ANN ARBOR—Despite a weak fourth quarter, the U.S. economy turned in a solid performance last year and will continue its steady growth over the next two years, according to a new University of Michigan economic forecast.

“The pace of output growth rebounds from its late 2005 slowdown during the first half of this year as rebuilding efforts in the Gulf region pick up, light vehicle sales return to a more normal pace, defense spending recovers and oil imports back off,” said U-M economist Joan Crary.” But during the second half of this year, homebuilding activity slips in response to higher mortgage rates, the pace of light vehicle sales stabilizes and net exports are a bigger drag on output growth.”

In their annual spring forecast update of the U.S. economy, Crary and colleagues Saul Hymans and Janet Wolfe say that national economic output growth (as measured by real Gross Domestic Product) will rise from 3.2 percent last year to 3.9 percent this year, before dropping to 2.6 percent during 2007.

Although GDP growth will slip during 2007, domestic final demand growth (final sales to domestic purchasers) will register a healthy 3.1 percent, they say.

According to the U-M forecast, the economy will add 2.3 million (nonfarm payroll) jobs this year and another 2.3 million jobs in 2007. Unemployment is expected to fall from last year’s 5.1 percent average to 4.7 percent this year and 4.6 percent next year.

“This follows an increase of 2 million jobs in 2005,” said Wolfe, a U-M economist.” While healthy, the job gains in 2006 and 2007 fall well short of the 3 million jobs added per year from 1994 to 2000.”

As job growth rises in the next two years, inflation holds fairly steady, although interest rates move up, the economists say. Core inflation will remain at last year’s level of 2.2 percent in 2006, but then will edge up to 2.4 percent next year.

The conventional mortgage rate will average 6.7 percent this year and 7.1 percent in 2007, up from 5.9 percent last year. The rate for three-month Treasury bills will jump from 3.1 percent last year to 4.7 percent in 2006 and 4.9 percent in 2007. The 10-year Treasury bond rate will rise from last year’s 4.3 percent to 5.1 percent this year and 5.8 percent next year.

The U-M forecast, which is based on the Michigan Quarterly Econometric Model of the U.S. Economy and compiled by the U-M Research Seminar in Quantitative Economics, also predicts that:

? Oil prices will stay near $62 per barrel for the remainder of this year and then move down to $58 per barrel in late 2007.

? Private housing starts, which surpassed 2 million in 2005?the most since 1972?will slip to 1.99 million units in 2006 and to 1.79 million in 2007.

? Sales of light vehicles will remain steady at 16.9 million units this year and increase to 17.1 million next year, though still short of the record 17.3 million in 2000.

? Real disposable income will grow by 4.5 percent in 2006 and 4 percent in 2007, after rising just 1.5 percent last year.

? Consumer spending will rise by 3.7 percent this year and 4 percent next year, following a 3.6 percent increase in 2005.

? The federal budget deficit will hover around $345 billion through fiscal 2007, little changed from fiscal 2005.

Research Seminar in Quantitative Economics