to slower growth of spending on durable goods resulting from the aging of the durable goods cycle as well as some tightening of lending standards. We expect the personal saving rate to remain near its February level of 5.6 percent.
The housing market so far has weathered the run-up of mortgage interest rates that occurred over the final quarter of 2016. Both home prices and rents are rising due to tight supply: the inventory of existing homes for sale is as low as it was in early 2005. We thus anticipate that housing starts will be on an upward trend in 2017. Business fixed investment also is likely to grow at a faster pace in 2017 than in 2016 as U.S. manufacturing activity and energy investment are rebounding. The major restraining force on growth is expected to be the international trade sector, reflecting faster growth of real imports and continued sluggish export growth.
With growth expected to remain somewhat above potential in 2017, we expect the unemployment rate to be around 4½ percent by the end of the year, which is below our estimate of the unemployment rate associated with stable inflation (4¾ percent). The unemployment rate decline is expected to be attenuated by a gradual increase of the labor force participation rate. Underlying inflation, as measured by the core PCE deflator, should move gradually higher. With relatively stable energy prices, we expect total PCE deflator inflation to reach and possibly slightly exceed the FOMC’s longer-run objective of 2 percent.
For 2018, we expect real GDP growth to be close to our estimate of potential growth as financial conditions continue to tighten. The unemployment rate and the labor force participation rate are expected to be roughly stable over the year, with productivity growth gradually moving up to its long-term trend of 1 ¼ percent to 1½ percent (on a nonfarm business sector basis). Inflation is expected to be slightly above 2 percent: the overshoot is anticipated to be small owing to well-anchored inflation expectations.
Comparison to the Blue Chip Forecast
Next, we compare the FRBNY staff forecast to the consensus forecast from the April Blue Chip Economic Indicators, published on April 10. The staff forecast for real GDP growth is below the Blue Chip consensus forecast for both 2017 and 2018, with the difference being larger in the latter year. For real consumer spending, both forecasts expect similar growth in 2017, but the Blue Chip consensus expects stronger growth in 2018 than does the staff forecast. One potential explanation for the differences in the real GDP and real PCE projections is that roughly half of the respondents to the Blue Chip survey expect corporate and individual tax cuts at some point over the forecast horizon while the staff forecast has not yet incorporated any fiscal stimulus. In part because of weaker GDP growth, the FRBNY staff forecast projects a somewhat higher path for the unemployment rate than the Blue Chip consensus, particularly in 2018.
The Blue Chip consensus provides a projection of consumer price inflation as measured by the consumer price index (CPI), but not the PCE deflator or the core PCE deflator. The Blue Chip consensus forecast for CPI inflation is 2.4 percent in 2017 and 2.3 percent in 2018. The FRBNY staff projections for total PCE deflator inflation are 1.8 percent in 2017 and 2.1 percent in 2018. Given the typical divergence between CPI and PCE inflation, the Blue Chip consensus and staff forecasts for inflation appear similar.
Risks to Staff Forecast
An important part of the staff analysis of the economic outlook is the assessment of the risks to the forecast. The staff sees the risks to our projection for real growth as roughly balanced. A significant upside risk is the possibility of a fiscal package of tax cuts and infrastructure spending being enacted later this year or in early 2018. A key downside risk is that policy uncertainty and geopolitical risks remain unresolved for an extended period, ultimately leading businesses and consumers to pull back on spending.
For inflation, the risks are also roughly balanced. An important upside risk also is fiscal stimulus, which in the near term is likely to boost demand more than supply when the economy is already at or near full employment, pushing up prices. An important downside risk is that financial conditions tighten more than expected, resulting in a significant disappointment in the growth outlook that slows inflation and depresses inflation expectations.
The views expressed in this post, and in each of the presentations, are those of the authors and do not necessarily reflect the position of the Federal Reserve Bank of New York or the Federal Reserve System. Any errors or omissions are the responsibility of the authors.
Jonathan McCarthy is a vice president in the Federal Reserve Bank of New York’s Research and Statistics Group.
Richard Peach is a senior vice president in the Bank’s Research and Statistics Group.
Robert Rich is an assistant vice president in the Bank’s Research and Statistics Group.
How to cite this blog post:
Jonathan McCarthy, Richard Peach, and Robert Rich, “Just Released: The New York Fed Staff Forecast—April 2017,” Federal Reserve Bank of New York Liberty Street Economics (blog), April 21, 2017, http://libertystreeteconomics.newyorkfed.org/2017/04/just-released-the-new-york-fed-staff-forecast-april-2017.html.