Murphy gic talk madrid for posting

The Outlook for the U.S. Economy And Some Longer Term Issues

Anthony Murphy

Federal Reserve Bank of Dallas (anthony.murphy@dal.frb.org)

GIC Central Banking Conference Madrid, 3 Oct 2016

The views expressed are those of the author, and are not those of the Federal Reserve Bank of Dallas or of the Federal Reserve System.

1

General Remarks The Fed is tasked with • Conducting monetary policy subject to a dual mandate (price stability and maximum employment), unlike the ECB; • Supervising and regulating banks to ensure the safety and soundness of the banking and financial system; • Maintaining financial stability and containing systematic risk; • Providing financial services and playing a major role in operating the U.S.’s payment systems I will talk about the U.S. economic outlook and some longer term aspects of U.S. monetary policy (but not timing issues) I will also discuss the limits of monetary policy

2

U.S. Economic Growth Has Been Pretty Modest and Uneven Contributions to Real GDP Growth (PPAR) 2011

2012

2013

2014

2015 2016H1

GDP Growth, % SAAR

1.6

2.2

1.7

2.4

2.6

1.0

- Personal Consumer Expenditure, PCE

1.6

1.0

1.0

2.0

2.2

2.0

- Non-Residential Fixed Investment

0.9

1.0

0.4

0.8

0.3

-0.3

- Residential Fixed Investment

0.0

0.3

0.3

0.1

0.4

0.0

- Inventories

-0.1

0.1

0.2

0.1

0.2

-0.8

- Net Exports

0.0

0.1

0.3

-0.2

-0.7

0.1

- Government

-0.6

-0.4

-0.6

-0.1

-0.3

0.0

Note: PPAR = percentage points at annual rates, SAAR = seasonally adjusted at annual rates.

Source: BEA.

3

Many External and Internal and External Shocks Including Low Oil Prices Oil & Gas Related Investment v. Other Non-Residential Investment 2009$B, SAAR

2009$B, SAAR 2,000,000

Structures + Equipment + IP

1,800,000 1,600,000 200,000

1,400,000

Structures & Equipment

180,000

1,200,000

160,000

1,000,000 Other Sectors

140,000

Struct & Equip

120,000

Mining Sector Struct & Equip

100,000 80,000 60,000 00

01

02

03

04

05

06

07

08

09

10

11

12

13

14

15 16

Source: BEA and author’s calculations.

4

Deleveraging Important Reason Why Recovery from Great Recession So Slow Household Deleveraging Probably Complete

Percent 150

660 H'hold Net Worth /

140

640

Income

130

620

120

600

110

580

100

560

90

540 H'hold Debt /

80

520

Income

70 1996

1998

2000

2002

2004

2006

2008

2010

2012

2014

500 2016

Sources: BEA and Federal Reserve, 5

Unemployment Rate Close to NAIRU or Natural Rate

U6 Includes ‘Part Time for Economic Reasons’ and Discouraged Workers Percent, SA 18 16 14 12

"Broad" U6

"Headline" U3

Unemployment

Unemployment

Rate

Rate

10

9.7%

8 Aug '16 6 4.9% 4 CBO "NAIRU" or Natural Rate 2 96

98

00

02

04

06

08

10

12

14

16

Source: BLS and CBO. 6

Labor Force Participation Rate Ticks Up

Uncertain Demographic + Cyclical + Residual (Secular Trends) Components

ercent, SA 68

66

Labor Force Participation Rate

64

62.8% 62 Aug '16 Employment to

60

59.7%

Population Rate

58 00

01

02

03

04

05

06

07

08

09

10

11

12

13

14

15 16

Source: BLS.

7

Wage Inflation Slowly Picking Up

Need to Look at a Range of Wage Measures Employee Cost Index (Y/Y,%)

Ave Hourly Earnings (Y/Y,%)

6

6

5

5

4

4 2.5%

2.6% 3

3

2016 Q2

2

2

1

1

0

Aug 2016

0 2000

2002

2004

2006

2008

2010

2012

2014

2000

2016

2002

2004

2006

2008

2010

2012

2014

2016

Atlanta Fed Wage Tracker (Y/Y,%)

