| US Forecast: August 24, 2009 |
| Forecast Period 2009:3--2012:4 (14 quarters) Data The forecast is based on the national income and product accounts (NIPA) data that were released on August 17, 2009. The Latest Version of the US Model For purposes of this forecast the US model has been reestimated through 2009:2. These estimates and the complete specification of the model are presented in Appendix A: The US Model: August 24, 2009, which is an update of Appendix A in Fair (2004). Beginning with the forecast dated October 31, 2005, a few specification changes have been made to the model from the version in Fair (2004). These are explained in Changes to the US Model Since 2004. Baseline Assumptions Behind the Forecast The policy assumptions behind the forecast are in two parts. The first part ignores the stimulus bill. It produces what will be called "baseline" assumptions. The second part then adds the stimulus measures to the baseline assumptions. Consider first the baseline assumptions. They are as follows. The table below gives the growth rates that were assumed for the key exogenous variables in the model along with the actual growth rates between 1993:3 and 2009:1 (before the stimulus measures had much effect).
Growth Rates (annual rates)
Baseline
Forecast Actual
Assumptions 2009:1-1993.3
TRGH 6.0 6.2
COG 2.0 4.1
JG 1.0 -0.6
TRGS 5.0 6.5
TRSH 3.0 4.9
COS -3.0/1.0 3.2
JS -2.0/1.0 1.4
EX -4.0/3.0/10.0 4.7
PIM 4.0 0.8
The first seven variables are the main government policy variables in the model aside from tax rates. TRGH is nominal federal government transfer payments to households, COG is real federal government purchases of goods, JG is federal government civilian employment, TRGS is nominal federal government transfer payments to state and local governments, TRSH is nominal state and local government transfer payments to households, COS is real state and local government purchases of goods, JS is state and local government employment, EX is real exports, and PIM is the import price deflator. -3.0/1.0 for COS means that COS was assumed to fall at a 3 percent annual rate for the first two quarters, 2009:3--2009:4, and then to grow at an annual rate of 1.0 percent after that. -2.0/1.0 for JS means that JS was assumed to fall at an annual rate of 2.0 percent for the first two quarters and then to grow at an annual rate of 1.0 percent after that. -4.0/3.0/10.0 for EX means that EX was assumed to fall at an annual rate of 4.0 percent for the first two quarters, then to grow at an annual rate of 3.0 percent for the next four, 2010:1--2010:4, and then to grow at an annual rate of 10.0 percent after that. All tax rates for the baseline forecast were taken to remain unchanged from their 2009:2 values except for D1G. The 2009:2 value for D1G seemed unusually low, having fallen from .0416 in 2008:4 to .0243 in 2009:2, and the value used for the forecast was increased to .0300. The values for COG were generated using a base value of $524.0 billion in 2009:2. This is $15 billion lower that the actual value in 2009:2. This difference is my estimate of the effect of the stimulus bill on COG in 2009:2. The values for TRGH were generated using a base value of $1507.2 in 2009:2. This is $98.4 billion lower than the actual value in 2009:2. This difference is my estimate of the effect of the stimulus bill on TRGH in 2009:2. The above assumptions have state and local governments contracting some for 2009 and then returning to normal. For the federal government everything is business as usual---no stimulus, etc. Again, this is for the baseline assumptions. Exports are assumed to fall in 2009 and then begin growing again in 2010. 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. Stimulus Assumptions Behind the Forecast The Congressional Budget Office (CBO) issued a report on March 2, 2009, which analyzed the stimulus bill ("American Recovery and Reinvestment Act of 2009," Public Law 111-5). The numbers that I have used for the present forecast are based (roughly) on the numbers in this report.The stimulus bill has tax cuts, transfer payment increases, and increases in government purchases of goods and services. Some of the transfers are to state and local governments and some are directly to households. In the model it makes no difference whether the federal government makes transfer payments directly to households (variable TRGH) or makes them to state and local governments (variable TRGS) if the state and local governments in turn pass on the transfer payments to households (variable TRSH). To keep matters simple in the present forecast, all transfer payment increases are put into TRGH. Again, it would not matter if instead TRGS was increased and then TRSH increased by the same amount. In addition, tax cuts are taken to be increases in TRGH rather than decreases in the personal income tax rate D1G. Most of the tax cuts do not involve cutting tax rates, and so it seems better to put them in TRGH. All increases in purchases of goods and services are put in COG, federal government purchases of goods. Therefore, only two variables are changed for the stimulus measures, TRGH and COG. Consistent with this treatment, in the actual data for 2009:1, $3.4 billion was moved from THG (personal taxes) to TRGH (transfer payments). In the actual data for 2009:2, $46.1 billion was moved from THG to TRGH. These two values are BEA's estimate of how much the stimulus bill affected THG in the two quarters. The timing of expenditures is a major issue in trying to capture the effects of any stimulus package. I have roughly followed the CBO timing for the present experiment. I have assumed that TRGH is $92.5 billion larger in 2009:3, $370 billion larger in fiscal 2010, $103 billion larger in fiscal 2011, $12 billion larger in fiscal 2012, and $11 billion larger (at an annual rate) in 2012:4. I have roughly spread these increases evenly within the four quarters of the fiscal year. For nominal government spending on goods (PG*COG) I have assumed it to be $29 billion larger at an annual rate in 2009:3, $29 billion larger in fiscal 2010, $31 billion larger is fiscal 2011, $24 billion larger in fiscal 2012, and $17 billion larger at an annual rate in 2012:4. To get the increases for COG, which is in real terms (2005 dollars), I have divided the above increases by values of PG that are close to the predicted values in the forecast. The total nominal increase over the forecast period (beginning in 2009:3) is $677 billion, of which $580 billion is in transfer payments and $97 billion is in purchases of goods. The following table lists the additions by quarter that were made to TRGH and COG from their above baseline values. The changes are at annual rates.
