Today, the Federal Reserve Bank of New York is hosting the spring meeting of its Economic Advisory Panel (EAP). As has become the custom at this meeting, the New York Fed’s Research staff is presenting its forecast for U.S. growth, inflation, and the unemployment rate. 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 short summary of the staff forecast in this post; for more detail, see the New York Fed Staff Outlook Presentation from the EAP meeting on our website.
Staff Forecast Summary
Here we review developments that occurred during 2017 and discuss the staff forecast for real GDP growth, the unemployment rate, and inflation in 2018 and 2019.
In our forecast released last April, we projected a Q4/Q4 growth rate of real GDP of about 2 percent for 2017. The staff projected slower growth of consumer spending owing to the aging of the durable goods cycle, and anticipated a significant drag on growth from the international trade sector, while business fixed investment and residential investment were expected to make more meaningful growth contributions.
As it turned out, GDP growth in 2017 was 2.6 percent. Consumer spending and business fixed investment, particularly business equipment investment, were stronger than expected. The firmer growth of consumer spending resulted from solid income growth, a large rise in wealth, and robust consumer confidence. The stronger pace of growth of business investment in new equipment appears to have been driven by increased business confidence as manufacturing activity around the globe began to recover quite rapidly. Also, the foreign trade drag was smaller than anticipated owing to unexpected strength in exports combined with weaker than expected growth of imports, which we attribute to the impact of a domestic inventory correction. Partly offsetting these positive factors, residential investment was weaker than we anticipated.
Growth in 2017 was notably above our estimate of the economy’s potential growth rate (1¾ percent), contributing to a pronounced decline in the unemployment rate to 4.1 percent in 2017:Q4, which was below our projection of last April. Even as unemployment declined, inflation, as measured by the four-quarter change in the core personal consumption expenditure (PCE) price index, was 1.5 percent, below both that of the previous year and our forecast. This slowing in core PCE inflation is viewed as transitory and largely attributable to a few items, such as cellular telephone services and prescription drugs, which have small weights but experienced quite large changes in their growth rates.
Last year’s forecast for 2018 envisioned that GDP growth would slow to near our estimate of potential growth as monetary policy and financial conditions tightened and the expansion continued to age. The unemployment rate and the labor force participation rate were expected to be roughly stable over the year, with productivity growth gradually moving up to its long-term trend of 1¼ percent to 1½ percent (on a nonfarm business sector basis). Inflation was expected to be slightly above 2 percent: the overshoot of the FOMC’s objective was anticipated to be small owing to well-anchored inflation expectations.
We now anticipate that real GDP growth for 2018 will be 2¾ percent—a full percentage point higher than our year-earlier forecast—despite indications of sluggishness for the first quarter. Several important developments underlie our higher growth projection. First, as mentioned above, the U.S. economy gathered substantial momentum over the second half of 2017. Second, a fair amount of fiscal stimulus has been enacted in recent months. The Tax Cuts and Jobs Act (TCJA) is expected to boost consumer spending and business investment in 2018. In addition, the Bipartisan Budget Act of 2018 (BBA 2018) is expected to boost federal spending over the second half of 2018 and into 2019.
We expect the fundamentals for consumer spending to remain solid—in part because of the effect of the personal income tax cuts on disposable income—and thus project real consumer spending growth to be well maintained through most of the year. With home prices still rising briskly owing to tight supply, we anticipate that residential investment will grow faster in 2018 than it did in 2017, despite rising mortgage rates. The various provisions of the TCJA related to businesses are anticipated to help support growth of business investment over the year. The major restraining force on GDP growth is expected to be international trade, reflecting faster growth of imports and slower growth of exports.
With growth expected to remain appreciably above its potential rate in 2018, we expect the unemployment rate to move down to around 3¾ percent by the end of the year, which is below our estimate of the unemployment rate associated with stable inflation (4¼ percent). We anticipate that the decline in the unemployment rate will be attenuated by a gradual increase in the labor force participation rate. Underlying inflation, as measured by the core PCE price index, is projected to be slightly above the FOMC’s longer-run objective of 2 percent by the end of the year.
For 2019, we expect financial conditions to continue to tighten but GDP growth to moderate only slightly. We anticipate that most expenditure categories will maintain their pace of growth in 2019, with a slowdown in the growth of business equipment investment offset by the effects of higher government spending associated with the BBA 2018. With GDP growth expected to remain above potential and productivity growth near its long-term trend of 1¼ percent to 1½ percent (on a nonfarm business sector basis), the unemployment rate is expected to decline to about 3½ percent. We see the labor force participation rate continuing to rise, and again, acting to temper the decline in the unemployment rate. Inflation is expected to be modestly above 2 percent, but inflation expectations are assumed to remain well-anchored.
Comparison to the Blue Chip Forecast
Next, we compare the New York Fed staff forecast to the consensus forecast from the April Blue Chip Economic Indicators, published on April 10. The forecasts for growth are broadly similar for both 2018 and 2019, with the Blue Chip consensus forecast slightly higher than the staff forecast for 2018 and slightly lower than the staff forecast for 2019. For the unemployment rate, the Blue Chip consensus forecast and the New York Fed staff forecast are similar, with the staff forecast slightly below the Blue Chip consensus at the end of 2019.
The Blue Chip asks for projections of inflation as measured by the consumer price index (CPI), rather than the overall or core PCE price index. The Blue Chip consensus forecast for CPI inflation is 2.3 percent in 2018 and 2.2 percent in 2019. The New York Fed staff projections for total PCE inflation are 2.1 percent in 2018 and 2.3 percent in 2019. Given the typical divergence between CPI and PCE inflation, the Blue Chip consensus and staff forecasts for inflation appear similar for 2018, but the staff forecast suggests higher inflation for 2019.
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 growth as roughly balanced. A significant upside risk is the possibility that the tax cuts and government spending increases provide more stimulus than we anticipate. A key downside risk is a pull-back on spending resulting from possible trade frictions or from an escalation of geopolitical risks.
For inflation, we see the risks as skewed modestly to the upside. The primary upside risk is that a boost to aggregate demand induced by the fiscal stimulus will push inflation higher more quickly than anticipated. This risk is partly offset by the possibility that a realization of downside real risks would also damp inflation and inflation expectations.
The views expressed in this post 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.
How to cite this blog post:
Jonathan McCarthy, Richard Peach, and Robert Rich, “Just Released: The New York Fed Staff Forecast—April 2018,” Federal Reserve Bank of New York Liberty Street Economics (blog), April 20, 2018, http://libertystreeteconomics.newyorkfed.org/2018/04/just-released-the-new-york-fed-staff-forecast-april