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Third Quarter 2007 Survey of Professional Forecasters

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Forecasters Reduce Their Near-Term Estimates for Core Inflation

Core inflation during the next three years is projected to remain roughly steady but at a lower level than was forecast in the survey of three months ago, according to 49 forecasters surveyed by the Federal Reserve Bank of Philadelphia. Core PCE inflation (fourth quarter over fourth quarter) will average 1.9 percent this year, down from the previous estimate of 2.1 percent, and 2.0 percent in each of the following two years, down from 2.1 percent in each year. The forecasters have a similar outlook for core CPI inflation, which is expected to average 2.2 percent in each of the next three years, down 0.1 percentage point from the previous estimates of 2.3 percent each year.

The accompanying figures show the probabilities the forecasters are assigning to the possibility that fourth-quarter over fourth-quarter core PCE inflation in 2007 (see Chart) and 2008 (see Chart) will fall into each of 10 ranges. The figures show the estimates for the current survey and the survey of three months ago. Similar revisions to these estimates characterize both years, though the revisions are more pronounced in 2007 than in 2008. For 2007, the probability that inflation will average between 1.5 percent and 1.9 percent is now 37 percent, up from 28 percent previously. There is little change to the probability that inflation will average between 2.0 and 2.4 percent in 2007. The forecasters have reduced their probability estimates that inflation will average 2.5 percent or more in 2007. A qualitatively similar pattern of revisions to the probabilities characterizes the outlook for inflation in 2008.

Headline inflation incorporates the influence of food and energy prices, and these projections are a bit higher at the short horizons than the projections for core inflation. Over the next five years, headline CPI inflation will average 2.45 percent, unchanged from the forecasters’ previous estimate. Likewise, the forecasters have left unrevised their estimate for headline CPI inflation over the next 10 years. That estimate stands at 2.40 percent. Prior to this year’s first-quarter survey, the forecasters had held their projections for this measure constant at 2.50 percent for quite some time. This marks the third consecutive survey in which 10-year expectations are below 2.50 percent. The forecasters expect headline PCE inflation to average 2.20 percent over the next five years and 2.10 percent over the next 10 years. These estimates are slightly higher than the projections of 2.08 percent and 2.00 percent, respectively, in the last survey.

Downward Revisions Characterize the Short-run Outlook for Growth

The forecasters have cut their estimates for growth, but their revision is minor and largely confined to this year’s fourth quarter and next year’s first quarter. Growth this quarter will average 2.5 percent (annual rate), down just 0.1 percentage point from the previous estimate of 2.6 percent. Larger revisions (-0.2 percentage point) characterize the following two quarters, when growth is now expected to average 2.7 percent. Year over year, growth will average 1.9 percent this year, down from 2.1 percent in the last survey. The forecasters see growth rebounding, to 2.8 percent, in 2008.

Downward revisions to output growth are not translating into deteriorating conditions in the labor market. The unemployment rate is seen averaging 4.6 percent this year, unchanged from the estimate in the last survey, and 4.7 percent next year, down from 4.8 percent previously. Moreover, the forecasters are raising their estimate for monthly job gains this year, to 156,000 from 151,000 previously. Next year, payrolls will increase at a rate of 118,000 per month, down just a bit from the estimate of three months ago.

The accompanying charts provide some information on the degree of uncertainty the forecasters have about their views on year-over-year growth in real GDP in 2007 (see Chart) and 2008 (see Chart). Each chart presents, for the current and previous survey, the forecasters’ estimates of the probability that growth will fall into each of six ranges. The forecasters are raising their estimates of the probability that growth in 2007 will average either 1.0 to 1.9 percent or 2.0 to 2.9 percent, but they are cutting their estimates of the probability that growth will average even more. Their probability estimates for growth in 2008 are little changed from the estimates in the last survey.

Higher Estimates of the Probability of a Downturn at Year-End

The forecasters’ downward revision to their projections for output growth in this year’s fourth quarter and next year’s first quarter, noted above, is translating into slightly higher probabilities of negative growth in these same quarters. Although the risk of a negative current quarter is lower now (12.44 percent) than in the previous survey (14.00 percent), the risk is higher in the following three quarters. The risk of a downturn in the fourth quarter is now nearly 17 percent, up from 15.42 percent previously. The risk rises in the first quarter of next year, to 19.14 percent, marking an upward revision from 16.31 percent previously.

