Economic Outlook, December 2012

There are several factors impeding a more rapid recovery following the Great Recession: (1) the housing market is still coping with a large inventory overhang; (2) significant retraining has been required for many laid-off workers, including those who previously worked in industries related to residential construction, to find new employment in other sectors of the economy, and capital investment is often required when workers move to new sectors; (3) the Great Recession seems to have made many consumers more cautious and less willing to spend, relative to their income and wealth; and (4) uncertainty has caused businesses to delay hiring and investment commitments. It is reasonable to think that gross domestic product will grow at an annual rate of 2 percent in 2013. This forecast is based on a number of factors: meaningful progress on federal budget issues; improvement in economic conditions in Europe; and gradual gains in consumer confidence. While maintaining price stability is the responsibility of the Federal Reserve, real economic growth and labor market conditions are affected by many factors beyond the Fed’s control. The effects of monetary stimulus on real output and employment often are smaller than is widely thought. The current supply of bank reserves is sufficient to support economic recovery, and additional asset purchases are likely to have little to no effect on growth. It is useful for the Federal Open Market Committee to provide a qualitative assessment of the conditions that would likely dictate future changes in monetary policy. The Committee’s decision at its December meeting to tie such changes to specific improvements in the unemployment rate could be problematic, however. By attempting to improve labor market conditions through very accommodative monetary policy, the Fed could endanger its record of achieving price stability.