Undershoot and Overshoot

Note: Figures in charts and tables reflect our January forecast, published January 25. As such, they do not reflect incoming data from the last couple of days—most notably the advance estimate of Q4 GDP. 

The labor market continues to improve, with the unemployment rate already at or near the NAIRU and expected to decline further as growth remains above trend. 

▪ The December jobs report continued a long run of strong releases. Payrolls increased on average 180K  per month in 2016 and 165K per month over the last three months. 

▪ The unemployment rate had fallen to 4.6% at the time of our last forecast, and we anticipated the one-tenth rebound to 4.7% that the December data showed. 

▪ The broader U-6 measure of the unemployment rate ticked down a tenth to 9.2% and has now declined five-tenths since September 2016. 

▪ With growth projected to stay at an above-trend rate and the unemployment rate already close to the  NAIRU, we expect the unemployment rate to undershoot the NAIRU over the forecast period, by as much as ½ percentage point. 

▪ We expect some improvement in productivity growth to contribute to a slowing in payroll employment growth, to 120K per month by the end of 2019. 

▪ The 12-month change in average hourly earnings increased to 2.9%, the highest figure since 2009,  boosted by a strong gain in December. Recent increases in the minimum wage in 19 states will likely boost wage growth in January, but this would be a one-time event and have no implications for the underlying trend. 

Core PCE inflation was a bit softer than expected in Q4, but we still see it getting very close to 2% by the end of 2017, headed for a slight overshoot of the objective in 2018 and 2019.  

▪ We already had expected a modest 1.5% core PCE inflation rate in Q4, but the actual reported rate was even lower—just 1.3%. We think this likely reflects some expect the residual seasonality that has been a pattern for several years when monthly readings have been soft late in the year. 

▪ So the more important number is inflation over the four quarters of 2017, which was 1.7%, about the  1¾% rate that FOMC participants now talk about as the underlying rate. 

▪ We expect core inflation to rise very gradually as it works through the substantial inertia in the inflation process, with a little help from a decline in the unemployment rate and inflation expectations still reasonably anchored at 2%.

Labor Market: Undershoot 

Inflation: Slight Overshoot 

Major Economic Indicators 

By default, values represent seasonally-adjusted, annualized growth rates (%) for the series indicated in the leftmost column. 

Note on Units and Transformations 

“Quarterly” values are q/q rates; “Annual” values are q4/q4 rates. For series followed by units in parentheses, “Quarterly” values are quarterly averages, and “Annual” values are q4 averages. 

* “Quarterly” values are not compounded to annual rates.

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