Equilibrium Unemployment Pegged at 4.65 Percent

In third-quarter surveys, we ask the forecasters to provide their estimates of the natural rate of unemployment — the rate of unemployment that occurs when the economy reaches equilibrium. The forecasters peg this rate at 4.65 percent, down from their estimate of 4.95 percent in last year’s third-quarter survey. For each third-quarter survey since 2001, the percentage of respondents who use the natural rate in their forecasts, and for those who use it, the median estimate and the highest and lowest estimates. In the current survey, 52 percent of the 46 forecasters who answered the question report that they use the natural rate in their forecasts. The lowest estimate is 4.20 percent and the highest estimate is 5.50 percent.

The Federal Reserve Bank of Philadelphia thanks the following forecasters for their participation in recent surveys:

Scott Anderson, Wells Fargo and Company; Robert J. Barbera, ITG Inc.; David W. Berson, Fannie Mae; Joseph Carson, Alliance Capital Management; Gary Ciminero, CFA, Rhode Island House Policy Office; Louis Crandall, Wrightson ICAP LLC; Richard DeKaser, National City Corporation; Rajeev Dhawan, Georgia State University; Doug Duncan, Mortgage Bankers Association; Michael R. Englund, Action Economics, LLC; Gerard F. Fuda, Independent Economist; Stephen Gallagher, Societe Generale; James Glassman, JP Morgan Chase & Co.; Global Insight; Jeoff Hall, Thomson Financial–IFR; Keith Hembre, First American Funds; William B. Hummer, Wayne Hummer Investments; Saul Hymans, Joan Crary, and Janet Wolfe, RSQE, The University of Michigan; Fred Joutz, Benchmark Forecasts and Research Program on Forecasting, George Washington University; Kurt Karl, Swiss Re; Dr. Irwin Kellner, Hofstra University/MarketWatch/North Fork Bank; Jack Kleinhenz, Kleinhenz & Associates, Inc.; Thomas Lam, UOB Group; L. Douglas Lee, Economics from Washington; Mickey D. Levy, Bank of America; Joseph Liro, Stone & McCarthy Research Associates; John Lonski, Moody’s Investors Service; Macroeconomic Advisers, LLC; Dean Maki, Barclays Capital; Drew Matus, Lehman Brothers; Edward F. McKelvey, Goldman Sachs; Jim Meil, Eaton Corporation; Anthony Metz, Pareto Optimal Economics; Michael Moran, Daiwa Securities America; Joel L. Naroff, Naroff Economic Advisors; Mark Nielson, Ph.D., MacroEcon Global Advisors; Michael P. Niemira, International Council of Shopping Centers; Martin A. Regalia, U.S. Chamber of Commerce; David Resler, Nomura Securities International, Inc.; David Rosenberg, Merrill Lynch; John Ryding, Bear, Stearns, and Company, Inc.; David F. Seiders, National Association of Home Builders; Xiaobing Shuai, Ph.D., Chmura Economics & Analytics; Allen Sinai, Decision Economics, Inc; Tara M. Sinclair, Research Program on Forecasting, George Washington University; Sean M. Snaith, Ph.D., University of Central Florida; Constantine G. Soras, Ph.D., Verizon Communications; Neal Soss, Credit Suisse; Stephen Stanley, RBS Greenwich Capital; Susan M. Sterne, Economic Analysis Associates, Inc.; Thomas Kevin Swift, American Chemistry Council; David Teolis, General Motors Corporation; Lea Tyler, Oxford Economics USA, Inc.; Albert M. Wojnilower; Richard Yamarone, Argus Research Group; Mark Zandi, Economy.com; Ellen Beeson Zentner, Bank of Tokyo-Mitsubishi UFJ, Ltd.

This is a partial list of participants. We also thank those who wish to remain anonymous.

The Philadelphia Fed's Survey of Professional Forecasters was formerly conducted by the American Statistical Association (ASA) and the National Bureau of Economic Research (NBER) and was known as the ASA/NBER survey. The survey, which began in 1968, is conducted each quarter. The Federal Reserve Bank of Philadelphia, in cooperation with the NBER, assumed responsibility for the survey in June 1990.

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Tom Stark
Federal Reserve Bank of Philadelphia
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