6 5

3.3%

4

Aug 2016

3

Smoothed Median

2 1 0 2000

2002

2004

2006

2008

2010

2012

2014

2016

Source: BLS and Atlanta Fed. 8

Forecasts of Output and Unemployment

Moderate Output Growth and Unemployment Below NAIRU

Real GDP Growth FOMC (21 Sep) Blue Chip (10 Sep) SPF (12 Aug)

Unemployment Rate FOMC Blue Chip SPF

2016 Q3

2016 Q4

2016 Q4/Q4

2017 Q4/Q4

2018 Q4/Q4

2019 Q4/Q4

2.9 2.6

2.4 2.3

1.8 1.8 2.3

2.0 2.2 2.2 e

2.0 2.2e

1.8 2.2e

2016 Q3

2016 Q4

2017 Q4

2018 Q4

2019 Q4

4.8 4.8

4.8 4.9 4.7

4.6 4.5 4.6 e

4.5 4.6 e

4.6 4.7 e

Sources: Blue Chip Economic Indicators (10 Sep 2016), Survey of Professional Forecasters (SPF, 12 Aug 2016), and Federal Open markets Committee Summary of Economic Projections (FOMC, 21 Sep 2016, median).

9

Short-Term Output Forecasts and Outcomes Forecasts Mean Reverting and Over Optimistic

Percent, SAAR 6 4 2 0 -2 2009 M3 Forecast 2010 M3 Forecast 2011 M3 Forecast 2012 M3 Forecast 2013 M3 Forecast 2014 M3 Forecast 2015 M3 Forecast 2016 M3 Forecast

GDP Growth Rate -4 -6 -8 -10 2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

Sources: Blue Chip Economic Indicators (March forecasts) and BEA (latest Estimates).

10

Unemployment Forecasts and Outcomes Forecasts Too Pessimistic

Percent, SA 11 10

2016 M3 Forecast 2015 M3 Forecast 2014 M3 Forecast 2013 M3 Forecast 2012 M3 Forecast 2011 M3 Forecast 2010 M3 Forecast

9 8 7 6 5 4 2008

2010

2012

2014

2016

2018

2020

2022

Sources: Blue Chip Economic Indicators (March forecasts) and BLS. 11

Underlying Inflation Close to 2% Target 12 Month PCE Inflation

Percent 5 4

2% Target

3 2 1 0 Headline (All Items) Trimmed Mean Core (Ex. Food & Energy)

-1 -2 00

01

02

03

04

05

06

07

08

09

10

11

12

13

14

15 16

Sources: BEA and Dallas Fed.

12

Consumer and Professional Long Run Inflation Expectations Fairly Well Anchored 3.4 3.2

Consumers' Expected Inflation

3.0

5 to 10 Years Ahead

2.8 2.6 2.5% 10 Years Ahead

2.4 Forecasters' Expected CPI Inflation

2.2

2.2% 2.1%

2.0

5 Years Ahead

1.8 2000

2002

2004

2006

2008

2010

2012

2014

2016

Sources: U. Michigan / Reuters Survey of Consumers and SPF. 13

Market and Professional Inflation Expectations Differ Percent 2.4 2.3 2.2

Survey Based (Blue Chip & SPF)

2.1

Sep 2014 Sep 2015 Sep 2016

2.0 1.9

Market Based (CL Fed)

1.8 1.7 1.6 10

20

30

40

50

60

70

80

90

100

110

120

Months

Sources: Aruoba (2016), Philly and Cleveland Feds.

14

Forecasts of Inflation Reverting to Target

2016 Q3

2016 Q4

2016 Q4/Q4

2017 Q4/Q4

2018 Q4/Q4

2019 Q4/Q4

1.6 2.0

2.4 2.2

1.8 1.6

2.3 2.3

2.3

-

PCE Inflation FOMC (21 Sep) SPF

1.5

1.9

1.3 1.4

1.9 1.9

2.0 2.0

2.0 -

Core PCE Inflation FOMC SPF

1.6

1.6

1.7 1.8

1.8 1.9

2.0 2.0

2.0 -

CPI Inflation Blue Chip (10 Sep) SPF (12 Aug)

Sources: Blue Chip Economic Indicators (10 Sep 2016), Survey of Professional Forecasters (SPF, 12 Aug 2016), and Federal Open markets Committee Summary of Economic Projections (FOMC, 21 Sep 2016, median).

