The U.S. Economic Outlook - TaxAdmin.org · 2016. 1. 13. · “Fiscal cliff” scares. •...

The U.S. Economic Outlook Paul Edelstein US Macroeconomics Group October 2013

© 2013, IHS Inc. No portion of this presentation may be reproduced, reused, or otherwise distributed in any form without prior written consent.

Where are we now…

2

Concept Growth since pre-recession peak Date of peak

Real GDP 4.6% 2007q4 Consumer Spending 6.1% 2007q4 Housing -44.8% 2005q3

Exports 32.3% 2009q2 Imports 29.7% 2009q2

Business Equipment Spending 4.2% 2007q4 Employment -1.4% Jan 2008

Personal Income (real) 4.0% 2008q2 Corporate Profits (nominal) 30.7% 2007q2


…and where are we heading?

2015-16 2014 2013

•  2013 q1-q3 highlights •  Resilient consumers, still

spending after tax increases. “Fiscal cliff” scares.

•  Survival of the federal government spending sequester

•  Weak 2012 ending point •  2013 q4 concerns

•  Shutdowns in DC •  Debt ceiling-driven

spending limitations •  QE tapering starts

•  Improved employment, income and asset values will drive the recovery through 2014

•  Renewed export growth as world economic growth mildly rebounds

•  QE tapering winds up •  Affordable Care Act

implementation

•  Interest rates rise as the Federal Reserve’s unemployment target get breeched

•  The federal budget deficit will approach 3% of GDP, a sustainable share.

3


Recovery still slow but set to pick up

-6 -5 -4 -3 -2 -1 0 1 2 3 4 5

2009 2010 2011 2012 2013 2014 2015

(Real GDP, annualized real rate of growth, Q/Q, percent)

4


U.S. economic growth by sector

5

(Percent change unless otherwise noted)

2012 2013 2014 2015 Real GDP 2.8 1.5 2.5 3.2 Housing Starts (Millions) 0.78 0.91 1.15 1.48 Labor Productivity 1.5 0.2 0.8 1.2 Federal Government -1.4 -4.9 0.3 -0.6 State and Local Government -0.7 -0.4 0.1 0.6 Federal Deficit (% of GDP) -6.8 -4.2 -4.2 -3.6 Federal Debt (% of GDP) 70.7 73.3 74.4 74.5 Unemployment Rate 8.1 7.5 7.1 6.5 CPI Inflation 2.1 1.5 1.6 1.7 Oil Price (Brent, $/bbl) 112 108 104 99 10-year Government Bond Yield 1.80 2.33 2.91 3.23


The macroeconomic focus will be housing and government spending through 2014

6

1.8

2.8

1.5

2.5 3.2 3.2

-2

-1

0

1

2

3

4

2011 2012 2013 2014 2015 2016

Real GDP Consumer Spending Business Fixed Investment Housing Inventories Exports Imports Government

Sum of bars to the right of the blue bar = blue bar

(Contribution to GDP growth)

Fiscal drag


Employment growth still weak and uneven. But unemployment rate continues to fall

7

0.0

2.0

4.0

6.0

8.0

10.0

0

50

100

150

200

250

300

350

Jan-11 May-11 Sep-11 Jan-12 May-12 Sep-12 Jan-13 May-13

(Payroll employment, monthly change, thousands of jobs)


Labor force participation – cyclical and secular decline

8

61

62

63

64

65

66

67

68

1980 1985 1990 1995 2000 2005 2010

(Percent of population in the labor force)


Initial unemployment claims at rock-bottom levels

9

300

325

350

375

400

425

450

475

Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13

4-Week Moving Average Actual

(thousands)


What are the new normal profit margins?

10

6%

7%

8%

9%

10%

11%

12%

13%

1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015

Economic Profits as a Share of GDP


Demand shortfall: household formation has revived

11

(Millions of households)

0.00

0.25

0.50

0.75

1.00

1.25

1.50

1.75

2.00

Mar 02-Mar 03

Mar 03-Mar 04

Mar 04-Mar 05

Mar 05-Mar 06

Mar 06-Mar 07

Mar 07-Mar 08

Mar 08-Mar 09

Mar 09-Mar 10

Mar 10-Mar 11*

Mar 11-Mar 12

Mar 12-Mar 13

*The latest revised 2011 figures show 2.4 million extra households, but are distorted by the introduction of new population controls. The table shows the original 2011 estimate.

Source: Census Bureau


Housing prices up 12.3% year-on-year

12

(Case-Shiller 20-City Index, April 2006 = 100)

60

65

70

75

80

85

90

95

100

105

2006 2007 2008 2009 2010 2011 2012 2013


0

2

4

6

8

10

12

14

2000 2002 2004 2006 2008 2010 2012

Lean housing inventories behind sector rebound

13

(Months’ supply of new homes)

Housing shortages, a result of under-building, are driving housing forward. The shortages have led to rising home prices, incentivizing builders to ramp up on starts. Higher mortgage rates will reduce demand, of course. But not by enough to keep housing starts from reaching 1.5 million in 2015.


