Oregon Office of Economic Analysis

Update: All graphs and the PDF slides are updated with the Nov 2011 FOMC meeting’s forecasts released this morning. The new NGDP forecasts have been downgraded slightly for all time horizons.

The subject of Nominal GDP targeting has been ongoing within the economic blogosphere for at least the past couple of years. Bentley University professor Scott Sumner has been championing the idea on his The Money Illusion blog (see his National Affairs article too) and the subject has begun to surface as serious monetary policy with recent reports by Goldman Sachs, the Wall Street Journal and Christina Romer’s Op-Ed this past weekend, among many others. The purpose of this post is not to comment explicitly on central bank policy or the different policy regimes currently used around the world, nor is it to comment directly on NGDP targeting itself; it is designed to examine how the Federal Reserve has forecasted NGDP over time. Hopefully this serves the purpose of understanding what the Fed expects economic performance to be in the future when it sets its policies and to see if the Fed currently is already targeting NGDP, at least implicitly.

Click here for the complete set of slides in PDF format.

First off, why is NGDP a problem today? Currently the U.S. economy is 9.8 percent, or $1.65 trillion, below the previous trend prior to the recession (using a 4.5 percent growth path). If one were to examine the current state of the economy versus a 5.0 percent growth path (as some advocate for NGDP targeting), the U.S. is 11.5 percent below trend or $1.97 trillion. This gap between the previous NGDP trend and where we sit today (similar in practice to the concept of the potential GDP – real GDP output gap) is partially why to many individuals this does not “feel like a recovery” to date. The U.S. economy took a hard hit during the recession and has returned to trend growth rates, however, unlike in previous business cycles, it has not experienced stronger than average growth (cyclical rebound) to return to the previous trend. (That is designed as a broad comment, ignoring the unit root issues associated with GDP and recessions.)

Given that proponents of NGDP targeting (and proponents of more aggressive monetary policy in general) advocate for the Fed to return the economy to its previous trend, I was curious to see what the Fed has forecasted for NGDP. The FOMC forecasts are important pieces of information as they reflect what the committee views as the likely future path of the economy and sets policy according to these views.

I went through the FOMC meeting materials since 1980 and compiled the NGDP, RGDP and CPI/PCE forecasts to generate the graphs below and the others included in the PDF slides. The first graph is for the Fed’s 1 Year Ahead forecast – e.g. January 2010 FOMC meeting’s forecast for 2011 NGDP growth. Generally speaking, the Fed’s own forecasts expect approximately 5 percent NGDP growth, although during the most recent recession NGDP expectations declined substantially below 5 percent. Obviously actual NGDP fell below 5 percent in recent years, however the Fed’s own forecast beginning in June 2007 also fell below 5 percent in their 1 year ahead outlook. Under an alternate scenario, if the Fed was explicitly targeting NGDP, it would have acted much sooner (and stronger) than it ended up doing during the financial crisis.

The last graph is the same concept except for a 2 Year Ahead forecast time horizon. Unfortunately the FOMC meeting materials only began including longer run forecasts (more than 1 year ahead) with the October 2007 meeting, thus the graph has less history in the baseline. From the October 2007 through the October 2008 meetings, the FOMC was expecting NGDP 2 years down the road to be below 5 percent, although only slightly below and the most recent 3 years’ forecasts expect approximately 5.5 percent NGDP growth 2 years in the future.

Based on historical forecasts, the Fed clearly envisions approximately 5 percent NGDP growth in their own forecasts. While they currently do not set policy explicitly on their NGDP forecasts, it certainly influences policy decisions, at least within their broader discussions.  For more information regarding NGDP targeting as policy please see the links provided at the beginning of the post and for more graphs, including Current Year forecasts, click here for the complete set of slides in PDF format..