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After a strong fourth-quarter GDP growth rate of 3.2%, quarterly growth is likely to slow to an average of 2.0% this year, which is roughly in line with the economy’s potential growth rate. The strong consumer spending that has propelled higher-than-average quarterly growth over the past year will likely come to an end this year. Consumer spending, in turn, likely depends on inflation-adjusted disposable income growth, which will be around 1.7%, much below the 4.2% growth last year. A contributor to the spending slowdown is slowing wage growth, which should return to a more normal level of 3.5%.
Other spending will also grow more moderately. Business spending will likely stay at the current modest rate because of high interest rates and tight bank lending standards, which will also continue to hobble the housing market. Federal outlays will gradually ebb, as previous spending programs funded by Congress run their course. State and local governments have been hiring because they are still catching up after the pandemic, but they will start to cut back as their staffing levels approach normal. Exports and imports will likely revert to being a net drag on growth instead of a contributor.
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The Federal Reserve will likely begin cutting interest rates this year, which will help boost consumer spending on housing and motor vehicles, and will help spur growth in business loans. Also, business sentiment ought to improve as a result of the Fed’s rate-cutting signal, encouraging more business managers to start purchasing equipment and making plans for expansion.
Average GDP growth for 2024 will be 2.5%, the same as 2023’s 2.5% growth, but will slow down to 1.9% in 2025. The strong growth at the end of 2023 will boost 2024, too, because even slower quarterly growth in 2024 would be from a higher starting point. But this will no longer be true beginning in 2025.
The reason we consider 2.0% growth to be “normal” is that the economy can typically expand its productive capacity by that amount in any given year. The labor force typically grows at around 0.5%. Improvements in labor productivity will usually average out to 1.5%, so the two together add up to 2.0%. If labor productivity rises faster than 1.5%, then the economy’s speed limit without causing inflation to spike would be higher. Some economists have speculated that the artificial intelligence revolution could raise average productivity, but those benefits will likely take some time to be realized.
Source: Department of Commerce: GDP Data
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