1

2

3

4

5

6

3.0

3.5

4.0

4.5

5.0

5.5

May-10 Nov-10 May-11 Nov-11 May-12 Nov-12 May-13

30-year fixed mortgage rate (Right scale, percent) MBA refinance index (Left scale, level, thousands)

Refinancing plummets as mortgage rates rise

14


Mortgage applications to purchase hit by higher mortgage rates

15

150

175

200

225

250

275

300

Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13

4-Week Moving Average Actual

(Mortgage applications for purchase, index, Mar.16,1990 =100)


Housing starts in a long climb; prices have turned higher

16

150

160

170

180

190

200

210

220

230

0.50

0.75

1.00

1.25

1.50

1.75

2.00

2.25

2.50

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Housing Starts (LS, millions of units) FHFA House Price Index (RS, purchase-only index, 1991Q1 = 100)


Income growth set to accelerate; support spending

17

-1 0 1 2 3 4 5 6 7 8 9

1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017

Real Nominal

(Percent change)


Stock market lifts household net worth

18

40

50

60

70

80

90

100

110

120

2007Q1 2008Q1 2009Q1 2010Q1 2011Q1 2012Q1 2013Q1

Equities Real Estate Net Worth

(Index, 2007Q1 = 100)


Household deleveraging continues on the mortgage side

19

(Household liabilities, percent of disposable income)

0

20

40

60

80

100

120

140

1980 1985 1990 1995 2000 2005 2010

Total Mortgage Consumer Credit


(Percent change)

Consumer spending will not be a strong driver of recovery

20

-4

-2

0

2

4

6

8

1990 1993 1996 1999 2002 2005 2008 2011 2014 2017 2020 2023

US Real GDP Real Consumer Spending


Federal deficit projected path

21

-15

-10

-5

0

5

-1,500

-1,000

-500

0

500

1980 1985 1990 1995 2000 2005 2010 2015 2020

Unified Budget Deficit (Left scale) Deficit as % of GDP (Right scale)

(Billions of dollars, fiscal years) (Percent of GDP)


The federal budget gap: action on both sides of the ledger

22

(Percent of GDP)

14

16

18

20

22

24

26

1980 1984 1988 1992 1996 2000 2004 2008 2012 2016 2020

Revenues Expenditures


Federal debt ratio to stabilize just under 80% - but the biggest problems come later

23

(Publically-held Federal debt, percent of GDP)

20

30

40

50

60

70

80

1980 1985 1990 1995 2000 2005 2010 2015 2020


Entitlements and interest make it hard to cut federal spending more than we have assumed

24

(Percent of GDP)

0

5

10

15

20

25

30

2000 2004 2008 2012 2016 2020

Defense Medicare/Medicaid Social Security Interest Nondefense Goods & Services Other


Government Shutdown – Causes and Consequences

25

•  No budget in place for FY 2014.

•  Without appropriated funds, certain government activities ceased on October 1 (start of FY 2014)

•  Republicans demand ACA defunding as quid pro quo for spending bill. Democrats refuse to negotiate on this point.

•  Misnomer: 60% of the federal government continues to function, but...

•  Wide ranging impacts include furloughing of all non-emergency federal civilian personnel (whom would not be paid and would be forbidden to work) and shutting down of agency activities and services

•  Government has “shutdown” 17 times since 1976 for a median 5 days. Last shut down was in late-2015 to early-2016 and lasted 21 days.


Government Shutdown – Causes and Consequences

26

•  Impact on economic activity expected to be small and confined to Q4 – provided : •  shutdown lasts only 1-3 weeks •  government workers receive back pay as in 1995-96.

•  770,000 federal government workers furloughed. •  GDP impact primarily through lost government services output.

•  Lost GDP amounts to $1.6 billion per week of shutdown.

•  Impact on Q4 GDP growth: •  1 week shutdown > subtracts 0.16 percentage points •  3 week shutdown > subtracts 0.48 percentage points

•  Minor “multiplier effects” as long as shutdown is short and workers expect back pay.

•  .


IHS GDP Forecasts – With and Without a 3 Week Shutdown

27

0

0.5

1

1.5

2

2.5

3

2013Q4 2014Q1 Without Shutdown With Shudown

(Quarter/Quarter Annualized % Change)


The Debt Ceiling – A Larger Calamity

28

•  Debt limit was temporarily suspended this year until mid-May, then capped at $16.7 trillion.

•  Since then, Treasury has taken “extraordinary measures” to finance deficits approved by Congress. •  Treasury estimates they will expire on October 17.

