Anika R. Khan, Senior Economist May 3, 2017 2017 Economic Outlook Anika R. Khan, Senior Economist May 3, 2017

Global Economic Growth Five Critical Themes U.S. Economic Growth On the back of solid consumer spending, U.S. domestic demand has shown “resilience.” Growth in the labor market remains steady and inflation is approaching the Fed’s target Fiscal Policy With the stall in ACA legislation, markets are cautious on whether the administration will be able to pass tax reform this year. Some believe the more plausible route is to include infrastructure spending in the tax reform package. Markets are awaiting the details Monetary Policy Tightening in the labor market and gradually rising inflation are supportive of two additional rate hikes this year. The Fed is also messaging it will begin normalizing its balance sheet late this year Global Economic Growth The slowdown in global growth is largely due to economic uncertainties in the developing world. However, much of the headwinds are behind us Upside & Downside Risks The drag from the oil collapse is now behind us, giving a boost to business fixed investment. Moreover, sentiment remains elevated. That said, uncertainty around monetary and fiscal policy and geopolitical risks could weigh on activity

Economic Growth We are now seven years into the recovery and economic growth is increasing at a steady pace. Despite a slow start to 2017, activity is expected to grow between 2-2.5 Real GDP Forecast Output Gap Source: U.S. Department of Commerce, CBO and Wells Fargo Securities 3 3

Potential Growth – Little Help From Productivity Historically, slow productivity growth suggests potential real GDP will also remain low Source: Federal Reserve Board and Wells Fargo Securities

Business Fixed Investment During the current expansion, nonresidential fixed investment spending is much lower than previous cycles Source: U.S. Department of Commerce and Wells Fargo Securities

Oil Prices & Inventory Oil prices have bounced off their recent lows and rig count is rising. There is still a great deal of oil in inventory around the world and production remains strong overseas. The breakeven price for oil production in the U.S. has also fallen Oil Prices Oil Inventory Source: Baker Hughes Inc., EIA and Wells Fargo Securities 6 6

Real Consumer Spending Solid improvement in consumer spending is helping to drive overall economic growth. The tight labor market and gradual increase in wage and salary growth will help activity in 2017 Real Consumer Spending Retail Sales Source: U.S. Department of Commerce and Wells Fargo Securities

Household Balance Sheets Asset prices have risen much faster than income and the ratio of household assets to after-tax income has surged, indicating that spending gains have become more dependent upon wealth Assets-to-Disposable Income Ratio Personal Saving Rate Source: Federal Reserve Board, U.S. Department of Commerce and Wells Fargo Securities, LLC 8 8

Household Finances Although consumer leverage remains elevated relative to historical norms, it is well off its prerecession high and debt service has returned to more sustainable levels Debt to Income Debt Service Source: Federal Reserve Board and Wells Fargo Securities, LLC

Residential Investment Spending Residential investment jumped from a low base during the quarter and improving household formations suggest the pickup is sustainable Residential Investment Spending Household Formations Source: U.S. Department of Commerce and Wells Fargo Securities 10 10

Employment Situation Slack in the labor market is steadily diminishing and wage growth is rising from a low level. Relatively inexpensive labor may be inciting businesses to deploy capital in hiring Unemployment Rate Wage Growth Source: U.S. Department of Labor , Federal Reserve Bank of Atlanta, National Federation of Independent Business and Wells Fargo Securities 11 11

Potential Growth—Little Help from Labor Labor force participation has improved, particularly for prime-age workers, but remains historically low Working Age Population Labor Force Participation Source: U.S. Department of Labor and Wells Fargo Securities 12

Inflation Alternative measures of underlying inflation show the recent rise in core PCE is long overdue Source: U.S. Departments of Labor & Commerce, Federal Reserve System and Wells Fargo Securities

Inflation Although the stronger dollar and lower energy prices pulled core goods prices lower, they are now serving as tailwinds Source: U.S. Department of Labor and Wells Fargo Securities 14

