| US Forecast: October 30, 2008 |
| Forecast Period 2008:4--2012:4 (17 quarters) Data The forecast is based on the national income and product accounts (NIPA) data that were released on October 30, 2008. The Latest Version of the US Model For purposes of this forecast the US model has been reestimated through 2008:3. These estimates and the complete specification of the model are presented in Appendix A: The US Model: October 30, 2008, 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 These are: 1) in equation 9, which explains MH, the time trend T has been replaced by a time trend T951Z that begins in 1995:1, with zero values prior to 1995:1, and the equation is estimated under the assumption of no serial correlation of the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. Beginning with the April 28, 2006, version, the interest rate variable in equation 17 is unlagged rather than lagged once. Finally, beginning with the April 30, 2008, version, the dummy variable D981 has been dropped from equations 9 and 17, and the dummy variable DD074 has been added to equation 22. No changes were made for the July 31, 2008, forecast and for the current (October 30, 2008) forecast. 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 2008:3.
Growth Rates (annual rates)
Current
Forecast Actual
Assumptions 2008:3-1993.3
TRGH see below 5.7
COG -10.3/2.0 4.0
JG 0.0 -0.7
TRGS 5.0 5.8
TRSH 2.0 5.8
COS -2.0/1.0 3.6
JS 0.0 1.4
EX -6.0/2.0/7.0 6.1
PIM 1.0 2.1
The first seven variables are the main government policy variables in the model aside from tax rates. Regarding COG, its value in 2008:3 was unusually large at $456.2 billion, and its value for 2008:4 was taken to be $444.0 billion. This is a decrease at an annual rate of 10.3 percent. It was then taken to grow at an annual rate of 2.0 percent from 2009:1 on. Regarding COS, it was taken to fall at an annual rate of 2.0 percent for 2008:4--2009:3 and then to grow at at annual rate of 1.0 percent from 2009:4 on. EX was taken to fall at an annual rate of 6.0 percent in 2008:4 and 2009:1, to grow at an annual rate of 2.0 percent in 2009:2--2010:1, and then to grow at an annual rate of 7.0 percent from 2010:2 on. Regarding TRGH, the BEA put some of the tax rebate in 2008:2 and 2008:3 in personal income taxes and some in transfer payments. I put all the rebate in transfer payments, variable TRGH. For 2008:4, TRGH was lowered to an estimated non rebate level of $1,324 billion. It was then taken to grow at an annual rate of 6.0 percent from 2009:1 on. A key question for the forecast is what to assume about future tax rates. Will the Bush 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 "no-tax-change" case is thus a base case around which experiments can be made. The user can put in his or her own assumptions about the government's future tax policies. 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 GDP Growth and the Unemployment Rate: The model is predicting no growth in the next two quarters, 1.7 percent in 2009:2, and 2.3 percent in 2009:3. The unemployment rate rises to 6.9 percent in 2009:3. The jobs variable, JF, is predicted to fall by 0.3 percent in 2008:4 and by 0.06 percent in 2009:1. It then grows at 0.5 percent in 2009:2 and at 1.0 percent in 2009:3. Inflation: Inflation as measured by the growth of the GDP deflator (GDPD) is predicted for the next four quarters to be 5.5, 5.1, 4.7, and 4.6 percent, respectively. These predicted values are clearly higher than most others are predicting. The model, however, has been overpredicting inflation for the past few quarters, and so the current predictions should be interpreted with some caution. If the model is right, inflation is going to be a problem this year. (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 be 1.7 percent in 2008:4, 1.8 percent in 2009:1, 1.7 percent in 2009:2, and 1.7 percent in 2009:3. It rises to 2.5 percent by the middle of 2011. Other Variables: The federal government budget deficit is predicted to fall to close about $100 billion by the end of 2012 (on a NIPA bases). (See the predicted values for SGP.) Remember that the assumption about tax rates is that they remain roughly unchanged. The U.S. current account deficit (variable -SR in the model) is forecast to remain high and fairly constant. Evaluation of the Forecast and Possible Experiments to Run The negative wealth effect from the fall in stock prices (as reflected in variable AA in the model) is one of the reasons the model is predicting no growth for the next two quarters. There is, however, nothing in the initial conditions and likely paths of the exogenous variables that suggests there is going to be a deep and prolonged recession. It may be, of course, because of the current financial crisis that consumers and investors are concerned enough or restricted enough in their ability to borrow that they decrease their spending by huge amounts. These potential "animal spirits" and "credit crunch" effects are not the type that the model can capture. If, for example, people have been spooked by the dire warnings of policy makers and significantly cut back their spending, the economy could be much worse in the next few quarters than the model is predicting. There are many experiments that can be run from this base forecast. These include various fiscal stimulus packages. You can also negatively constant adjust the consumption equations if you think that consumer expenditures will be lower than the model is predicting. You can also drop the interest rate rule (equation 30) and put in different values for the bill rate. Regarding inflation, you may want to increase PIM if you think oil prices will begin to rise again or the dollar to depreciate. The assumption about PIM for the current forecast is that it will grow at an annual rate of 1.0 percent throughout the forecast period, which may be low. If you increase PIM, inflation will, of course, be even higher than is currently forecast. If you think housing prices will fall further, you can decrease PSI5, which will lower PIH relative to PD. This will affect consumption through the wealth variable AA (equation 89 and equations 1, 2, and 3). Regarding the stock market, 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 950. If you think that the index will fall, say, 100 points, you should drop the equation for CG and change CG by about -$1,000 billion at a quarterly rate (-$4,000 billion at an annual rate). See the discussion in Section 7.2 of The US Model Workbook. This will have a negative effect on real output growth because of a negative wealth effect. |
| US Forecast Tables: October 30, 2008 |
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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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