John Roberts: What If the Economy Remains Resilient?

Former Fed economist John Roberts does an exercise on what a lower 2023 unemployment rate projection (of 4.2%, instead of 4.6%) could do to FOMC’s SEP. To keep inflation on the current projected path, the terminal rate estimate might go up to 5.6%

The economy in 2022 was remarkably resilient to higher interest rates and tighter financial conditions. Although residential construction fell, consumer spending continued to expand. The labor market remained strong in the second half of the year, with payrolls rising 357 thousand per month and the unemployment rate averaging 3.6 percent. And as the January labor-market report suggested, the economy’s resilience may have continued this year.

John Roberts: What If the Economy Remains Resilient?
Excerpt from the BLS’s latest employment report

In this post, I explore the consequences of continued robust aggregate demand this year. The point of departure is a model-based analysis of the FOMC’s December economic projections (the SEP). While the main focus of the analysis is the ongoing strength in the economy, I also modify my December SEP matching exercise to take account of the incoming data on inflation, which suggest a somewhat more optimistic outlook than the FOMC assumed in December. As I discuss in more detail below, I raise the path for the federal funds rate by enough to ensure that inflation is close to the FOMC’s objective by 2025.

The results of my simulation are shown in the figure below. Continued robust growth limits the rise in the unemployment rate this year, and it ends the year at 4.2 percent, 0.4 percentage point lower than in the FOMC’s median December projection. That’s despite a steeper path for interest rates: The federal funds rate reaches 5.6 percent by the third quarter, consistent with ¼-point increases through July of this year. The funds rate stays high thereafter; it is still 1 percentage point above its longer-run level at the end of 2025. The higher expected path for the funds rate leads to higher long-term interest rates, with the ten-year Treasury yield reaching 3.7 percent this quarter. Reflecting the downward revision in response to the news about wages and prices, core PCE inflation is 3.1 percent this year, 1/2 percentage point lower than in the December SEP. By 2025, inflation is 2.1 percent, just slightly above the Fed’s 2 percent target, and in line with the December SEP.

John Roberts: What If the Economy Remains Resilient?

It’s possible economy’s underlying strength could be even greater than I’ve assumed here. If it were, the unemployment rate at the end of the year would be lower while interest rates would be higher. Stronger demand in the short-run could lead to higher inflation, but it is likely that Federal Reserve policy—in the form of higher interest rates—would be aimed at ensuring that inflation is close to target by 2025.

The next section provides technical details.

Details

  • For inflation, I first take on board the data on core PCE inflation for the fourth quarter of last year. As well, I undo the additional inflation pessimism of the FOMC’s December projections, reverting to an inflation outlook consistent with the assumptions in the September SEP; see my recent note for a discussion of the December revision. By themselves, these changes would reduce 2023 core PCE inflation to 3.0 percent, ½ percentage point below the FOMC’s median December projections.
  • For aggregate demand, I assume that the long-term neutral interest rate, a concept I’ve introduced in earlier posts, remains at a high level through the end of this year. By contrast, in my interpretation of the December SEP, this measure of the strength of aggregate demand implicitly retreated somewhat from the high level reached in the middle of last year.
  • For monetary policy, I chose add-factors to the policy rule that bring the federal funds rate to 5.6 percent by the third quarter of this year, which corresponds to increases of 25 basis points at each FOMC meeting through July. I also boosted the persistence in the policy rule, from the value of 0.74 that had worked well in interpreting the December (and September) SEP paths, to 0.85. Without the near-term add-factors and increase in persistence, core inflation in 2025 would have been 2.4 percent.

John Roberts: What If the Economy Remains Resilient?

Author: John Roberts, posted on https://jrobertsmacroecon.wordpress.com/2023/02/09/what-if-the-economy-remains-resilient/

Author:Com21.com,This article is an original creation by Com21.com. If you wish to repost or share, please include an attribution to the source and provide a link to the original article.Post Link:https://www.com21.com/john-roberts-what-if-the-economy-remains-resilient.html

Like (2)
Previous February 12, 2023 11:35 pm
Next February 13, 2023 1:19 pm

Related Posts

  • Inflationary Pressures Are Brewing: A Deep Dive into Economic Indicators and Market Trends

    Introduction: The Santa Rally appears to be holding strong as we approach the end of January, fueled by positive economic data and unexpected developments in various sectors. In this blog post, we’ll delve into the key factors contributing to the current market scenario, with a focus on the manufacturing and services sectors, global economic conditions, and the performance of notable companies like Netflix, Texas Instruments, and Baker Hughes. Furthermore, we’ll analyze the implications of these factors on inflationary pressures and their potential impact on monetary policy and market dynamics. Manufacturing…

    January 24, 2024
    0
  • U.S. Continues to Attract Foreign Investment Despite Global Retrenchment