15

Monetary Policy • U.S. is closer to normalizing monetary policy: o “The Committee judges that the case for an increase in the federal funds rate has strengthened but decided, for the time being, to wait for further evidence of continued progress towards its objectives” FOMC Statement, 21 Sept 2016 o “Near term risks to the economic outlook appear roughly balanced” • By contrast, the ECB is unlikely to reduce monetary accommodation any time soon • The underlying problems of the EZ remain o It is not close to being an optimal currency union o There is no fiscal union, and adjustments costs are very unevenly distributed among member states o Supply side reforms have been slow 16

Longer Term Economic Issues in U.S. • Lower output growth and productivity growth in the long term? o Lower growth rate → lower r* (natural rate of interest) → near zero lower bound (ZLB) more likely to be hit in a recession • Combination of changing demographics, less capital deepening and lower total factor productivity etc.

• At micro level, lower TFP reflected in: o Widening gaps between most and least productive firms o Fewer start-ups and less reallocation of production among firms • Aging demographics and the level of government debt • Limited role for monetary policy (or short-term fiscal policy) in addressing these issues • Some role for macro-prudential policies, but there are trade-offs • Sensible supply sides policies needed (Congress not FOMC) 17

Slow Growth in GDP and Hours Since 2006 Demographics Important 1949-2005

2006-2015

Memo: 1996-2003

GDP

3.4

1.4

3.4

Hours

1.4

0.4

1.1

- Population

1.4

1.0

1.4

- Labor force participation

0.2

-0.5

-0.1

- Employment rate

0.0

0.0

0.0

- Hours per person

-0.2

-0.1

-0.1

Note: Average annualized Q4/Q4 percentage change. Sources: BEA, BLS and Fischer (2016).Δ

18

Decline in Productivity Growth in Business Sector

TFP Badly Measured Etc., But Slowed Before the Great Recession 1949-2005

2006-2015

Output

3.6

1.6

Labor input

1.1

0.4

Labor productivity

2.5

1.2

- Labor composition

0.2

0.3

- Capital deepening

0.9

0.6

- Total factor productivity TFP

1.3

0.3

Note: Average annualized Q4/Q4 percentage change. TFP figures are adjusted for utilization.

Sources: BEA, BLS, Fernard (2014) and Fischer (2016).

19

Laubach & Williams’ Estimates of Natural Rate of Interest r* At Lower End of Range of Estimates of r*

Percent 4 3 1.36 x Time Varying Long-Run Growth Rate (g*)

2 1

Natural Rate of Interest (r*) r* = 1.36 g* + z

0.2%

0 -1 -2

Other Unspecified Factors (z)

-3 -4 2000

2002

2004

2006

2008

2010

2012

2014

2016

Source: Laubach and Williams (2003, updated 2016).

20

Estimates of Long-Run GDP Growth Year

Blue Chip

SPF

CBO

FOMC

2000

3.1%

3.0%

2.9%

-

2005

3.2%

3.3%

2.6%

-

2010

2.6%

2.6%

2.2%

2.7%

2012

2.5%

2.5%

2.3%

2.5%

2014

2.4%

2.6%

2.1%

2.3%

2016

2.1%

2.3%

1.9%

2.0%→1.8%

Sources: Blue Chip Economic Indicators, Survey of Professional Forecasters (SPF), Congressional Budget Office (CBO) and Federal Open markets Committee (FOMC) Summary of Economic Projections (median).

21

Suggested Policies to Promote Productivity Growth Bailey & Montalbano, Brookings, Sept 2016

• Greater competition o Simplify regulation o Limit patents – too little competition, too much rent seeking o Reduce licensing restrictions – barrier to entry o More competition in health care • Invest in worker skills • Invest in infrastructure • Tax reform • Greater Federal support for R&D

22

U.S. Monetary Policy – Many Open Issues • Mechanics (and timing) of “normalization” o Very large balance sheet, the results of QE / LSAPs o At present, maturing Treasuries are rolled over and principal repayments on Agency debt and MBS are reinvested o Awash with reserves, so traditional tools for controlling short term rates supplemented o IOR (interest on reserves) and RRP (reverse repos) important • Longer term issues include: o ZLB (near zero lower bound) and the size of the Fed’s balance sheet o ZLB and inflation target – why not 3% rather than 2%? o Should the range of QE / LSAP assets be extended beyond Treasuries and Agency debt & MBS? 23