A Two Year Forecast of U.S. Consumption Expenditures

 

LESLIE JOHNSTON and KEVIN GREENE

College of Business

Western Carolina University

 

Abstract

 

U.S. consumption expenditures are forecast to grow to approximately 6763.73 billion dollars in the year 2001.This forecast is based on the Keynesian aggregate expenditure model assuming government spending, investment, and net exports increase at a constant rate over the forecast horizon. The explanatory variables used in the forecast are two year lagged GDP and consumption expenditures, because consumption is a function of lagged consumption and lagged GDP.The information for GDP and consumption is taken from quarterly data from the years 1995.1-1999.4.†† Consumption is forecast to grow steadily over the two year forecast horizon indicating steady economic growth, resulting in a strong economy.(JEL: E12, E21)

 

Part 1. Introduction

 

This paper forecasts U.S. consumption expenditures through the fourth quarter of 2001. The explanatory variables used in this forecast are lagged consumption expenditures and lagged GDP. The forecast approach is based on the Keynesian aggregate expenditure model, assuming as real GDP increases, so do consumption expenditures. The approach uses quarterly data for GDP and consumption from 1995.1-1999.4 actual data.The Keynesian approach gives a simplistic view of how consumption is affected by GDP.

 

Consumption is a major component of GDP, which is useful indicating economic strength.There is a direct correlation between consumption and GDP, allowing a trend in consumption to be used to signal a boom or recession.Therefore, consumption is a useful forecasting target.The forecast horizon is relatively short in attempt to minimize the effect of external factors impacting the economy in an unforeseen way, as well as to avoid seriously overstating or understating future consumption.

 

The rest of the paper is organized as follows: part 2. presents the data used to forecast consumption, consumption, and estimates of the population; part 3. presents the theoretical basis for the approach taken in forecasting consumption; part 4. presents the forecast for consumption, the two variables, and the methods used in determining these values; part 5. evaluates the importance of these projections for the economy; part 6. discusses conclusions for economic policy.

 

Part 2. Data

 

All data used in the forecast are taken from the Federal Reserve Bank of St. Louis Federal Reserve Economic Data (FRED), which are FRED variables GDPC96 and PCECC96 respectively, measured in quarterly data.. Both GDP and consumption are measured in billions of chained 1996

dollars at seasonally adjusted rates.

 

The Bureau of Economic Analysis and the U.S. Department of Commerce, are the primary sources of the

data. The sample period for the data is 1995.1-1999.4. The forecast horizon is two years into the future. The data used was chosen for the forecast because the information is the actual historical values of the variables, recorded by the appropriate government authorities and can be readily accessed on the FRED web site at http://www.stls.frb.org/fred/index.html.

 

Part 3. The Keynesian Aggregate Expenditures Model as a Forecasting Instrument

 

The forecsting approach used is dependent upon the Keynesian aggregate expenditures model.This forecast assumes growth rates of government spending, investment, and net exports will remain constant over the next two years. The level of lagged real GDP and lagged consumption expenditures are used to predict the level of real GDP each year. The relationship is GDP = AE = C + G + I + X, where government spending, investment, and net exports remain constant. This relationship is shown in the following equation where Y represents GDP:

Ct = f(Yt-2,Ct-2)

†††††††††††††††††††† ††††††††††††††††††††††††††††

This theoretical approach is appropriate to forecast consumption because consumption is known to be a function of lagged consumption and lagged real GDP.

 

Part 4. A Short-term Forecast of Consumption Expenditures, 2000-2001

 

The equation used to forecast consumption for the year 2001 was estimated by ordinary least squares regression for the years 1995-1999. The data input was real GDP and consumption expenditures for these years. Regression results are reported in Table 1:

 

Table 1

Regression Estimate of Consumption Forecasting Equation 1: 1995.1-1999.4

 

Explanatory Variable

Estimated coefficient

t-ratio

Intercept

-1104.63

-5.72

Yt-2

0.663

2.75

Ct-2

0.309

0.805

R2 = .99127

 

F (zero slopes) = 965.11

Prob F = 0.00

 

The R-squared of the estimate is 0.9913, which indicates a strong linear relationship between the forecast target and explanatory variables.

 

The forecast results based on the ordinary lest squares regression are reported in Table 2:

 

 

Table 2

Forecasts of U.S. Consumption Spending 2000.1-2001.4

(Billions of Chained 1996 dollars, SAAR)

 

Quarter

Forecast

2000.1

6196.51

2000.2

6251.72

2000.3

6320.91

2001.1

6503.38

2001.2

6553.06

2001.3

6655.96

2001.4

6763.73

 

 

Part 5. Forecast Implications

 

Consumption is important to forecast because it is a major component of GDP which indicates the nationís output for a given year. The forecast of consumption indicates economic activity will grow steadily in the future.This results in the indication that there will be a increasing need for labor services as production will have to increase in order to meet the increase in consumption.However, if this does not happen the consumers will rely on imports to fulfill their increased consumption needs.

 

Based on the forecast that consumption expenditures will steadily increase in the near future, there will also be an increase in real income, disposable income, resulting in an increase in the standard of living for the U.S. during the forecast horizon.

 

Part 6. Policy Conclusions

 

Consumption is forecast to be approximately 6763.73 billion dollars in the year 2001. This is a 11% increase from 1999.

 

A rise in consumer expenditures will affect many parts of the economy. The individual sectors will have to anticipate consumer demand for their particular area. This is important for companies to anticipate the changing demand of consumers and make changes in production and employment.

This forecast assumes government spending will increase at a constant rate and indicates that this should remain the same for the near future.Government should make no changes to policy.This forecast indicates a strong economy into the near future.However, this should always be closely monitored and if the economy becomes stagnant the government may want to intervene in order to stimulate the economy as is appropriate.

 

References

 

Federal Reserve Bank of St. Louis, Federal Reserve Economic Data (FRED) (10-28-99), http://www.stls.frb.org/fred/ (2-15-00)