Economic Outlook, May 2013

The economy’s current trend of 2 percent real GDP growth is likely to continue beyond 2013. Despite bright spots in housing and business investment, other factors counsel against a more optimistic outlook with regard to GDP growth. These factors include lower productivity growth, a decline in labor force participation, uncertainty about U.S. fiscal and regulatory policy, and caution on the part of consumers. Although this level of real GDP growth is markedly lower than the 3.5 percent annual average between 1950 and 2000, it represents significant forward momentum and demonstrates the economy’s resilience. An unusual feature of the current period is the extent of the shrinkage of the labor force participation rate — the fraction of the working age population that is either working or actively looking for work. This decline has been strongest for the young. In December 2007, the participation rate for people aged 16 to 24 was 59.2 percent; it is now 54.5 percent. Rates for workers aged 25 to 54 have declined as well. The difficult labor market is not the whole story. Demographics play a role, as do schooling decisions of the young. Such structural causes are unlikely to be reversed rapidly. While inflation has recently been below the Federal Open Market Committee (FOMC) objective of 2 percent, averaging 1.2 percent over the past four quarters, inflation is likely to begin to edge back toward the FOMC’s 2 percent target by next year. During the current period of GDP expansion, the unemployment rate has fallen from 10.0 percent in October 2009 to 7.6 percent as of March, a pace of seven-tenths of a percentage point per year. This is faster than the pace at which unemployment fell in the previous two business-cycle expansions. A highly expansive monetary policy was an appropriate response to a severe recession. In today’s context, however, the benefit-cost trade-off associated with further monetary stimulus does not look promising. The Fed seems unable to improve real growth beyond its present level, despite historic levels of stimulus, perhaps due in part to a decline in productivity growth and other factors outside the control of monetary policy.