Introduction

We begin with a brief discussion of the US economy to set the stage for understanding West Virginia. This contextual material is vital to understanding the West Virginia economic outlook because national growth is a key driver of state growth.

After the sharp recession that was driven by the COVID-19 pandemic, a new wave of significant uncertainty emerged in late-2021 surrounding inflation. For over three years now the US has suffered rates of inflation that surpass the level that is generally considered acceptable by economists.

This surge in inflation was catalyzed at least four factors: First, global supply chain constraints emerged during the pandemic, driving up prices for goods that were in short supply. Second, widespread workforce shortages emerged during the pandemic as many men and women left the labor force. These workforce shortages lead to more aggressive wage increases to attract workers to fill job openings, and these wage increases typically filter through to higher consumer prices. Third, a surge in energy prices in 2022 had a direct impact on overall inflation and filtered through to increase the price of goods and services more broadly due to higher production and transportation costs. Finally, overall demand in the economy was strong, in part due to aggressive fiscal and monetary policy stimulus measures during the COVID era. Even though there has been much improvement in these four factors, inflation can become self-perpetuating if left unchecked. In other words, high inflation can persist even after the initial causes of the inflation have dissipated. 

This high rate of inflation would undoubtedly create great long-term damage to the US economy if left unchecked, as was observed in the US in the 1970s and in many other countries over time. Returning inflation to a modest and stable position is, and should be, a top priority for economic policymakers. As such, the US Federal Reserve (Fed) worked aggressively in 2022 and 2023 to raise interest rates to suppress overall demand in the economy and therefore reduce inflation. Indeed, the speed at which the Fed increased rates over this time was as aggressive as ever observed over a similar length of time.

Two and one-half years after the beginning of this cycle of interest rate increases, inflation stands at around one-half-of-one-percentage-point above the Fed’s inflation target (two percent for core inflation, which excludes food and energy from consideration) and it is widely believed that inflation will reach the Fed’s target in 2025. As such, analysts are increasingly growing in confidence that this battle with inflation is nearly over. As such, the Fed reduced its target interest rate in September of 2024, and it is likely that several more cuts will follow over the coming year or so.

This new series of interest rate cuts is necessary to prevent excessive downward pressure on demand in the economy which would create unneeded economic weakness. Barring any unforeseen shock in the near term, ultimately the Fed will move its target interest rate to its estimated “neutral” level, which is a level that, by definition, does not provide an external source of restrictiveness or stimulus on demand in the economy. While uncertainly remains over whether the Fed was ultimately too restrictive with its monetary policy, uncertainly has significantly diminished over the past two or three years and the odds of a “soft landing,” loosely defined as a situation in which the Fed’s monetary policy effectively curbs inflation while at the same time does not create undue weakness in the economy, seems increasingly likely.

Given this context, in this section we explore a few recent trends in the US economy with special attention paid to inflation and interest rates, and we consider the likely path of growth in the US over the coming five years. These findings have important implications for our discussion of the West Virginia economy in Sections II and III.

National Trends in Output, Employment, and the Labor Market

GDP As illustrated in Figure 1.1, economic output, as measured by real Gross Domestic Product (GDP), fell dramatically in early 2020 due to the outbreak of the COVID-19 pandemic. Likewise, GDP growth was very strong as the economy emerged from the pandemic. After weaker performance in 2022, growth has been slightly above the long-term average over the last year or so. No recession is expected in the near term. However, growth is expected to slow by the end of 2024 and to remain below its 30-year average (around 2.5 percent per year), throughout the forecast period. Overall, the pressure that the economy faces from high interest rates is an important driver of these below-average rates of real GDP growth throughout the outlook period. This is true even though interest rates have already begun to fall, due to the significant time lag between movements in interest rates and economic effects.

Figure 1.1

EMPLOYMENT The US labor market was strong prior to the pandemic, and in fact employment stood at the level that economists generally perceive as the maximum level of jobs the economy can sustain over the long run - termed “full employment.” Over the course of the initial onset of the COVID-19 pandemic, nearly 20 million people in the US lost their jobs. While the US labor market cannot be strictly defined as that of as a “V-shaped recovery,” the rebound in payrolls after the recession was strong enough such that the nation attained its pre-recession level of employment by mid-2022, and employment has continued to growth since then. Overall, the national economy is again at or near its full employment level.

The employment forecast calls for relatively slow growth throughout the forecast period. The slow growth is largely due to the fact that the economy is at full employment currently, but also due, at least in part, due to the headwinds associated with high interest rates, as discussed above, and other demographic factors. Overall, the forecast calls for the addition of just under 3.5 million jobs over the forecast period, representing around 2.2 percent cumulative employment growth.

Figure 1.2

UNEMPLOYMENT Turning to the unemployment situation, the national unemployment rate stood at a low of 3.6 percent just before the beginning of the COVID-19 recession, as noted in Figure 1.3. This was one of the lowest jobless rates experienced since the beginning of modern economic statistics. The unemployment rate skyrocketed as the pandemic began, reaching a peak of 13 percent in the Spring of 2020. However, the jobless rate fell rapidly as pandemic-driven lockdowns ended in 2020 and returned to its pre-recession low by early-2022 as hiring activity was consistently strong for that period. Unemployment remained in this historically low range through the end of 2023. The rate has risen slightly over the course of 2024, but remains in the low-four-percent range, a position that is low by any historic standard. The forecast calls for a gradual increase in the rate over the next two years, returning the figure close to its natural rate of around 4.5 to 5 percent. This expected increase in the unemployment rate will largely be driven by entry into the labor force.

