US Forecast: January 31, 2007 |
Forecast Period 2007:1--2009:4 (12 quarters) Data The forecast is based on the national income and product accounts (NIPA) data that were released on January 31, 2007. The Latest Version of the US Model For purposes of this forecast the US model has been reestimated through 2006:4. These estimates and the complete specification of the model are presented in Appendix A: The US Model: January 31, 2007, which is an update of Appendix A in Fair (2004). Beginning with the forecast dated October 31, 2005, a few minor specification changes have been made to the model from the version in Fair (2004). These are: 1) in equation 9, which explains MH, the time trend T has been replaced by a time trend T951Z that begins in 1995:1, with zero values prior to 1995:1, and the equation is estimated under the assumption of no serial correlation of the error term, 2) in equation 14, which explains HF, the time trend T has been added, 3) in equation 21, which explains CCF, some of the dummy variables have been changed and some new dummy variables have been added to try to account for different tax law changes, and 4) three new exogenous variables have been added to reflect data changes, TAXFR, TRFG, and TRFS. The three new exogenous variables required changes to the identities 67, 68, 69, 74, 76, 78, 105, and 112. Also, beginning with the January 28, 2006, version, one more dummy variable has been added to equation 21. Finally, beginning with the April 28, 2006, version, the interest rate variable in equation 17 is unlagged rather than lagged once. Assumptions Behind the Forecast The following table gives the growth rates that were assumed for the current forecast for the key exogenous variables in the model along with the actual growth rates between 1993:3 and 2006:4. Growth Rates (annual rates) Current Forecast Actual Assumptions 2006:4-1993.3 TRGH 8.0 5.5 COG 3.0 3.7 JG 1.0 -1.0 TRGS 5.0 6.0 TRSH 5.0 6.2 COS 3.0 4.3 JS 1.0 1.5 EX 8.0 5.7 PIM 1.5 0.9 The first seven variables are the main government policy variables in the model aside from tax rates. A key question for the forecast is what to assume about future tax rates. Will the tax cuts be allowed to be phased out, which is currently the law, or will the cuts be made permanent? For this forecast the tax rates in the model have been assumed to be unchanged from their current values. This is a useful base case around which experiments can be made. No assumption is needed about monetary policy for the forecast because monetary policy is endogenous. Monetary policy is determined by equation 30, an estimated interest rate reaction function or rule. The Results Selected forecast results are present in the tables that follow this memo. If you want more detail, click "Solve current version" after "US Model," create a data set, and then go immediately to "Examine the results without solving the model." You can then examine any variable in the model. Real Growth and the Unemployment Rate: The predicted growth rates for the next four quarters are 3.2, 2.9, 2.6, and 2.6 percent, respectively. The unemployment rate stays roughly unchanged throughout the forecast period. The jobs variable, JF, is predicted to increase in the four quarters by 1.9, 2.2, 2.2, and 2.0 percent, respectively. Inflation: Inflation as measured by the growth of the GDP deflator (GDPD) is predicted for the next four quarters to be 4.4, 4.2, 4.1, and 4.0 percent, respectively. These predicted values are considerably higher than the actual values in the past few years and probably higher than most others are predicting. If the model is right, inflation is going to be a problem in the next year. It is the case, however, that the model has been overpredicting inflation for the past few quarters, and the current prediction may be another example of this. (For the past forecasting record of the model, see The Forecasting Record of the US Model.) Monetary Policy: The estimated interest rate rule (equation 30) is predicting that the three month bill rate (RS) will rise to 5.3 percent by the end of 2007. Other Variables: The federal government budget deficit is predicted to be around $100 billion in the next four quarters (on a NIPA basis). (See the predicted values for SGP.) By the end of 2009 it is predicted to be only $81.0 billion. The U.S. current account deficit (variable -SR in the model) is forecast to be around $760 billion in the next four quarters (on a NIPA basis), which is very large by historical standards. It falls to $662.0 billion by the end of 2009. Possible Experiments to Run As noted above, the current forecast is a good base from which to make alternative assumptions. On the side of stimulus, you can increase government spending. It may be, for example, that COG will grow more rapidly than assumed above, perhaps because of increased defense spending. You can also drop the interest rate rule (equation 30) and put in different values for the bill rate. (Will the Fed do something different than equation 30 is predicting, which is a small increase in the bill rate?) You can also change tax rates, either up or down, from the base case of no change. Regarding prices, you may want to increase PIM if you think there will be further oil price increases or a depreciation of the dollar. The assumption about PIM for the current forecast is that it will grow at an annual rate of 1.5 percent throughout the forecast period. (If you increase PIM, inflation will be even higher than is currently forecast.) Regarding the stock market, the S&P 500 index is currently high relative to earnings. Each change in the S&P 500 index of 10 points is a change in CG, the capital gains variable in the model, of about $100 billion. At the time of this writing the S&P 500 index is about 1440. If you think this is too high and that the index will fall to, say, 1240, you should drop the equation for CG and change CG by about -$2,000 billion at a quarterly rate (-$8,000 billion at an annual rate). See the discussion in Section 7.2 of The US Model Workbook. |
US Forecast Tables: January 31, 2007 |
Table F1: Forecasts of Selected Variables--Real GDP
and Components
Table F1 (continued)--Prices and Wages Table F1 (continued)--Money and Interest Rates Table F1 (continued)--Employment and Labor Force Table F1 (continued)--Other Endogenous Table F1 (continued)--Selected Exogenous Table F2: Forecasts of the Federal Government Budget Table F3: Forecasts of the State and Local Government Budget Table F4: Forecasts of Savings Flows NIPA Table 1.1.5 NIPA Table 1.1.6 Old NIPA Table 3.2 Old NIPA Table 3.3 NIPA Table 1.1.4 |
Table F1: Forecasts of Selected Variables |
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Table F1 (continued) |
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Table F1 (continued) |
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Table F1 (continued) |
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Table F1 (continued) |
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Table F1 (continued) |
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Table F2: Forecasts of the Federal Government Budget |
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Table F3: Forecasts of the State and Local Government Budget |
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Table F4 Forecasts of Savings Flows |
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NIPA Table 1.1.5 |
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NIPA Table 1.1.6 |
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Old NIPA Table 3.2 |
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Old NIPA Table 3.3 |
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NIPA Table 1.1.4 |
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