Question

Suppose you were advising the FOMC as they head toward their next meeting. Write a brief (just a few paragraphs) about the current state of the US macroeconomy and the challenges that you see for policy. Conclude with a recommendation for action.

Answer 1

The baseline: Consumer spending continues to grow. A pickup in foreign growth helps to tamp down the dollar and increase demand for US exports, adding to demand. Fiscal stimulus from the tax bill and the budget agreement pushes growth up in 2019 but is somewhat offset by the impact of US tariffs and foreign response. However, the US government comes to an arrangement with trading partners, and the tariffs are removed fairly quickly. A small increase in trade restrictions adds to business costs in the medium term, but this is offset by lower regulatory costs.

Recession: The economy weakens in late 2019 and early 2020 from the impact of tariffs and the withdrawal of stimulus as the additional spending from this year’s budget agreement goes away. With the economy already weak, a relatively small financial crisis pushes the economy into recession.

Slower growth: Business tax cuts induce little investment spending. Productivity growth becomes even more sluggish. Tariffs remain in place as the United States and its trading partners fail to agree on new global trade arrangements. The tariffs raise costs and disrupt supply chains. Businesses hold back on investments to restructure their supply chains because of uncertainty about future policy. The higher spending authorization from the budget bill translates only slowly into additional federal outlays, reducing the budget bill’s impact on the economy. GDP growth falls to less than 1.5 percent over the forecast period, while the unemployment rate rises.

Productivity bonanza Technological advances begin to lower corporate costs, as deregulation improves business confidence. Improved infrastructure boosts short-run demand and, in the long run, capacity and the productivity of private capital. Tariffs are short-lived and turn out to have a smaller impact than many economists expected. The economy grows 2.5 percent in 2019, with growth at 2.3 percent after 2021 while inflation remains subdued.

Inflation, employment, and long-term interest rates fluctuate over time in response to economic and financial disturbances. Moreover, monetary policy actions tend to influence economic activity and prices with a lag. Therefore, the Committee's policy decisions reflect its longer-run goals, its medium-term outlook, and its assessments of the balance of risks, including risks to the financial system that could impede the attainment of the Committee's goals.

The inflation rate over the longer run is primarily determined by monetary policy, and hence the Committee must specify a longer-run goal for inflation.

The maximum level of employment is largely determined by nonmonetary factors that affect the structure and dynamics of the labor market. These factors may change over time and may not be directly measurable. Consequently, it would not be appropriate to specify a fixed goal for employment; rather, the Committee's policy decisions must be informed by assessments of the maximum level of employment, recognizing that such assessments are necessarily uncertain and subject to revision. The Committee considers a wide range of indicators in making these assessments.