Tax reform and beyond: Top economic trends

Russell Price, Senior Economist, Ameriprise Financial

January 2018

Key Points

  • The U.S. economy enters 2018 with good momentum and sound fundamentals
  • Tax reform could add fuel to the economy this year
  • For the first time in a decade, the world’s largest economies are all in expansion mode

Optimism defines the economic outlook as we enter 2018. The pace of U.S. economic activity has been sound over the last several quarters, and activity could shift into a higher gear due to new tax laws.

Existing economic growth gains an extra stimulus

It will take some time before the ripple effect of tax reform impacts the economy. Working Americans should see a modest increase in their take-home pay once the IRS issues new withholding schedules, but others may not see much change in their tax situation until they file their 2018 tax returns in early 2019.

Business investment could accelerate as the legislation releases trillions of dollars in foreign-generated profits previously held overseas as a way to avoid a higher tax rate. We believe that tax reform could have a ripple effect on consumer spending, which may benefit from a wealth-effect boost caused by higher stock prices and larger corporate dividend payouts.

We forecast the U.S. economy will grow by 3% in 2018, as measured by Real Gross Domestic Product (GDP), compared to the projected 2.3% growth rate for 2017 (to be announced at the end of January). If achieved, it would be the second-best rate of growth in the past decade, trailing only the 2.9% growth rate achieved in 2015.     

Fundamentals remain sound and supportive

We enter the year with the U.S. job market in its healthiest condition in 17 years. There were two million net new jobs created in 2017, according to the Labor Department, and the unemployment rate dropped from 4.7% to 4.1%.

We forecast 1.6 million new jobs will be created in 2018, and the unemployment rate will drop to a near 50-year low of 3.5%. 

An ever-tightening labor market should lead to an acceleration of wage growth, offering an added boost to consumer spending power. Consumer debt levels are high on a dollar basis, but so too are consumer incomes. As a result, the Federal Reserve’s Financial Obligations Ratio, which measures consumer debt obligations in comparison to disposable income, remains close to its lowest levels since the early 1980s.

Understandably, a strong job market, manageable debts and rising incomes have consumers in a good mood. The Conference Board’s Consumer Confidence index recently hit a new 17-year high.

Global economies on the rise

The health of economies around the globe has also improved. For the first time in nearly a decade, the Organization for Economic Cooperation and Development (OECD) is reporting that the 45 largest economies of the world are all in expansion mode. The International Monetary Fund (IMF) forecasts global growth this year of 3.6%, which would be the strongest pace in six years.

What could derail the economy’s progress?

During good times, it often pays to look more closely for what could go wrong. Stronger economic growth at a time when labor markets are already tight could fuel higher inflation. 

The Federal Reserve has been raising short-term interest rates, and officials could accelerate their efforts if inflation pressures rise.

Elevated stock prices and rising home values leave these sectors susceptible to downside risk should interest rates rise at a faster-than-expected pace. Higher interest rates could also lift the value of the U.S. dollar in comparison to other major currencies, to the detriment of U.S. exports.

Another potential negative factor for trade could occur if ongoing North American Free Trade Agreement (NAFTA) negotiations become contentious.

Investment fundamentals are key

Since the Great Recession of 2008-2009, U.S. economic growth has been slow, yet balanced. Over the last year, the stock market has also been uncharacteristically steady. Such situations can often lead investors to become overly content.

Talk to your financial advisor about steps you may want to consider to avoid unnecessary risk, options to rebalance your portfolio and strategies to help you benefit from the favorable environment we expect in the year ahead.  

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