The State of the Economy 2017 Comments by Dennis W. Jansen Professor of Economics and Jordan Professor of Public Policy, Texas A&M University
Real GDP or Aggregate Output The Great Recession Largest decline of Real GDP since the Great Depression. The decline of Real GDP relative to Potential Real GDP was sharp and persistent. The gap was closed as much by reductions in the projections of Potential Real GDP as by increases in Real GDP. A large portion of the reduction in Potential Real GDP was due to reductions in the Labor Force Participation Rate. More on that below. 2
Real GDP Compared to Potential 3
Forecasts of Real GDP The Economist s Poll (Private Forecasters): For 2016: 1.5~1.9% growth; average is 1.6% For 2017: 1.9~2.8% growth; average is 2.3% The Federal Reserve System (FOMC; midpoint of participants): For 2016: 1.9% growth For 2017: 2.1% growth For 2018: 2.0% growth For 2019: 1.9% growth Longer Run: 1.8% growth (FOMC view of potential RGDP growth) 2016 Quarter 3 (latest available!): Real GDP = $16.727 Trillion; population 324.486 Million. Real GDP per person = $51,549 4
Employment, Unemployment, Labor Force Unemployment rate is currently 4.7% (December 2016) The Great Recession Unemployment rate rose from 4.5% to 10%. Now 4.7%; basically a pre-great Recession level. Labor Force has shrunk as a fraction of the Civilian Noninstitutionalized Population Aged 16 and over. Potential workers exited the labor force, discouraged and seeking alternative means of receiving income. For instance, social security disability. The civilian labor force has been essentially constant as the eligible population grows. 5
The Unemployment Rate and Recessions 6
Eligible Population, Labor Force, and Employment 7
Employment as a Percent of Population 8
Forecasts of Unemployment Rate The Federal Reserve System (December 2016 FOMC minutes): For 2016: 4.7% For 2017: 4.5% For 2018: 4.5% For 2019: 4.5% Longer Run: 4.8% (This is roughly the FOMC s idea of full employment) 9
Forecasts of Inflation Low, about 2% per year. The Federal Reserve System (December 2016 FOMC minutes): For 2016: 1.5% For 2017: 1.9% For 2018: 2.0% For 2019: 2.0% Longer Run: 2.0% (This is FOMC target.) 10
Two Measures of Inflation, CPI and PCEPI 11
Interest Rate Forecasts The Federal Reserve System (December 2016 FOMC minutes): Forecast of Federal Funds Rate: For 2016: 0.6% For 2017: 1.4% For 2018: 2.1% For 2019: 2.9% 12
Interest Rates 13
Other Issues Headwinds 1. Mexico 2. Europe, China, Japan 3. USA Labor Market Issues Productivity and Real Wages 4. USA Debt Problem 14
Forecasts for Mexico: Real GDP and Consumer Prices The Economist s Poll (Private Forecasters): Real GDP Growth in Mexico For 2016: 1.9~2.2% growth; average is 2.1% For 2017: 0 ~2.5% growth; average is 1.7% CPI Inflation in Mexico For 2016: 2.9% For 2017: 3.9% 15
Mexico: Exchange Rate Peso per USD 16
Mexico Further Issues & Uncertainty NAFTA? President Trump? 17
1. Rest of World: The Economist Forecast of Real GDP Generally Slowing Growth is Forecast: Euro-Zone For 2016: 1.6% growth For 2017: 1.4% growth The U.K. For 2016: 2.0% growth For 2017: 1.2% growth China For 2016: 6.7% growth For 2017: 6.4% growth Japan For 2016: 0.9% growth For 2017: 1.1% growth 18
Labor Market Issues: Stagnant Real Wages 2005-2014 19
Labor Market Issues: Productivity Slowdown 20
Technological Change in Action: US Oil Production 21
Saudi Arabia Oil Production 22
Mexico Oil Production, for comparison 23
USA Debt Issues In long term: Seemingly intractable budget issues. Economically manageable, politically intractable. Long term budget deficits driven by aging population and resulting pressure on Social Security and Medicare, coupled with ever-increasing costs of Medicare and Medicaid programs. Rising interest rates will increase deficits and pressure government. Current administration plans tax cuts and increase in infrastructure spending. Also plans cuts in federal work force. Not clear about entitlements. 24
Aside on Budget Projections Not always useful. Constructed under severe restrictions. Current laws remain in effect. Future spending commitments honored. Maintained assumptions about economic growth, discretionary spending, etc. Small changes can have large impact on long-run projections. Example of Medicare reimbursement to doctors. and alternative minimum tax? No assumption of Intertemporal Budget Balance. 25
CBO Projection: Deficit as Percent of GDP, 2016-2046 Deficit (Total) 10.0 9.0 8.0 7.0 Percent of GDP 6.0 5.0 4.0 3.0 2.0 1.0 0.0 Year 26
CBO Projection: Debt Held by Public as Percent of GDP 160.0 Debt Held by Public 140.0 120.0 Percent of GDP 100.0 80.0 60.0 40.0 20.0 0.0 Year 27
Really Bad News is in the Longer Run Expenditures begin rising sharply about 2018. Spending rises from 21% to 28% of GDP. Revenues stay fairly constant. Revenue rises from 18% to 19% of GDP Even spending net of interest payments rises from 28
Spending, Spending Net of Interest, and Revenue 30.0 Government Revenue and Spending 25.0 20.0 Percent of GDP 15.0 10.0 5.0 0.0 Revenue Spending Spending Net of Interest 29
Thinking about Deficits and Debt The USA is (almost) always running deficits. How is it that our debt/gdp is not always growing? If your household always runs a deficit, doesn t your household debt always grow?
Thinking about Deficits and Debt 2 If your household income is growing, this helps reduce the debt/income ratio. Deficits increase debt. Income growth increases income Race between deficits and income growth.
Thinking about Deficits and Debt 3 Maybe your debt/income = 200% Your interest on debt is 5%, which you cannot pay and end up paying by increasing your debt. Otherwise than borrowing to pay interest, you have a balanced budget. So, your debt grows at the interest rate 5% per year. If your income grows at 6%, your debt/income ratio will fall over time.
Deficits and Debt One Way Out USA: Growth rate of nominal GDP 1969 2013 averaged 6.4% annually, compounded. USA: Average rate of nominal interest on 5 year government bonds was 6.3% USA: Typically ran primary budget surplus. Conclusion: On average we were growing fast enough that we could reduce the debt/gdp ratio over time.
Deficits and Debt Growing Our Way Out It is important that the primary budget deficit be zero. Borrowing to pay interest is okay. Borrowing more than that on a sustained basis is not possible. In the CBO projections shown here, there is never a primary budget surplus. Hence the debt/gdp ratio is projected to always increase. This is unsustainable, eventually.
Options are Difficult In the past our large deficits and debt increases were due to wars, Civil War, WWI, WWII. These were self-limiting; ended with end of war. Currently our problems are large unfunded promises to an aging population, compounded by rising health care spending per person. This problem will only be resolved by concerted political decisions, decisions that our politicians have been unwilling to make.
Economics The Dismal Science Don t look for a happy ending. It s not an American story. It s an Irish one. Brad Pit in The Devil s Own I foresee terrible trouble, and I stay here just the same. Steely Dan, Dirty Work I am afraid that our debt issues are likely to be an Irish story, not an American story. No happy ending