Output growth paused in early 2015, weighed down by the stronger dollar and adverse weather. Nonetheless, the labour market has continued to improve, as evidenced by job gains in the private sector and a falling unemployment rate. Supportive monetary conditions and lower energy prices should underpin a sustained pick-up in aggregate demand as the fiscal policy drag dissipates and ongoing increases in household wealth lift consumer spending and residential construction.
The Federal Reserve has kept policy rates close to zero, consistent with signs of lingering labour market slack, subdued wage gains, low underlying inflation and well-anchored inflation expectations. With the underlying strength of output growth uncertain and inflation projected to remain well below its target, policy rates are likely to remain near the zero lower bound until at least September 2015 before edging upward at a cautious pace. The federal budget deficit continues to narrow, reflecting consolidation measures and the advancing recovery. Policy actions to directly address long-term fiscal challenges remain desirable.
The recovery of investment spending has been sluggish so far, reflecting the weakness of the demand outlook, the overhang of construction from the housing boom, and a sustained public spending squeeze. Low public and private capital investments have reduced productivity and weakened production capacity. With real long-term interest rates historically low, the federal and state and local governments have scope to accelerate investment spending, notably through the highway trust fund.