St. Louis Fed's Bullard Addresses the U.S. Growth Surprise

Singapore – Federal Reserve Bank of St. Louis President James Bullard on Monday delivered the OMFIF Foundation City Lecture with remarks titled “Some Consequences of the U.S. Growth Surprise.”

In his talk, Bullard noted that economists’ views of U.S. economic growth are in flux due to the surprisingly strong performance of the U.S. economy relative to projections made in the first half of 2017. As of March 2017, U.S. real GDP growth was projected to be close to 2 percent for 2017, 2018 and 2019, according to the Federal Open Market Committee’s (FOMC) median Summary of Economic Projections (SEP). “It now appears growth will exceed that forecast for all three years,” Bullard said.

“The U.S. growth surprise has been a factor in allowing the FOMC to normalize its policy rate along a projected path, with attendant consequences for global financial markets,” he said. However, continuation of the U.S. growth surprise likely requires faster U.S. productivity growth, he explained.

A Projection Puzzle

Bullard pointed out that the median projection in the FOMC’s March 2017 SEP was for stable and subdued economic growth in 2017, 2018 and 2019. In addition, unemployment and inflation were projected to remain about constant over these three years. Nevertheless, the median projection among FOMC participants was that the policy rate would rise over this period, he noted.

“Broadly speaking, in March 2017 the FOMC expected very little movement in U.S. real GDP growth, unemployment and inflation over a three-year horizon,” he said. “The FOMC projected that this outcome would be consistent with a rising U.S. policy rate.”

He then compared these projections with the realized values for these macroeconomic variables. “As with many macroeconomic forecasts, the March 2017 SEP projection has turned out to be inaccurate in important respects,” Bullard said. In particular, he noted, actual real GDP growth has been stronger than expected, actual unemployment has trended lower than expected, and actual inflation has been somewhat lower than expected. “At the same time, the actual policy rate path so far has been about what was projected in March 2017,” he said.

The Global Growth Surprise

Bullard also pointed out that growth surprised outside the U.S. All major economies surprised to the upside in 2017 relative to the International Monetary Fund’s (IMF) October 2016 forecast of real GDP growth. “Relatively speaking, the growth surprise was larger outside the U.S,” he said.

While the difference between actual growth in 2017 and the IMF’s forecast was 0.1 percentage points in the U.S., it was 0.9 percentage points in the euro area, 0.6 percentage points in the U.K., 1.1 percentage points in Japan and 0.7 percentage points in China.

“In 2018, the growth surprise is on track to be positive in the U.S.,” Bullard pointed out, “while other major economies are projected to not do as well as they did in 2017.”

Some Consequences of the U.S. Growth Surprise

Bullard discussed several consequences of the growth surprise over the last two years. First, he noted that faster-than-expected U.S. real GDP growth and lower-than-expected U.S. unemployment have allowed the FOMC to normalize along its projected path.

Second, the faster-than-expected global real GDP growth has helped the profitability of U.S. firms, helping to drive U.S. equity markets higher, Bullard noted.

Third, the dollar weakened in 2017, he explained, due in part to the larger growth surprise abroad. It has strengthened in 2018, due in part to the larger growth surprise domestically, he added.

Can U.S. Growth Continue Apace?

Turning to whether the U.S. growth surprise can continue, Bullard pointed out that the U.S. potential growth rate is widely thought to be relatively low, in part due to demographics. In particular, he noted that labor force growth has been slower in the U.S. since 2008 due to demographic factors.

“Accordingly, the U.S. will likely need faster productivity growth in order to maintain current real GDP growth rates,” he said. “This is a possibility if U.S. investment improves and technological diffusion begins to improve business processes at a faster pace.”

The U.S. labor force growth rate remains close to the 0.5 percent average since 2008, Bullard noted. Meanwhile, he said that the U.S. labor productivity growth rate does not appear at this point to be meaningfully different from the Kahn-Rich low-state value of 1.3 percent.¹ “Adding these together suggests a potential growth rate for the U.S. of 1.8 percent, about the same as many private-sector forecasts,” he explained.

A switch to the high state for labor productivity growth, with a high-state value of 2.9 percent previously experienced between the late 1990s and the mid-2000s, would raise the U.S. potential growth rate to a stunning 3.4 percent, he noted. “This switch is a possibility, but it has not materialized so far,” he added.

¹ See J.A. Kahn and R.W. Rich, 2006, “Tracking Productivity in Real Time,” Federal Reserve Bank of New York, Current Issues in Economics and Finance, 12(8); and J.A. Kahn and R.W. Rich, 2007, “Tracking the new economy: Using growth theory to detect changes in trend productivity,” Journal of Monetary Economics, 54(6).