TRGH COG
2009:3 370.0 28.0
2009:4 370.0 27.6
2010:1 370.0 27.6
2010:2 370.0 27.6
2010:3 370.0 27.2
2010:4 102.8 29.2
2011:1 102.8 28.8
2011:2 102.8 28.8
2011:3 102.8 28.4
2011:4 11.6 22.0
2012:1 11.6 21.6
2012:2 11.6 21.6
2012:3 11.6 21.2
2012:4 11.2 14.4
Regarding federal government spending on the bailout, this spending is in variable CTGB, capital transfers from the federal government to financial business. Values of CTGB are the government's estimate of the eventual cost to the federal government of the bailout activity. The value for 2008:4 is $268.1 billion, the value for 2009:1 is $223.3 billion, and the value for 2009:2 is $144.4 billion (all at annual rates). For the forecast the value of CTGB was taken to be (at an annual rate) $120 billion in 2009:3, $80 billion in 2009:4, and zero after that. The Forecast Selected forecast results are present in Tables F1 through F4. 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 forecast has real GDP growing modestly in the rest of 2009 (0.2 and 0.8 percent, respectively, for the two quarters) and then picking up in 2010. (All growth rates in this memo are at annual rates.) It falls back down in 2011 as the stimulus measures subside. The unemployment rate rises to 10.2 percent in 2009:4 and then begins falling. It is 6.8 percent in 2012:4. The jobs variable, JF, shows jobs falling by 1.4 million in the last half of 2009. Inflation: Inflation as measured by the growth of the GDP deflator (GDPD) is essentially zero for the next year and then begins rising. It is 3.8 percent in 2012:4. Monetary Policy: The estimated interest rate rule (equation 30) is predicting that the three month bill rate (RS) will be essentially zero for the next year and then begin rising. It is 2.4 percent in 2009:4. Federal Government Budget: The federal government budget deficit, variable SGP, is predicted to be about $1.5 trillion in 2009:3, about $1.6 trillion in 2010, about $1.4 trillion in 2011, and about $1.3 trillion in 2012. (Again, all values are at annual rates.) Variable SGP does not reflect the bailout spending (variable CTGB) since this is counted as capital transfers. Because CTGB is positive (see above), the debt of the federal government is increasing somewhat faster in 2009 than the values of SGP would imply. The federal government debt, variable -AG, is $11.6 trillion at the end of 2012, which is 69 percent of nominal GDP (variable GDP). This is up from 46 percent in 2009:2. Interest payments of the federal government, variable INTG, rise from $253.7 billion in 2009:2 to $521.0 billion in 2012:4 as a result of the increasing debt. U.S. Current Account: The U.S. current account deficit, variable SR, is forecast to rise from $396.5 billion in 2009:2 to $820.0 billion in 2012:4. Comments on the Forecast and Possible Experiments to Run One of the reasons the model is predicting slow growth for the rest of 2009 in spite of the stimulus measures is the negative wealth effect from the past fall in stock prices and housing prices. Why, however, is the economy predicted to be no worse? Why no predicted further large decreases in real GDP? One reason is that model is predicting a large inventory correction in 2009:3 and beyond. Inventory investment (variable IVF) was very low in 2009:1 and 2009:2, and it is not predicted to remain this low. Also, there was a large negative residual in 2009:2 in the housing investment equation (IHH). (This residual is after correcting for serial correlation of the error term.) For the forecast all future error terms are assumed to be zero, and this, other things being equal, results in a positive predicted change in IHH in 2009:3. In the model the error terms are random shocks with means zero, and so zero is used for the future values. In order for the model to predict a much worse economy, one would have to put in some large future negative shocks, like the observed shock to the IHH equation in 2009:2, which has not been done. It may be, of course, that there will be large future negative shocks to the investment and consumption equations, due, say, to financial issues that are not in the model. The model, for example, does not account for possible credit rationing on consumers and investors from the financial distress. If there are large future negative shocks, the current forecast will turn out to be too optimistic. If you have views about the size of possible shocks to some of the equations, you can put these shocks into the model and examine the results. The following are other experiments that might also be of interest. 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 4.0 percent throughout the forecast period, which may be low. If you increase PIM, inflation will, of course, be higher than is currently forecast. If you think housing prices will fall further, you can decrease PSI14, which will lower PKH relative to PD and decrease housing wealth, PIH*KH. 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. If you think that the S&P 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. If you have different views about the stimulus bill than those used for the forecast, it is easy to run alternative experiments. The simplest thing to do, as discussed above, is to put all the changes in TRGH and COG. Remember that TRGH is in nominal terms and COG is in real terms. You may also want to raise tax rates in 2011 and 2012, say the federal personal income tax rate D1G. Some people are of the view that taxes will have to be raised in 2011 and 2012 to keep the federal government deficit under control. Another change is to change the assumptions about the bailout measures, namely the values of CTGB. If you think the bailout will cost more than the values used for CTGB, you can increase CTGB. The main effect of increase CTGB is to increase the federal government debt, variable -AG. Finally, if you think that a health care bill will be passed that is not budget neutral, you may want to increase TRGH in the future to reflect possible increased costs to the federal government. |
| 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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