Core Summary

  • The Organisation for Economic Co-operation and Development (OECD) released a forecast in June stating that, due to the energy price shock caused by the Iran war, the U.S. economic growth rate will slow from about 2% this year to 1.8% by 2027.
  • The OECD stated that "the rise in energy prices will drive a brief but sharp increase in inflation," and noted that a rate hike by the U.S. Federal Reserve "may be justified."
  • "Risks are tilted to the downside: sustained higher oil prices would further weigh on economic activity, while overvalued equity valuations and vulnerabilities in the private credit market pose additional risks," the OECD warned in its global economic report.

In-Depth Analysis

The OECD's forecast of sustained growth in U.S. GDP aligns with the latest report from the Federal Reserve, which showed that economic activity expanded at a "slight to modest pace" in ten of the twelve regional Fed districts last month.

In its Beige Book released on Wednesday, the Federal Reserve stated that low-income households face more severe inflation challenges than wealthier families. The survey is based on economic reports from the regional reserve banks.

"Consumer spending varied across districts and was increasingly divergent across income groups, largely due to affordability pressures," the Fed said in summarizing reports submitted by regional districts through May 27.

"Higher-income households remained resilient and less sensitive to price increases; middle-income households were described as 'shopping around before making purchases'; and lower-income consumers showed greater financial strain," the Fed said.

The Fed noted that consumers increased purchases of necessities and credit card usage while reducing spending on retail goods.

Additionally, auto dealers reported weak demand for new vehicles, with consumers more focused on affordability and fuel costs, and showing a preference for used cars and hybrid vehicles.

The Fed said war-induced price pressures increased in most Fed districts, particularly in groceries, shipping, packaging, and fertilizers.

"Non-labor input costs continued to rise faster than selling prices, intensifying widespread concerns about margin compression," the Fed said.

"Several districts highlighted firms' inflation mitigation strategies, including supply chain optimization, product adjustments, reducing supply, and temporarily absorbing higher costs to maintain customer demand," the Fed said.

On the positive side, the Fed said manufacturing activity grew at a "modest to strong pace" in nine districts, with only one district reporting a decline.

The Institute for Supply Management (ISM) said on Monday that manufacturing activity accelerated to its fastest pace in four years last month, driven by growth in new orders, production, and employment.

The ISM manufacturing index rose 1.3 points to 54, four points above the 50-point breakeven level, with new orders reaching their highest level in four months.

The OECD believes that the surge in investment in the artificial intelligence sector helps support steady growth in the U.S. economy.

"Although uncertainty arising from the energy shock and the evolution of the Middle East conflict is expected to dampen household consumption growth, strong AI-related investment continues to provide support for underlying growth," the OECD said.

The OECD warned that its economic forecasts may be overly optimistic, noting that "continued higher oil and gas prices resulting from the evolution of the Middle East conflict would have a more severe impact on economic activity than currently assumed."

The OECD also pointed to risks posed to the U.S. economy by the federal budget deficit and the growing national debt.

"The budget deficit remains at historically high levels, exceeding 7% of GDP, and is expected to continue widening," the OECD said. "Sustained fiscal consolidation is needed to curb demand pressures and put the debt ratio on a stable trajectory."