Clearing the Hurdles in 2007

Economic Forecasts

Clearing the Hurdles in 2007

The economy will expand for the sixth year in a row, despite a housing slump and high energy costs.

The one-two punch of high oil prices and lower home prices in 2006 would have sent lesser economies into recession. Not this one. It's moving forward and ready to face the challenges of its sixth year of expansion. The chief concern remains the housing slump. Others include the possibility of high inflation, and with it, interest rates that will go higher instead of easing. But there's enough strength to surmount those obstacles and produce another year of prosperity.

Watch for 2007 to start slowly and pick up in the second half. The economy should expand on the order of 2.5% to 3% for the year, compared with an expected 3.3% for 2006. Weakness in housing took more than one percentage point off the growth of the gross domestic product in the third quarter of '06 and will probably be a drag during much of 2007. Home prices nationwide may well log their first annual price decline since the 1930s. For our detailed housing outlook, see What's Next for Home Prices.

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But that belies the positives from other quarters. The 80-cent-per-gallon drop in gasoline prices has been the equivalent of a $96-billion tax cut for families. Although you may feel poorer if your house isn't worth as much as you thought, you'll be able to take comfort when your investments benefit from a healthy stock market. And wages and salaries are finally rising faster than inflation. All of this means that Americans are likely to keep spending in spite of the housing gloom, albeit with some belt-tightening.

For businesses, forecasters say profits will rise in the range of 7% to 10%, down from an expected 15% in 2006. Still, companies, flush with cash, are expected to spend on plants and equipment. Commercial construction is robust. And healthy economies overseas, together with the weak U.S. dollar, bode especially well for exports this year. Foreign sales of everything from software to Cessnas will support the stock market and keep the unemployment rate low. Even struggling automakers should perk up in the next few months.


In the realm of economic nightmares, resurgent inflation is about the scariest. Overall inflation in 2007 will reflect the relief from lower energy costs, and will bottom out at an annualized rate of 2% from the 4% seen when gas peaked above $3 a gallon. But the closely watched core inflation rate, which excludes food and energy, could top out closer to 3%, pressured by higher labor costs. That could prompt the Federal Reserve to raise interest rates, instead of easing them to keep the economy expanding. Just another hurdle for this resilient economy to clear.