Lift-Off: Pace of Policy Firming The FOMC Committee has boosted its expectations for the Federal Funds rate path, with three expected hikes in 2017 Source: Federal Reserve Board and Wells Fargo Securities

Fed Balance Sheet The Fed is beginning to lay the groundwork for unwinding the $4.5 trillion balance sheet Source: Federal Reserve Board and Wells Fargo Securities, LLC

Commercial Property Price Index High commercial property prices have caught the Fed’s attention Source: Real Capital Analytics, Inc. and Wells Fargo Securities

Global Real GDP Growth Global real GDP growth is expected to remain below the robust pace seen in the previous expansion Source: IHS Global Insight and Wells Fargo Securities

Economic Policy Uncertainty The Index of Economic Policy Uncertainty reached its highest level on record during the debt ceiling debate, but also typically rises during elections Source: Economic Policy Uncertainty and Wells Fargo Securities

Composition of Federal Spending Federal Debt Continues to Rise Federal Fiscal Policy The composition of federal spending has shifted dramatically. The CBO projects that the debt-to-GDP ratio will surpass 85 percent by 2026 Composition of Federal Spending Federal Debt Continues to Rise Source: Congressional Budget Office and Wells Fargo Securities 20 20

CBO Fiscal Multipliers The fiscal multiplier during recessions is much larger than during expansions, suggesting the late-cycle lift from tax reform, infrastructure and defense spending could be less than originally anticipated Source: Congressional Budget Office and Wells Fargo Securities

U.S. Forecast 22

Housing & Apartments

Home Sales Should Continue to Improve, Despite Modestly Higher Mortgage Rates Home sales have slowly recovered over the past seven years but remain well below their previous highs and are particularly low relative to where we are in the cycle. Source: National Association of Realtors, U.S. Department of Commerce and Wells Fargo Securities

Inventories Remain Exceptionally Lean, Which Is Limiting Home Sales The supply of for-sale homes remains near all-time lows relative to sales. A large proportion of home owners are relatively complacent in their current home and unwilling to relocate, which has clogged the normal progression in homeownership. Source: National Association of Realtors and Wells Fargo Securities 25

The Recovery in Home Price Is a Matter of Perspective The persistence of lean inventories has helped support home prices. Nominal home prices have surpassed their previous peak level but prices remain well below their past highs after adjusting for inflation. Source: S&P, CoreLogic, Inc. and Wells Fargo Securities

U.S. Homeownership Rate at Multi-Decade Low The long slide in the homeownership rate may have finally ended. The recovery in homeownership is likely to be protracted due to a combination of cyclical and structural factors. Source: U.S. Department of Commerce and Wells Fargo Securities 27

Homeownership Has Fallen Across Age Groups The decline in homeownership has been most prominent among younger households. Source: U.S. Department of Commerce and Wells Fargo Securities 28

Demographics Trends: Friend or Foe to Housing Market? A steady stream of Millennials are approaching the age that homeownership tends to rise. Source: U.S. Department of Commerce and Wells Fargo Securities 29

The U.S. population has become much more diverse. Demographics The U.S. population has become much more diverse. Source: U.S. Department of Commerce and Wells Fargo Securities

The U.S. will become even more diverse over the next fifty years. Demographics The U.S. will become even more diverse over the next fifty years. Source: U.S. Department of Commerce and Wells Fargo Securities

Americans are moving much less often than in the past. Mobility Has Declined Americans are moving much less often than in the past. The motivations for moving are not as strong as they were in previous decades. Source: U.S. Department of Commerce and Wells Fargo Securities

20 Largest MSA Population Gains Population growth has been highly concentrated in a relative handful of metropolitan areas. The universe of metros that young people are moving to is even smaller, which has left many markets with a very poor demographic underpinning. Source: U.S. Department of Commerce and Wells Fargo Securities

Supply Side Challenges: Construction Labor Shortage The lack of readily available experienced construction workers has become a limiting factor for new home construction in many of the nation’s housing markets. Source: National Association of Home Builders and Wells Fargo Securities 34

