U.S. Goes Slower and Lower

Estimated reading time: 2 minutes

The US economy’s growth momentum slowed in the fourth quarter of 2015 and could decelerate further this year. However, most of the risks are outside its shores so, despite concerns about a possible recession, we think strong household income growth should support spending and keep the economy growing this year.

Nevertheless, we have cut our forecast for GDP growth in 2016 from 2.3 per cent to 2 per cent following a sharp decline in net exports, a contraction in oil drilling due to lower oil prices, and a slower rate of inventory accumulation.

Despite the slowing growth, US employment jumped by 837,000 jobs in the final quarter of last year. The disparity between GDP and jobs growth creates uncertainty about the economy and about the outlook for the year ahead, but we think the strong increase in employment and real household incomes could signal that the basis for steady growth is still in place.

The decline in net exports, caused by weak economic conditions abroad and the rising dollar, subtracted 0.6 percentage points from US growth in 2015 and we expect a similar drag this year.

The drop in commodity prices, particularly oil, is the other global event affecting the US economy. It has reduced spending by the oil and gas exploration and production industry but the sharp contraction in the energy sector need not pull down the entire economy. The oil sector has gone through severe setbacks before without dragging the US into recession.

Away from the oil sector and related industries, business investment has continued to grow. The question now is whether business confidence will hold up outside of the commodity and export-oriented sectors.

Final demand by domestic purchasers has been relatively strong, household income is growing at a good pace in real terms, and interest rates remain low. These factors should support business investment spending even if declines in global equity markets affect business confidence and access to financing for new investment projects.

With energy prices falling and inflation likely to be low in the first half of 2016, real incomes should continue to grow by 3 per cent to 4 per cent, annualised, strong enough for consumer spending to rise by 2.6 per cent this year.

The continued fall in energy prices has further reduced the outlook for inflation in 2016. We now expect CPI inflation to average just 0.7 per cent this year, down substantially from our previous estimate of 1.5 per cent.

The Federal Reserve is monitoring inflation carefully to determine the timing and size of future interest-rate moves. The further sharp decline in petrol prices and the likely fall in overall inflation until mid-2016 could cause the central bank to postpone its next rate hike until there is clear evidence that inflation has stabilised and has started to move back up.