The economy in 2005

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On the economic front, everything is not perfect -- it never is -- but as the new year approaches, there is much to be thankful for, both domestically and around the world.

For the second consecutive year, global economic growth will exceed 3 percent. This year's projected growth rate of 3.1 percent reflects a slight moderation from the 3.75 percent global growth rate achieved in 2004. For the third year in a row, the U.S. economy has served as the world's powerful locomotive. On the heels of 4 percent growth during 2003, the U.S. economy expanded by 3.8 percent during 2004. The Commerce Department recently reported that U.S. economic output expanded by an annual rate of 4.1 percent during the third quarter (the fastest growth rate since the first quarter of 2004), bringing the annualized U.S. growth rate for the first nine months of 2005 to about 3.75 percent.

Meanwhile, the U.S. unemployment rate has steadily fallen over the past two years, declining from an average rate of 6 percent in 2003 (including a cyclical peak rate of 6.3 percent in June of that year) to 5 percent today. Since the beginning of 2004, the U.S. economy has created more than 4 million jobs. Employment growth over that period has averaged more than 175,000 jobs per month. More than 92 percent of those new jobs have been in the private sector. While the seemingly indefatigable U.S. consumer has played an indispensable role in providing the worldwide demand that has underpinned global growth over the past two years, it is worth pointing out that U.S. business investment, which is 18.5 percent higher today than it was two years ago, has significantly contributed to the U.S. expansion.

Thus, by any standard, economic growth in the United States and around the world over the past two years has been quite good. Two growth-inhibiting developments during this period make that achievement all the more impressive. Worldwide growth significantly accelerated in 2004 despite the fact that the price of oil had increased more than 25 percent during 2003 and another 25 percent during 2004. And although the price of oil has declined about $14 per barrel from its 2005 peak price of nearly $72, the current price of oil, which has been hovering in the high $50s lately, still represents yet another increase of more than 25 percent during 2005. Thankfully, oil's seemingly unrelenting price surge has managed only to moderate the world growth rate, while barely affecting America's rate of growth.

The second development worth noting has been the tightening of monetary policy in the United States, where the Federal Reserve's target short-term interest rate has steadily increased from 1 percent in mid-2004 to 4.25 percent today. After its latest increase earlier this month, the Fed signaled that its tightening phase may soon be ending, perhaps as early as March. (Still another reason to be thankful.) The fact that the U.S. economy in 2005 has retained its pre-eminent status as the world's indispensable locomotive in the face of the Fed's necessary tightening testifies to the extraordinarily impressive underlying strengths of the American economy, including its unparalleled flexibility and resilience.

One noteworthy accomplishment of the Fed's steady interest-rate increases has been its apparent success in preventing the soaring price of oil and other energy products from spilling over into other sectors. The overall consumer price index (CPI), for example, has increased by 3.5 percent over the past 12 months (compared to 3.3 percent during 2004 and an annual average of 2.3 percent during the previous four years).

On the other hand, the so-called core CPI, which excludes the volatile energy and food sectors, has increased by 2.1 percent over the past 12 months, compared to 2.2 percent during 2004 and an average of 2.1 percent for the four previous years. Given what had happened during two prior oil-price explosions (the core CPI hit double digits in 1974 and 1979-80, precipitating the two worst postwar recessions), the Fed's evident success this time is no small achievement. Keeping the wildly destructive inflation genie bottled up may well be the most important economic development for which Americans and the rest of the world should be thankful as 2005 draws to a close.