The Macroeconomic Outlook and Implications for U.S. Agriculture Midwest & Great Plains/Western Extension Summer Outlook Conference St. Louis, MO

Kevin L. Kliesen Federal Reserve Bank of St. Louis August 13, 2014 Not an official document

• The Big Picture

• How the Macroeconomy Affects U.S. Agriculture: A Primer

• A Brief on the U.S. Economy: A Medium- and Longer-Term Perspective

• Risks to the U.S. Outlook

Sketch of Today’s Talk

The views I will express are my own and do not necessarily reflect the positions of the Federal Reserve Bank of St. Louis or the Federal Reserve System.

Disclaimer

The Big Picture

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• “There’s uncertainty about what the path of the economy will be.”—Chair Janet Yellen (June 18)

• The latest GDP report provided some needed clarity and showed improved momentum.

• Healthy job growth and a steadily declining unemployment rate.

• Inflation pressures increased in the second quarter, but inflation expectations remain stable.

• Financial stresses are lower than average.

Recent Developments in the U.S. Economy

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The U.S. economy: A short- to medium-term perspective

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• Real GDP declined unexpectedly in the first quarter.

− Weather was a factor, but not the only factor.

• As expected, the economy posted a healthy rebound in the second quarter of 2014.

• Importantly, last month’s GDP report showed that the U.S. economy’s growth rate last year was stronger than initially reported.

The U.S. economy rebounded in the second quarter by more than expected.

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-2.9

2.3

4.0

-2.1

4.03.1 3.1

-4.0

-2.0

0.0

2.0

4.0

6.0

2013:H1 2013:H2 2014:Q1 2014:Q2 2014:Q3 2014:Q4

Pre-RevisionPost-RevisionForecast

Real GDP Growth: Pre- and Post-NIPA Revisions and ForecastPercent change, annual rate

NOTE: BEA Revisions reported on July 30, 2014. Forecast is the Blue Chip Financial Consensus.

Recent data suggest a good start to the third quarter.

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• July auto sales remained above 16 million units (SAAR).

• Gasoline prices in July were at a 4-month low.

• Consumer confidence surged to a near 7-year high in July.

• Real after-tax income growth was strong in Q1 and in Q2 (around 3.5%).

Recent data suggest a good start to the third quarter.

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• Manufacturers reported their highest level of activity this year in July. Building optimism.

• Even optimism among small businesses is rising; in Q2 the reading was the highest since 2007.

• Mixed signals on housing, but most forecasters see continued growth over the second half of 2014.

Healthy U.S. labor market conditions.

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• Over the past three months, job gains have averaged a little less than 250,000/month.

• Weekly claims for unemployment insurance benefits are low.

• The unemployment rate is nearing the economy’s natural rate of unemployment.

• A lingering concern is the high number of long-term unemployed.

The U.S. unemployment rate is soon likely to be below 6%. Then what?

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6.2

0

2

4

6

8

10

12

Jan.2005 Oct.2006 Jul.2008 Apr.2010 Jan.2012 Oct.2013

Civilian Unemployment RatePercent of labor force

Last actual observation is July 2014

The trend suggests that the rate will fall below 6% in Q3.

Inflation has turned up . . But will it stay elevated?

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• Inflation has accelerated over the past three months.

• Food, energy, and medical care prices all rose at brisk rates in the second quarter.

• However, financial markets and most forecasters don’t seem too alarmed.

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Headline inflation: Is it above or below the FOMC’s 2% target rate? Yes.

2.1

1.6

0.0

1.0

2.0

3.0

4.0

5.0

Jan.2010 Nov.2010 Sep.2011 Jul.2012 May.2013 Mar.2014

Headline Inflation: CPI and PCEPIPercent change from a year earlier

CPI

PCEPI

FOMC Target (2%)

NOTE: Last actual observation is June 2014.

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Another positive: Crude oil prices are forecast to decline through next year.

90.0

94.0

98.0

102.0

106.0

110.0

Jan.2013 Jul.2013 Jan.2014 Jul.2014 Jan.2015 Jul.2015

WTI

US EIA Forecast

Forecast

U.S. Crude Oil Prices: Actual and ProjectedDollars per gallon (including taxes)

SOURCE: Short-Term Energy Outlook, U.S. EIA, August 2014

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The potential for lower energy costs over the long run from fracking.

59%

15%

27%

0% 10% 20% 30% 40% 50% 60% 70%

Agree/StronglyAgree

Uncertain

Disagree/StronglyDisagree

Will New Technology for Fracking Natural Gas Make U.S. Industrial Firms More Cost Competitve and Boost U.S. Exports?

SOURCE: University of Chicago Booth IGM Forum of Economic Experts, August 12. 2014.

Financial stress remains lower than average, but with a recent uptick.

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-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

Dec.09 Aug.10 Apr.11 Dec.11 Aug.12 Apr.13 Dec.13 Aug.14

The St. Louis Fed's Financial Stress IndexWeekly data

European Turmoil, 2010

Last observation: Week of August 1, 2014.

