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Forecasters See Solid U.S. GDP Growth during Rest of 2018

KEY TAKEAWAYS

  • Strong corporate profits, healthy financial market conditions, and accommodative monetary and fiscal policies fueled brisk U.S. economic growth in the second quarter.
  • Forecasters expect U.S. real economic growth to average close to 3 percent in the second half of 2018.
  • The St. Louis Fed’s inflation forecasting model predicts that increases in the personal consumption expenditures (PCE) price index will slow over the next 12 months.
Warehouse workers

By

Kevin L. Kliesen

The U.S. economy roared ahead in the second quarter of 2018 after increasing at a modest rate in the first quarter. Economic conditions have been fueled by strong corporate profits, healthy financial market conditions, and accommodative monetary and fiscal policies. If these trends persist, buoyant economic and labor market conditions are likely over the second half of the year. By contrast, headline inflation moderated in the second quarter, though the year-over-year gain remained slightly above the 2 percent target rate of the Federal Open Market Committee (FOMC). In response to strengthening economic conditions and rising price pressures, the FOMC indicated that further gradual increases in its policy rate are likely. However, policymakers and economists are carefully monitoring recent international developments.

Strong Economic Conditions

After increasing at a 2.2 percent annual rate in the first quarter, real gross domestic product (GDP) increased at a brisk 4.1 percent annual rate in the second quarter. The second-quarter increase was modestly stronger than both the consensus of Blue Chip forecasters (3.9 percent) and the St. Louis Fed’s Economic News Index (3.4 percent).

The near doubling of real GDP growth from the first to the second quarter reflected solid gains in consumption by households, capital spending by firms, and sales of goods and services to the rest of the world (exports). Government expenditures also advanced at a modestly faster rate in the second quarter compared with the previous quarter. By contrast, residential fixed investment declined for the fourth quarter in the past five. Still, if not for a decline in inventory investment in the second quarter, real GDP growth would have been much stronger at 5.1 percent. In the statement issued after the Aug. 1 meeting, the FOMC said that “economic activity has been rising at a strong rate.”

The strength in product markets (production and sales of goods and services) has bolstered labor markets. In July, nonfarm payroll employment rose by 157,000. Although this gain was well below its average over the previous three months (about 230,000), the average gain per month thus far in 2018 is running about 30,000 more than the first seven months of 2017.

With the unemployment rate falling below 4 percent, many firms continue to report that they are having a difficult time filling open positions despite faster labor force growth. In fact, the Bureau of Labor Statistics reported that in the second quarter of 2018, unfilled job openings exceeded the number of those unemployed and actively seeking a job for the first time on record. (Job openings data only go back to late 2000.)

Strong demand for labor has fueled a modest acceleration in labor compensation. The year-to-year growth in the employment cost index, a broad measure of compensation that includes wages and salaries and benefits, has increased from 1.8 percent in the first quarter of 2016 to 2.9 percent in the second quarter of 2018—a 10-year high.

Has Inflation Peaked?

Spurred by a sharp slowing in the growth of energy prices, headline inflation moderated in the second quarter. After increasing at a 2.5 percent annual rate in the first quarter, the all-items personal consumption expenditures price index (PCEPI) rose at a 1.8 percent rate in the second quarter. However, input price pressures remain intense in some industries, such as construction and transportation. At the same time, nonenergy commodity price pressures moderated in June and July. In this vein, the U.S. Energy Information Administration projects that crude oil prices will fall slightly over the second half of 2018 and into the first half of 2019.

The St. Louis Fed’s inflation forecasting model employs a broad array of prices, both domestic and foreign, to predict headline PCEPI inflation over the next 12 months. The latest forecast projects that inflation will slow from 2.2 percent in July 2018 to about 1.75 percent in July 2019. This forecast is consistent with recent developments: a strengthening U.S. dollar, some softening in the global economy, weaker oil and commodity prices, and stable inflation expectations. The model continues to indicate a small probability that headline inflation will accelerate past 2.5 percent over the next 12 months.

The Near-term Outlook Looks Bright

As seen in the accompanying table, the consensus of professional forecasters is that U.S. real GDP growth will average close to 3 percent over the second half of 2018.


Current Forecasts from the Survey of Professional Forecasters

Actual 2018:H1 Forecast 2018:H2
National Income and Product Account Components
Percent, SAAR
Real Gross Domestic Product 3.2 2.9
Real Personal Consumption Expenditures (PCE) 2.3 2.6
Nonresidential Fixed Investment 9.4 5.3
Real Residential Fixed Investment –2.3 1.9
Government Spending 1.8 1.8
Billions of 2012 dollars, SAAR
Change in Net Exports 24.7 –19.0
Change in Private Inventories –22.0 28.5
Inflation
Percent, SAAR
PCE Price Index 2.2 2.1

SOURCES: Federal Reserve Bank of Philadelphia and Haver Analytics.
NOTES: Actuals and forecasts are two-quarter averages. SAAR is seasonally adjusted annual rate.


Forecasters expect continued solid gains in consumption and business fixed investment, a modest rebound in residential fixed investment, and some inventory rebuilding, offset to some extent by weaker growth of net exports (i.e., a larger trade deficit in goods and services). Forecasters also predict that inflation will remain near the Fed’s target rate. Solid growth and low inflation will help maintain healthy labor market conditions, though with perhaps some modest upward pressure on interest rates.

Brian Levine, a senior research associate at the Bank, provided research assistance.


ABOUT THE AUTHOR
Kevin L. Kliesen 

Kevin L. Kliesen is a business economist and research officer at the Federal Reserve Bank of St. Louis. His research interests include business economics, and monetary and fiscal policy analysis. He joined the St. Louis Fed in 1988. Read more about the author and his research.

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