    The United States has always been a beacon for international investment, a beacon that continued to shine brightly last year despite mounting global uncertainties and fiscal challenges. According to recently released data from the United Nations, the U.S. remained the top international investment destination in 2022, albeit experiencing a dip in inflows due to a sharp decrease in foreign purchases of American companies. In 2022, the U.S. attracted $285 billion in foreign investment, a significant drop from the $388 billion received in 2021. Nevertheless, these figures need to be examined…

    July 5, 2023
    0
  • Beyond the Dollar: Charting the Course for Alternative Currencies in a Shifting Monetary Landscape

    A specter is haunting the world’s financial stage – the specter of a possible demise of the US dollar. Not necessarily an imminent event, but it’s prudent to consider alternatives in case this economic titan eventually stumbles and falls, consumed in a potential hyperinflationary fire. This threat, while seemingly distant given the resilience of the dollar in recent years, is not entirely far-fetched. Despite the reckless policies over the past three years, the US dollar has remained steadfast. However, if it loses its status as the international reserve currency –…

    July 4, 2023
    0
  • Navigating the Economic Landscape: Third Quarter Total Return Outlook

    With the economic landscape dominated by the Federal Reserve’s tightening program, there has been a lot of speculation about how this would impact the economy. Despite some trepidation, the economy has held up remarkably well. However, as we look ahead, it’s important to note that with two more likely hikes in 2023, the risk of a slowdown remains elevated. Take a Hike: In retrospect, the first quarter of the year presented a strong performance for the investment grade bond market. In stark contrast, the second quarter mostly marked time. Treasury…

    July 18, 2023
    0
  • Navigating Economic Crossroads: Wholesale Inflation’s Stumble Sparks Market Reflection

    Introduction: In the dynamic landscape of financial markets, the recent one-two punch of softening inflation data is making waves, fueling investor sentiment and propelling a robust equity rally. Yesterday’s Consumer Price Index (CPI) release, showing no month-over-month change, set the stage. Today, the spotlight is on the Producer Price Index (PPI), revealing its most significant decline in over three years. This blog post delves into the intricacies of these developments, their impact on various sectors, and the broader economic implications. Consumer Spending and Retail Sales: The U.S. Commerce Department’s report…

    November 15, 2023
    0
  • October Market Outlook: Navigating Economic Uncertainties

    Introduction As the calendar flips to October, investors find themselves in a somewhat precarious position. September has come to a close, taking the third quarter with it, and the financial markets are at a crossroads. The first trading day of October brings with it both hopes and concerns, and market participants are walking gingerly into the new month. In this blog post, we’ll dissect the current economic landscape, focusing on the factors that are shaping investor sentiment and market dynamics. Rising Interest Rates One of the primary factors causing a…

    October 2, 2023
    0
  • Reading the Economic Tea Leaves: Is a US Recession Around the Corner?

    Introduction The specter of a looming recession in the United States has been haunting economic discussions for more than a year. While the recession has not yet materialized, it’s essential to acknowledge the historical lag between Federal Reserve interest rate hikes and their impact on the economy. This lag often spans 12 to 18 months, which is why the signs of a mild recession may be on the horizon. In this article, we will examine various economic indicators that can shed light on the possibility of a recession and provide…

    October 20, 2023
    0
  • China’s Influence on U.S. Farmland and Food Security: An Economists’ Perspective

    In the world of agriculture and food production, a new trend is causing ripples of concern across the United States. China’s increasing investment in U.S. farmland is a topic of considerable debate, with the National Black Farmers Association’s President, John Boyd Jr., leading the charge. His apprehensions center around China’s potential impact on U.S. food security, particularly in light of its growing control over American farmland and related industries. China’s Growing Farmland Investments Over the past few years, the trend of Chinese-owned companies purchasing vast amounts of rural farmland in…

    July 1, 2023
    0
  • Declining Gas Prices Ignite Optimism for Unprecedented Holiday Travel: A Comprehensive Examination of the Current Fuel Economy

    This Fourth of July, motorists across the nation are gearing up for road trips and family reunions, fueled by the significant dip in gas prices compared to the previous year. This decline in fuel cost is not only revving up the holiday spirit but also making a tangible impact on people’s travel decisions. Take Mathew Alvarez, a 36-year-old machinist from Los Angeles, for instance. Last year, the record-high gas prices prevented Alvarez from making the 100-mile journey to his family in Tehachapi, California, during the holiday season. As a response…

    July 4, 2023
    0
  • US Debt Ceiling Deadline: Understanding X-Date

    With negotiations underway, a US default remains a low but distinct possibility. When might the default “x-date” fall – and how will markets respond? The US risks default in a matter of weeks unless Congress can reach a deal to raise the country’s borrowing limit. While negotiations are underway, if the “x-date” (see below) passes without the debt ceiling being raised, coupon payments and redemptions of Treasury securities will stop. While technical lapses have occurred – such as the 1979 check-processing glitch that delayed some redemption requests – a true…

    May 19, 2023
    0

Leave a Reply

Your email address will not be published. Required fields are marked *