Full text of FedViews : March 8, 2018
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Twelfth Federal Reserve District FedViews March 8, 2018 Economic Research Department Federal Reserve Bank of San Francisco 101 Market Street San Francisco, CA 94105 Also available upon release at http://www.frbsf.org/economic-research/publications/fedviews/ Dan Wilson, research advisor at the Federal Reserve Bank of San Francisco, stated his views on the current economy and the outlook as of March 8, 2018. Driven largely by robust consumer spending, real GDP grew at an annual rate of 2.5% in the fourth quarter of 2017, according to the latest Bureau of Economic Analysis estimate. We expect similar growth in 2018, bolstered in part by recent tax cut legislation. Growth is likely to moderate over the following few years toward our estimate of sustainable potential output growth of around 1.7%. The labor market remains strong. The January unemployment rate remained at 4.1%, below our estimate of its natural level of 4.75%. Going forward, we expect the rate to fall to around 3.5% in late 2019 before gradually returning to its natural level. Inflation recently moved up gradually toward the Federal Open Market Committee’s 2% target, consistent with the strengthening of the labor market. We expect year-over-year core personal consumption expenditures price inflation, which excludes volatile food and energy prices, to reach 2% by the end of 2019. Interest rates have increased notably in recent months, consistent with the gradual removal of monetary policy accommodation. Interest rates may also be responding to expected increases in the federal budget deficit and recent data pointing to higher inflation. The recently passed Tax Cuts and Jobs Act (TCJA) represents a major fiscal expansion. The Joint Committee on Taxation estimates that the Act will reduce federal budget revenues over the next decade by $1.5 trillion before accounting for any macroeconomic feedback effects. More than half of this cost, and the associated stimulus to the economy, will occur in the first three years. The TCJA made significant changes to individual taxes, introducing new brackets and rates, repealing the personal exemption, and doubling the standard deduction. The TCJA also places limits on the deductibility of mortgage interest and state and local tax payments and introduces a deduction of up to 20% of income derived from so-called pass-through businesses. The TCJA makes other large changes to the corporate tax system, most significantly by reducing the corporate tax rate from 35% to 21%. Another notable change is the temporary allowance of full capital expensing, which is likely to boost capital spending over the next few years. We expect these changes to individual and corporate taxes to provide a temporary boost to GDP growth over the next three years. Based on the particular features of the Act and our reading of the empirical research on past major tax reforms, we forecast that the TCJA will boost real GDP cumulatively by about 0.9 percentage point by 2020, with most of the boost occurring this year. The views expressed are those of the author, with input from the forecasting staff of the Federal Reserve Bank of San Francisco. They are not intended to represent the views of others within the Bank or within the Federal Reserve System. FedViews generally appears around the middle of the month. The next FedViews is scheduled to be released on or before April 16, 2018. Above trend growth continues Job growth remains strong Real GDP % 4 Percent change from 4 quarters earlier Q4 Nonfarm payroll employment 400 350 Monthly change 3 FRBSF forecast Thousands Monthly change; seasonally adjusted 6−month moving average 300 250 Jan. 200,000 2 200 150 1 100 50 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 0 2020 2014 Source: Bureau of Economic Analysis and FRBSF staff 2015 2016 2017 0 2018 Source: Bureau of Labor Statistics Unemployment below natural rate Inflation expected to increase gradually Unemployment rate % Monthly; seasonally adjusted; forecast is quarterly average 12 Personal consumption expenditure (PCE) price inflation % Percent change from 4 quarters earlier 5 10 4 8 3 Overall PCE price index 6 FRBSF forecast FRBSF forecast 2 4 Jan. 4.1 2 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 0 2010 2011 1 Q4 Core PCE price index 2012 2013 2014 2015 2016 2017 2018 2019 2020 Source: Bureau of Labor Statistics and FRBSF staff Interest rates are rising Taxes are falling Interest rates % 8 Weekly average Estimated change in federal revenue Billions of dollars From Tax Cuts and Jobs Act (TCJA) 100 7 ● 30−year mortgage ● −50 5 ● 4 03/08 Ten−year Treasury 3 ● −100 ● −150 ● ● −200 ● 2 2011 Source: FAME 2012 2013 2014 2015 2016 2017 2018 ● 1 0 International Individual Business ● Net total ● Two−year Treasury Fed funds rate 50 0 6 2010 0 Source: Bureau of Economic Analysis and FRBSF staff 2018 2019 2020 2021 2022 2023 2024 2025 Source: Joint Committee on Taxation and FRBSF staff estimates 2026 −250 −300 2027 −350 Individual tax reform Corporate tax reform Change in federal revenue Billions of dollars Due to changes to individual income tax 100 Change in federal revenue Billions of dollars Due to changes to corporate income tax 100 50 50 0 0 −50 ● ● −150 −200 −250 ● Net total Curb mortgage state and local tax (SALT) deduction Lower rates, double std. deduction, repeal personal exemption & other 20% deduction for pass−through income 2018 2019 2020 −300 −350 −400 Tax plan to boost near−term GDP growth TCJA's estimated effects on GDP growth Percentage points, Q4/Q4 0.6 0.5 0.5 0.4 0.3 0.3 0.2 0.1 0.1 Source: FRBSF staff estimates 2019 2020 ● ● −150 Base broadening & other Capital expensing provisions Rate reduction to 21% ● Net total 2018 0.0 −100 ● −200 2019 Source: Joint Committee on Taxation and FRBSF staff estimates Note: Estimates exclude international repatriation taxes Source: Joint Committee on Taxation and FRBSF staff estimates 2018 −50 −100 ● 2020 −250
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