Academic journal article Chicago Fed Letter

Economy to Keep Rolling along in 2016 and Accelerate Slightly in 2017

Academic journal article Chicago Fed Letter

Economy to Keep Rolling along in 2016 and Accelerate Slightly in 2017

Article excerpt

The Federal Reserve Bank of Chicago held its 23rd annual Automotive Oudook Symposium (AOS) on June 3, 2016, at its Detroit Branch. More than 60 economists and analysts from business, academia, and government attended the AOS. This Chicago Fed Letter reviews the forecasts from last year's AOS for 2015, and then analyzes the forecasts for 2016 and 2017 (see figure 1) and summarizes the presentations from this year's AOS.

The U.S. economy continued to expand from the longest and deepest drop in economic activity since the Great Depression. During the 27 quarters following the end of the Great Recession, the annualized rate of real gross domestic product (GDP) growth was 2.1%-near what is considered the long-term rate of growth for the U.S. economy. This GDP growth rate is very disappointing, since typically, the pace of economic recovery is quite sharp following a deep recession.

While the economy's expansion has lasted nearly seven years, signs of slack still remain in the economy. The unemployment rate moved down to 4.7% in May 2016, meeting (or even falling below) prominent estimates of the natural rate of unemployment (i.e., the rate that would prevail in an economy making full use of its productive resources). However, several other labor market indicators suggest that slack remains in the employment market. First, the labor force participation rate has fallen over the past several years below what demographic changes of an aging population can explain. Second, the percentage of workers who are working at part-time jobs but desire full-time employment is still above what it has historically averaged. And third, the pool of unemployed workers who have been out of work for more than six months remains at levels that are exceptionally high-higher than anything seen since the Great Depression.

In addition to the persistent slack, there have been two big shocks whose effects have reverberated across the U.S. economy over the past two years. First, the average price of oil, which stood at $106 per barrel in June 2014, collapsed later that year, reaching $59 per barrel in December 2014. The average price of oil eventually bottomed out in February 2016-at $31 per barrel. And then it rose to nearly $47 per barrel in May of this year. The decline in energy prices has had both positive and negative impacts on the U.S. economy. On the positive side, users of energy have enjoyed a substantial reduction in their costs of purchasing energy. The primary beneficiaries have included consumers, manufacturers, and the transportation sector. However, over the past eight years, the United States has become a significandy larger producer of energy, and hence, the loss of income to the domestic energy sector now leads to a greater negative impact than it historically has.

Second, the real value of the U.S. dollar in international exchange markets had strengthened substantially since the summer of 2014, rising nearly 20% through January 2016. The real trade-weighted value of the U.S. dollar fell 3.9% over the following four months, but remained strong. The higher value of the U.S. dollar against foreign currencies has had a dramatic impact on trade and, hence, the U.S. economy's growth. A strengthening dollar makes U.S.-made goods more expensive to foreign customers, thus reducing the demand for such goods from abroad and lowering the growth of exports. It also makes foreign-made goods less expensive to U.S. purchasers, thus increasing the demand for such goods here and raising the growth of imports. So, given the significantly stronger dollar, it's no surprise that the United States saw its trade deficit increase in 2015, amounting to a 0.5 percentage point drag on the growth rate of real GDP.

With the slack in the economy, significantly reduced energy prices, and lower prices on imports, inflation has remained low. Inflation, as measured by the Consumer Price Index (CPI), was extremely low at 0.4% in 2015 (the lowest rate since 1955); by May 2016, the year-over-year rate of inflation had risen to 1. …

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