U.S. Economic Outlook and Monetary Policy

U.S. U S Economic Outlook and Monetary Policy Global Interdependence Center Meeting Buenos Aires November 1, 2012

Daniel Sullivan Executive Vice President and Director of Research Federal Reserve Bank of Chicago

0

Labor Market Is Slowly Improving …

Private Nonfarm Payroll Employment

Unemployment Rates

(average monthly change, thousands)

(percent)

300

10 Q3‐2012

0

8 Sep‐2012

-300

6

-600

4

-900 2000

2 2000

'02

'04

'06

'08

'10

'12

'02

'04

'06

'08

'10

'12

1

…But Has A Big Gap To Make Up Total Nonfarm Payroll Employment (SA, millions)

 Employment 7.2 7 2 million below a

150

145

reasonable notion of its maximum sustainable level

Trend Employment based on Aaronson, Davis, and Hu (2012) LFP and CBO long run NAIRU projections

 Growth needed to close the

140

employment gap: – 150,000 , / month for 7 years y

135

– 200,000 / month for 5 years – 250,000 / month for 4 years

Sep‐2012

130

125 2003

'07

'11

'15

'19

2

Crisis Destroyed Much Household Wealth …

Loan Performance Home Price Index

Wilshire 5000 Stock Price Index

(Jan-2000=100) 225

16000 Incl. Distressed

200

14000

175

12000 Aug‐2012 26‐Oct‐2012

150

10000

125

8000

100 2000

'02

'04

'06

'08

'10

'12

6000 2000

'02

'04

'06

'08

'10

'12

3

…Which Forced Deleveraging Household Liabilities

Household Obligations

(% of DPI)

(% of DPI)

140 120

20 Financial Obligations Debt Service Average since 1980

Home Mortgages Consumer Credit Other Debt

18

100 16

80

Q2‐2012

60

14

40 12 20 0 1980 '84

'88

'92

'96 2000 '04

'08

'12

10 1980 '84

'88

'92

'96 2000 '04

'08

'12

4

Greater Savings Pushed Down Interest Rates Ten Year Treasury Interest Rates

TIPS-based Inflation Compensation

(percent)

(percent)

8

4 Nominal Real

6

3 24‐Oct‐2012

4

2

2

1 5 yr y 5‐10yr ahead

0

0

-2 2

-1 1

-4 2005

-2 2005

'06

'07

'08

'09

'10

'11

'12

'06

24‐Oct‐2012

'07

'08

'09

'10

'11

'12

5

Household Demand Now Recovering …

Indices of Overall Consumer Sentiment Single Family Housing Market (Michigan: Q1-1996=100; Conference Board: 1985=100) (millions of units, annual rate) 150

2.0 Conference Board Consumer Confidence Michigan Consumer Sentiment

Permits Starts

118

1.5

Oct‐2012

85

1.0 Sep 2012 Sep‐2012

53

0.5

Sep‐2012

20 2000

'02

'04

'06

'08

'10

'12

0.0 2000

'02

'04

'06

'08

'10

'12

6

… But Risks Have Made Businesses Cautious Nondefense Capital Goods ex. Aircraft Purchasing Managers Index (Bils. $, 3-month MA)

(50+ equals manufacturing expansion)

75

65 Shipments New Orders

70

60 Sep‐2012

Aug‐2012

65

55

60

50

55

45

50

40

45

35

40 2000

30 2000

'02

'04

'06

'08

'10

'12

'02

'04

'06

'08

'10

'12

7

Headwind/Risk I: Global Growth Slowdown Real Net Exports

Real World GDP Growth

(SA, Bils. 2005$)

(4-quarter percent change)

-200

6

-300

5

IMF Forecasts As of September 2011 As of October 2012

Q3‐2012

-400 400

4

-500

3

-600 600

2

-700

1

-800

0

-900

-1 2006

'07

'08

'09

'10

'11

'12

2006

'07

'08

'09

'10

'11

'12

'13

8

Headwind/Risk II: U.S. Fiscal Consolidation Contributions to Real GDP Growth

Disposable Personal Income

(percent, annual rate)

(Trils. 2005$, SAAR)

6

13

Government Expenditures Government Expenditures Other Contributions

Before Social Security, Taxes, and Transfers Disposable Personal Income

4 12 2

Sep‐2012

0

11

-2 Q3 2012 Q3‐2012

10

-4 -6

9 -8 -10 2007

'08

'09

'10

'11

8 2004

'06

'08

'10

'12

9

Fiscal Cliff  According to current law, many significant changes to taxes and

spending are scheduled for January 1, 2013 – Substantial uncertainty about what will happen and the impact on the economy  Many analysts expect an end to only the payroll tax holiday and

extended unemployment insurance program – Reasonable estimates of the implied reduction in 2013 growth range from 0.5 to 1.0 percentage points of GDP  If all possible tax and spending changes occurred

– CBO’s midpoint point estimates show an additional 2.0 percentage reduction in GDP growth in 2013

10

Unemployment Rate Forecasts: SEP and BC Unemployment Rate (percent) 10

9 FOMC Central Tendency

8 Range between the top 10 and bottom 10 Blue Chip projections

7

Blue Chip Consensus

6 FOMC central tendency for longer‐run unemployment rate

5

4 2010

2011

2012

2013

*2014 Blue Chip forecasts are from October 2012 Long-run Projections

2014 11

Recent And Forecast Inflation Below Target PCE Price Index (12-month percent change) 5

4

Total Core

3 FOMC Long-Run Target

2 FOMC forecasts*

1

Sep�2012

0

-1

*Midpoints of the central tendency of the forecasts made by the FOMC participants

12

Wages And Commodity Prices Tame Wages

Commodity Prices

(4-quarter percent change)

(Index 1967=100 and $/bbl)

6

1200 Nonfarm Business Compensation Employment Cost Index

150 KR‐CRB Index Brent Oil

5

1000

125

4

800

100

Q2‐2012

Sep‐2012

3

600

75

2

400

50

1

200

25

0 2002

'04

'06

'08

'10

'12

0 2002

0 '04

'06

'08

'10

'12

13

Traditional Monetary Policy At Its Limit Fed Funds Rate (percent) 8

History Market Expectations Taylor (1999) Rule

6 4 2

Sep‐2012

0 -2 -4 -6 2001

'03

'05

'07

'09

'11

'13

14

September FOMC Actions  Begin open-ended purchases of Agency MBS at a pace of

$40B per month  Continue Maturity Extension Program purchases of long-term

Treasury securities at pace of $45B per month – Simultaneously Si lt l selling lli same amountt off short-term h tt Treasuries T i  Pledge Resolve: If labor market outlook does not improve

substantially, continue purchasing Agency MBS substantially MBS, other assets assets, and employ other tools until the outlook does improve  Expect highly accommodative policy to be appropriate for a

considerable period after economic recovery strengthens – In particular, expect near zero funds rate to be warranted at least through mid 2015 15

GDP Growth and Consensus Projections Real GDP Growth (percent change, annual rate) 6 Consensus Blue Chip Forecasts as of October 2012

3

Q3‐2012

0

-3

-6

-9 2004

'06

'08

'10

'12

16

Greater Underlying Strength But Big Risks  U.S. household demand strengthening

– Debt burdens becoming g more manageable g  Should lead to stronger growth despite continued headwinds

– Modestly better in 2013 – Significantly better in 2014 as headwinds abate  But, But there are significant downside risks

– Further slowing in world economy – Possible intensification of European financial crisis – U.S. fiscal cliff – Uncertainty related to downside risks likely already holding back growth 17