Supply Side Challenges: Rising Materials Prices Prices for key construction commodities have been rising. Source: U.S. Department of Labor and Wells Fargo Securities 35

Mortgage Originations Credit has been unusually constrained for borrowers with lower credit scores. Source: FRBNY and Wells Fargo Securities

Single-Family Starts Are Gaining Momentum, as Apartments Begin to Moderate After a very slow start, we see single-family homebuilding steadily gaining momentum over the next few years Apartment construction is showing signs of topping out but should remain near recent levels Source: U.S. Department of Commerce and Wells Fargo Securities 37

Apartment Cycle – Occupancy Rate Source: CoStar and Wells Fargo Securities, LLC

Apartment Effective Revenue Growth Source: Reis, Inc. and Wells Fargo Securities, LLC

Women in the Economy

The Gender Pay Gap Persists Women earn just 80 cents for every dollar earned by men. While this figure is accurate, it is somewhat blunt in its measurement as the causes of the gender pay gap are multi-faceted. Source: U.S. Department of Commerce and Wells Fargo Securities

Experience: Women in the Workforce After joining the workforce in increasing numbers from the late-1940s to the late 1990s, female labor force participation has plateaued. Source: U.S. Department of Labor and Wells Fargo Securities

Experience: Limited Hours Restricts Women’s Acquisition of Skills While most women choose to work part time, a consistently greater share of women report being under-employed relative to men. Part-Time Employment Under-Employed Women Source: U.S. Department of Labor and Wells Fargo Securities 43 43 Economic Outlook

Gender Differences in Occupation Differences in industry and occupation are the largest cause of variation in pay, and can explain roughly 50 percent of the gender wage gap. Occupational Employment Women in S&P 500 Companies Source: U.S. Department of Labor, Catalyst 2017 and Wells Fargo Securities 44 44 Economic Outlook

Men Earn More in Nearly Every Occupation Even in female-dominated fields, men tend to earn more. Source: U.S. Department of Labor and Wells Fargo Securities

Breaking Down the Gender Pay Gap Experience 14 percent: Time out of the labor force and fewer hours worked due to more housework and family care Occupation 33 percent: Men 5x more likely to be engineers while women are 9x more likely to be receptionists Industry 18 percent: Women are overrepresented in education & health services and underrepresented in construction and manufacturing Education - 6 percent: Young women enrolling in college at higher rate, share of women with bachelors degree or higher on par with men Unexplained 38 percent of the gender wage gap remains unexplained Source: Blau & Khan 2010 and Wells Fargo Securities

The Gender Wage Gap: Unexplained After controlling for a host of characteristics, 38 percent of the gender wage gap remains unexplained. Explaining the Gender Wage Gap 38% remains unexplained Implicit/unconscious bias Negotiation Sponsors vs. Mentors Wage-penalty for flexibility Sources: Blau & Khan 2010 , The Girl with the Draggin’ W-2 and Wells Fargo Securities 47 47

The Economic Case for Closing the Wage Gap Further convergence in the gender pay gap could help lift female labor force participation and support growth in the labor supply—an oft-cited factor for explaining below-trend GDP growth. GDP Growth Slow Growth in Labor Force Source: U.S. Department of Commerce, U.S. Department of Labor and Wells Fargo Securities 48 48 Economic Outlook

The Economic Case for Closing the Wage Gap Narrowing the wage gap would also support growth in real household incomes, as family incomes have been greatly enhanced by more women entering the workforce. Source: U.S. Department of Commerce and Wells Fargo Securities