S&P Downgrade, GDP Revision, and Europe, 2011

European Turmoil, 2012

Week of June 18, 2013 FOMC

FOMC: Nearing “normal.”

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The Committee sees the risks to the outlook for economic activity and the labor market as nearly balanced and judges that the likelihood of inflation running persistently below 2 percent has diminished somewhat. [FOMC Statement, July 30, 2014]

The Goldilocks Forecast

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-3.0

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

2012:Q1 2012:Q4 2013:Q3 2014:Q2 2015:Q1 2015:Q4

What Are Forecasters Predicting for Real GDP Growth?Percent

SOURCE: Blue Chip Consensus Forecasts, August 2014.

Actuals Forecast

0.00

1.00

2.00

3.00

4.00

2012:Q1 2012:Q4 2013:Q3 2014:Q2 2015:Q1 2015:Q4

What Are Forecasters Predicting for Inflation?Percent

SOURCE: Blue Chip Consensus Forecasts, August 2014.

Actuals Forecast

5.0

6.0

7.0

8.0

9.0

10.0

2012:Q1 2012:Q4 2013:Q3 2014:Q2 2015:Q1 2015:Q4

What Are Forecasters Predicting for theUnemployment Rate?Percent

SOURCE: Blue Chip Consensus Forecasts, August 2014.

Actuals

Forecast

1.0

2.0

3.0

4.0

5.0

2012:Q1 2012:Q4 2013:Q3 2014:Q2 2015:Q1 2015:Q4

What Are Forecasters Predicting for the 10-Yr Treasury YieldPercent

SOURCE: Blue Chip Consensus Forecasts, August 2014.

ActualsForecast

Stronger U.S. growth in 2014-15 points to a stronger U.S. dollar.

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2.1

3.0

1.0

1.61.4

1.3

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

2014 2015

U.S.

Euro Area

Japan

Projected Real GDP Growth: The U.S., the Euro Area and JapanPercent changes

70.0

72.0

74.0

76.0

78.0

80.0

2012:Q1 2012:Q4 2013:Q3 2014:Q2 2015:Q1 2015:Q4

What Are Forecasters Predicting for US Dollar?Percent

SOURCE: Blue Chip Consensus Forecasts, August 2014.

Actuals

Forecast

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The Fed’s first hike will be in 2014 according to a recent NABE survey.

8.1

14.3

36.7

28.6

8.2

4.1

0 10 20 30 40 50

Second half of2014

1st Quarter of2015

2nd Quarter of2015

3rd Quarter of2015

4th Quarter of2015

2016 or later

Survey of Business Economists: When will the Fed First Increase its Policy Rate?Percent of respondents

SOURCE: National Association for Business Economics Outlook Supplement, July 2014

A Longer-Term Perspective on the

U.S. Economy

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Labor productivity is volatile, but appears to have slowed recently.

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

1957 1963 1969 1975 1981 1987 1993 1999 2005 2011

3-Year Growth Rate 5-Year Growth Rate10-Year Growth Rate

Growth of Nonfarm Labor Productivity Over Various HorizonsPercent changes at annual rates

Productivity growth rates for the following periods ending in 2014:Q1: 2005:Q1 2014:Q1 3-YR: 2.9% 0.8% 5-Yr: 3.5% 1.7% 10-Yr: 3.0% 1.5%

Many aspects of our society depend on the long-run growth rate of real GDP.

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• It matters for the profitability of firms, and thus trends in stock prices and wealth.

• Faster growth, all else equal, means a lower average tax rate paid by citizens and firms.

• Faster growth will also yield higher levels of government revenues, thus boosting national savings and investment.

Projections of long-term real GDP growth: Differing views

2.22.1

2.6

2.0

2.1

2.2

2.3

2.4

2.5

2.6

2.7

2.8

2.9

2009 2010 2011 2012 2013 2014

Average of Central Tendency CBO Forecasters

Projected Long-Run Growth of Real GDP According to the Congressional Budget Office (CBO), Professional Forecasters, and FOMC Participants, 2009-2014Percent

Source: Survey of Economic Projections (SEP), Congressional Budget Office, and the Federal Reserve Bank of Philadelphia..

Assessing the economy’s long-run growth rate: Some key insights

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• Labor productivity is the key determinant of the economy’s long-run growth rate (growth of per capita real GDP).

• Productivity is highly volatile; trends are difficult to discern in real time.

• Economic policies that affect innovation and the creation of new ideas are critical.

• The U.S. economy is building some good momentum, but with continued modest inflation pressures.

• However, forecasters have been predicting stronger growth for some time, only to be disappointed.

• If the economy progresses as expected, the process of normalizing monetary policy could begin in 2015.

• Risks to the outlook: Geopolitical developments, a potential shift in the economy’s long-run growth rate, and possible financial excesses.

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Key Summary Points

• The St. Louis Fed began publishing a quarterly report on agricultural credit and finance conditions in 2012.

• The report on credit and finance conditions in the second quarter of 2014 will be published tomorrow morning (Aug. 13).

• Contact me (kliesen@stls.frb.org) if you would like to receive a copy.

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Questions?

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