•  At that point, Treasury will not be able to add net new debt (currently $16.7 trillion). •  Will have to rely on tax revenues and cash balances.

•  If debt ceiling is not raised, there are no “good” options available to Treasury.

•  Given the political and economic ramifications of not doing so, we believe the debt ceiling will be raised.


No debt-ceiling hike means no federal deficits

29

•  Ultimately, federal deficits would have to be eliminated so that the Treasury doesn’t to borrow to cover outlays.

•  $740 billion deficit projected for FY 2014.

•  Eliminating would mean massive fiscal contraction •  Would cut projected government outlays by 21% (4.2% of GDP).

•  US economy would fall into recession •  GDP would contract by 1.8% in 2014 just from fewer government outlays. •  Multiplier effects would add to the decline. •  Fed would try to offset, but would probably be unsuccessful.

•  Even on an interim basis, massive spending cuts would be required.


What if Treasury “defaults?”

30

Ø  Since federal government has never defaulted, can only speculate about the outcome.

•  A missed or delayed debt payment would be a technical default.

•  Financial market impact would be disastrous. •  Collateral value of Treasury securities would plummet as markets add default

risk to asset prices. •  Credit markets would freeze •  Bond yields would spike •  Would spread to other credit sectors (corporate, muni, mortgage) •  US sovereign debt would be downgraded

•  Banks would have to mark down balance sheets, curtailing lending. •  Fed might not take Treasuries as collateral at discount window.

•  Treasury would probably put debt payments at front of the line.


But can Treasury prioritize debt payments over other obligations?

31

Ø  Probably not.

•  Put debt payments ahead of other obligations such as salaries, vendor/contractor payments, Social Security benefits, Medicare reimbursements.

•  According to Treasury, might not be technically feasible given their computer systems. •  Treasury makes 100 million monthly payments.

•  Could be politically treacherous. •  Who gets paid first, a foreign bond holder or a Social Security recipient?

•  Would not avoid credit downgrade – •  According to Fitch Ratings, arrears on any government obligations would be

grounds for a downgrade.


The Debt Ceiling – Upcoming Cash Requirements

32

October 23 Social Security Benefits Payment $12 billion

October 31 Interest payment on Treasury Securities

$6 billion

November 1 Social Security, Medicare Advantage and Medicare D, active-duty military pay, retiree pension benefits, SSI

$67 billion

November 13 Social Security Benefits Payment $12 billion

November 15 Interest payment on Treasury Securities

$30 billion

* In addition to these payments, ongoing activities will likely cost $10 billion per day on average. Tax remittances typically average $7 billion per day.

Source: Congressional Budget Office


• Current US monetary policy has three components: •  policy rates •  forward guidance •  asset purchases.

• Policy rate has been at zero since December 2008.

• Two unconventional components: •  Forward guidance – a promise to keep the policy rate at zero at least until

unemployment falls below 6.5% so long as inflation is less than 2.5%. •  Asset purchases – purchases of long-term US Treasuries and MBS, at $85

billion per month pace until labor market shows substantial improvement.

33

Components of monetary policy

© 2013, IHS Inc. No portion of this presentation may be reproduced, reused, or otherwise distributed in any form without prior written consent. 34

“Taper Talk” drives interest rates higher

1.5

2

2.5

3

May-13 Jun-13 Jul-13 Aug-13 Sep-13 Oct-13

Sept. 18 FOMC meeting

June 19 FOMC meeting

(10-year Treasury Note Yields)


4.0

5.2

6.4

7.6

8.8

10.0

-9

-6

-3

0

3

6

2005 2007 2009 2011 2013 2015 2017

Real GDP growth (Left scale, annual percent change) Unemployment rate (Right scale, percent)

Forward Guidance: No rate hikes until unemployment hits 6.5%.

35

The unemployment rate will hit the Fed’s 6.5% threshold in mid-2015.


U.S. interest rate outlook – slow climb

36

0%

1%

2%

3%

4%

5%

6%

7%

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

Federal Funds Rate 10-year Treasury Bond Corporate AAA Bonds 30-year fixed mortgage

Fed tapering proceeds

Near zero rates end


• Markets expected the Fed to taper at its September 18 meeting, but the Fed deferred. •  Labor market data looking less robust •  Impact of rising mortgage rates on housing. •  Fiscal policy.

• Fed holds two more meetings this year (10/30 and 12/18). •  No October taper •  Even if CR is passed and debt ceiling raised this month.

•  December taper most likely •  Fiscal issues resolved satisfactorily, labor market shows improvement.

•  Could wait until early next year.

37

Fed on hold until fog of fiscal uncertainty lifts

Thank you!

Paul Edelstein Director of Financial Economics [email protected]

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