Figure 1.3

LABOR FORCE PARTICIPATION The labor force participation rate is a complementary measure to the unemployment rate. The labor force participation rate captures the share of the adult population that would like to work—termed “in the labor force”—while the unemployment rate captures the share of the labor force that is unable to find employment in any given month. Ultimately, the labor force participation rate is a more fundamental descriptor of an economy’s long-run labor market situation.

In Figure 1.4 we report labor force participation for the US since the mid-1980s. As illustrated, the figure peaked around 2000 at 67 percent, fell substantially after 2008, and then maintained stability up until early-2020. The broad evolution of this figure is largely driven by demographic processes, namely the aging and retirement of the “Baby Boom” generation. The figure began to rise substantially around 1965, when the first of the Baby Boomers were entering the workforce. This measure continued to rise through the late 1990s, when the first of this group turned 55 years old, but then began to decline substantially around 2008, the point when the leading edge of the Baby Boomers approached conventional retirement age. In addition to the baby-boomer effect, the post-WWII structural change in labor force participation rates was driven in large part by meaningful gains in the female labor force that occurred through the mid-1990s.

Labor force participation once again fell substantially because of the COVID-19 recession, as “discouraged workers” left the labor force, reaching a low of just over 60 percent. Immediately after the lockdowns, the figure began to improve, recovering to around 62 percent. However, the figure remains around one-half of one percentage point below its pre-COVID level, due primarily to a slower recovery in labor force participation among workers in older age groups (i.e. ages 55 to 64).

Overall, the declines in labor force participation likely present an impediment to the nation’s long-run economic growth potential as fewer workers will be available to support retirees vis-à-vis private pension plans as well as Social Security and other federal programs. Furthermore, many economic challenges might interact with a lower rate of labor force participation, leading to weaker performance for the US economy over the long term.

Figure 1.4

INFLATION Next, we turn to inflation – perhaps the most significant problem that the US economy has faced over the past three or four years. As reported in Figure 1.5, inflation skyrocketed to nearly seven percent on a year-over-year basis in 2021 and 2022, depending upon which reported measure is used. This is the highest rate of inflation experienced in the US since the early-1980s and comes in sharp contrast to the mostly modest and stable inflation that the US experienced for more than two decades, rarely moving outside of the 1 to 3 percent range—a period in economic history referred to as “The Great Moderation.” This sharp rise in inflation was catalyzed by at least four factors: a) high energy prices; b) global supply-chain constraints that emerged during the COVID pandemic; c) workforce shortages that emerged during the COVID pandemic; and d) strong aggregate demand, in part driven by aggressive fiscal and monetary stimulus during the COVID era. As described above, even though these drivers have at least mostly dissipated, inflation has still not quite returned to its target level. The forecast calls for inflation to remain at least slightly above the Fed’s target level (two percent for core inflation, which excludes food and energy from consideration) until some point in 2025. 

Figure 1.5 

INTEREST RATES The high inflation of the past three years would undoubtedly create great long-term damage to the US economy if left unchecked, as observed in the US in the 1970s and in many other countries over time. Returning inflation to a modest and stable position is and should be a top priority for economic policymakers. As such, the Fed worked aggressively over the course of 2022 and 2023 to raise interest rates to suppress overall demand in the economy and therefore reduce inflation. Indeed, the speed at which the Fed increased interest rates over the course of 2022 and 2023 was as aggressive as ever observed over a similar length of time. In retrospect, we understand that the fast pace of interest rate increases is partly because the Fed was slow to begin the cycle of interest rate increases due to lingering concerns over new coronavirus variants/outbreaks that continued until early-2022.

Two and one-half years after the beginning of this cycle of interest rate increases, inflation stands at around one-half-of-one-percentage-point above the Fed’s inflation target and it is widely believed that inflation will reach the Fed’s target in 2025, as discussed above. As such, analysts are increasingly growing in confidence that this battle with inflation is nearly over. As such, the Fed reduced its target interest rate in September of 2024, and it is likely that several more cuts will follow over the coming year or so.

This new series of interest rate cuts is necessary to prevent excessive downward pressure on demand in the economy which would create unneeded economic weakness. Barring any unforeseen shock in the near term, ultimately the Fed will move its target interest rate to its estimated “neutral” level, which is a level that, by definition, does not provide an external source of restrictiveness or stimulus. While uncertainly remains over whether the Fed was ultimately too restrictive with its monetary policy, uncertainly has significantly diminished over the past two or three years and the odds of a “soft landing,” loosely defined as a situation in which the Fed’s monetary policy effectively curbs inflation while at the same time does not create undue weakness in the economy, seems increasingly likely.

Figure 1.6

[1] All forecast estimates for this document are provided by S&P Global, Inc.