Wells Fargo Securities Economics Group Diane Schumaker-Krieg ………………… ……….diane.schumaker@wellsfargo.com Global Head of Research & Economics Global Head of Research and Economics Eric J. Viloria, Currency Strategist eric.viloria@wellsfargo.com Sarah House, Economist sarah.house@wellsfargo.com Michael A. Brown, Economist michael.a.brown@wellsfargo.com Jamie Feik, Economist jamie.feik@wellsfargo.com Economists Chief Economist John E. Silvia john.silvia@wellsfargo.com Mark Vitner, Senior Economist mark.vitner@wellsfargo.com Jay H. Bryson, Global Economist …jay.bryson@wellsfargo.com Sam Bullard, Senior Economist sam.bullard@wellsfargo.com Nick Bennenbroek, Currency Strategist nicholas.bennenbroek@wellsfargo.com Anika R. Khan, Senior Economist anika.khan@wellsfargo.com Eugenio J. Alemán, Senior Economist eugenio.j.aleman@wellsfargo.com Azhar Iqbal, Econometrician azhar.iqbal@wellsfargo.com Tim Quinlan, Senior Economist tim.quinlan@wellsfargo.com Economic Analysts Senior Economists Erik Nelson, Currency Analyst erik.f.nelson@wellsfargo.com Misa Batcheller, Economic Analyst misa.n.batcheller@wellsfargo.com Michael Pugliese, Economic Analyst michael.d.pugliese@wellsfargo.com Julianne Causey, Economic Analyst julianne.causey@wellsfargo.com E. Harry Pershing, Economic Analyst edward.h.pershing@wellsfargo.com Administrative Assistants Donna LaFleur, Executive Assistant donna.lafleur@wellsfargo.com Dawne Howes, Administrative Assistant dawne.howes@wellsfargo.com Wells Fargo Securities Economics Group publications are produced by Wells Fargo Securities, LLC, a U.S. broker-dealer registered with the U.S. Securities and Exchange Commission, the Financial Industry Regulatory Authority, and the Securities Investor Protection Corp. Wells Fargo Securities, LLC, distributes these publications directly and through subsidiaries including, but not limited to, Wells Fargo & Company, Wells Fargo Bank N.A., Wells Fargo Advisors, LLC, Wells Fargo Securities International Limited, Wells Fargo Securities Asia Limited and Wells Fargo Securities (Japan) Co. Limited. Wells Fargo Securities, LLC. ("WFS") is registered with the Commodities Futures Trading Commission as a futures commission merchant and is a member in good standing of the National Futures Association. Wells Fargo Bank, N.A. ("WFBNA") is registered with the Commodities Futures Trading Commission as a swap dealer and is a member in good standing of the National Futures Association. WFS and WFBNA are generally engaged in the trading of futures and derivative products, any of which may be discussed within this publication. Wells Fargo Securities, LLC does not compensate its research analysts based on specific investment banking transactions. Wells Fargo Securities, LLC’s research analysts receive compensation that is based upon and impacted by the overall profitability and revenue of the firm which includes, but is not limited to investment banking revenue. The information and opinions herein are for general information use only. Wells Fargo Securities, LLC does not guarantee their accuracy or completeness, nor does Wells Fargo Securities, LLC assume any liability for any loss that may result from the reliance by any person upon any such information or opinions. Such information and opinions are subject to change without notice, are for general information only and are not intended as an offer or solicitation with respect to the purchase or sales of any security or as personalized investment advice. Wells Fargo Securities, LLC is a separate legal entity and distinct from affiliated banks and is a wholly owned subsidiary of Wells Fargo & Company © 2017 Wells Fargo Securities, LLC. SECURITIES: NOT FDIC-INSURED/NOT BANK-GUARANTEED/MAY LOSE VALUE Important Information for Non-U.S. Recipients For recipients in the EEA, this report is distributed by Wells Fargo Securities International Limited ("WFSIL"). WFSIL is a U.K. incorporated investment firm authorized and regulated by the Financial Conduct Authority. The content of this report has been approved by WFSIL a regulated person under the Act. For purposes of the U.K. Financial Conduct Authority’s rules, this report constitutes impartial investment research. WFSIL does not deal with retail clients as defined in the Markets in Financial Instruments Directive 2007. The FCA rules made under the Financial Services and Markets Act 2000 for the protection of retail clients will therefore not apply, nor will the Financial Services Compensation Scheme be available. This report is not intended for, and should not be relied upon by, retail clients. This document and any other materials accompanying this document (collectively, the "Materials") are provided for general informational purposes only. 50 50 50