If President-elect Trump avoids major errors, he could preside over years of falling unemployment and the tightest jobs market since the 1990s, according to economic forecasters.
The unemployment rate is already low, at 4.7 percent in December, and the labor market is on a record streak of consecutive months of job growth. Payrolls have grown by about 180,000 a month in the past year, more than enough to keep the unemployment rate falling.
In a realistic scenario, the one that members of the Federal Reserve think is most likely, unemployment will edge down to 4.5 percent and remain there until 2019, when Trump would be starting to run for a second term. That projection incorporates the prospects for Trump’s agenda, including his tax cuts and infrastructure stimulus, as well as the Fed’s plans to raise interest rates slowly. So Trump would enjoy a jobs tailwind for most of his first term.
In another scenario, the next few years could be even better.
The Fed has underestimated how low unemployment can go before, even recently.
“The unemployment rate is already lower than what the Fed had expected. … I think you’ve already surprised a lot of people,” said John Silvia, the chief economist for Wells Fargo.
At the start of President Obama’s second term, members of the central bank projected that joblessness would drop to just below 6 percent in the long run. They have had to consistently lower their estimates since then.
The Fed had an even bigger miss in the 1990s. Some, including then-Gov. Janet Yellen, became concerned as the unemployment rate fell to 5 percent, warning that inflation could rise too high if the Fed didn’t move to tighten monetary policy. Chairman Alan Greenspan disagreed and delayed monetary tightening even as the unemployment rate fell below 4.5 percent. Greenspan bet, in effect, that technology had advanced enough to allow lower unemployment without sparking inflation. Ultimately, the unemployment rate fell as low as 3.8 percent in early 2000 and inflation stayed in control.
Forecasters surveyed by the Washington Examiner thought that a replay of that instance was one possibility, among many, for the U.S. economy.
One forecaster with a strong track record, High Frequency Economics, estimated that unemployment would fall to 4.3 percent at the end of 2017. That would be the lowest such rate since the 2000s’ dot-com boom, lower than at any time during the housing bubble.
Wells Fargo’s projection is for payroll growth to slow to about a 158,000 monthly average in 2017, and for that average to drop by 10,000 to 20,000 a year for the following years, Silvia said. But that is more than enough to keep up with population growth. Only about 50,000 to 100,000 jobs are needed each month to keep the unemployment rate steady in the long run, Chicago Fed researchers have calculated.
As for the unemployment rate, which Yellen has said is the overall best indicator of the health of the economy, only a few main factors will determine whether it stays steady or falls to ultra-low levels in the years ahead, apart from any choices that Trump might make.
“A lot is going to hinge on what happens with labor force participation,” said Brad Hershbein, an economist at the W.E. Upjohn Institute for Employment Research.
Workforce participation has plummeted in recent years, from 66 percent of the population on the eve of the recession to as low as 62.4 percent in fall 2015.
The retirement of the Baby Boom generation is responsible for much of that decline, as are other ongoing demographic changes, such as the trend of more young people opting for more schooling.
But another part of the drop in labor force participation is related to the poor economy of the past eight-plus years. Many people had such a hard time finding work that they quit searching, falling out of the official calculation of the labor force, even though they wanted jobs.
Researchers have reached different conclusions about how many such people there might be. It’s an important question. For instance, many baby boomers could have taken early retirement during the recession, but could be lured back into the job hunt by a low unemployment rate and employers eager to find workers wherever they can.
If there are many such people willing to come back into the labor force, unemployment may not go too far below 5 percent, as numbers keep getting added to the denominator. That is what appears to have happened over the past year-plus: Since September 2015, the labor force has swelled by nearly 3 million, and the participation rate has ticked up by 0.3 percentage points despite the thousands of boomers retiring every day. During that time, the unemployment rate has dropped only three-tenths of a percentage point, slower than in recent years, during which a drop of a percentage point or more has been typical.
If the baby boomers and others who dropped out don’t come back, it is “quite possible that the unemployment rate will go quite low,” Hershbein said.
Another major question is whether low unemployment will quickly translate into high inflation, forcing the Fed to accelerate interest rate increases and signaling that the long, steady cyclical recovery is maturing.
Once, it was commonly thought that the Fed could simply trade higher inflation for lower unemployment. But then the stagflation of the 1970s convinced most economists that inflation could go along with high unemployment, if the public began to expect rampant inflation.
The question is how quickly U.S. employers and consumers will start to notice inflation picking up, said William Dickens, an economist at Northeastern University.
Right now, even with unemployment low, the economy gaining strength and inflation rising toward 2 percent, inflation expectations are low. It could be years before people start to notice inflation rising and begin incorporating that into their bargaining over salaries and wages or spending decisions. During that time, it’s possible that the Fed could be able to push the unemployment rate extra-low, forcing employers to consider hiring applicants they otherwise wouldn’t, such as the long-term unemployed, new immigrants, people with criminal records and the disabled. Yellen has said that she is hoping for such a dynamic.
“We could be pleasantly surprised if the Fed lets us be pleasantly surprised,” Dickens said.
But all of that depends on the U.S. avoiding major shocks that lead to recessions. There are few signs of such downturn-inducing events out there, but that is no guarantee. “We really don’t see any big threat out there,” Silvia said, but “oftentimes recessions come pretty quick.”
