Steven Wieting, global chief strategist at Citi Private Bank, expects President-elect Donald Trump's plans for fiscal stimulus and tax cuts to boost GDP by more than a full percent this year. But those programs should also bring some inflation.
"While they may succeed in postponing the timing of the next cyclical downturn in the U.S. and world economy, this could come at a cost of a more severe downturn later on. One major risk of fiscal stimulus so late into an economic cycle is inflation," Wieting wrote in his 2017 outlook.
Just like anything, too much inflation would not be good. But the lack of it has been a concern, and after years of little price traction, strategists see it picking up to a still comfortable pace.
"I don't think inflation is going to be a crushing inflation," said Wieting in an interview. "But consumers in the United States don't get wage adjustments for inflation."
Service sector prices could be the biggest driver of inflation because that is the most labor intensive part of the economy, said Stephen Stanley, chief economist at Amherst Pierpont.
"I think we could see headline inflation by the end of this year running the high 2s and the core could be well over 2 percent as well," said Stanley. He expects wage growth of about 3 percent by the end of next year.
"If the Trump administration is able to successfully shepherd through a lot of things they are advocating that would be positive for growth. You could see a boost to growth without it being terribly inflationary ... I'm more hawkish on inflation than most. It's not because of the fiscal side, it's because I think the Fed has already fallen behind the curve," Stanley said.
That inflation target is even before considering potential effects from the still-unknown variables likely to be generated by Trump's planned trade policies. Wieting does not expect to see protectionist moves from the Trump administration but he said trade is the biggest risk to his forecast.
He and others expect the Fed to raise interest rates faster if inflation moves up too quickly. For now, it is still sluggish — under the 2 percent targeted by the U.S. central bank, for a fifth year now.
The Fed's preferred measure of inflation, the personal consumption expenditure price index, showed core inflation at just 1.6 percent in November. Less than half of Fed officials expect inflation to reach 1.9 to 2 percent this year, and the rest have a lower forecast.
But many economists have been forecasting that inflation could finally break above the Fed's 2 percent target in 2017. Jefferies economists say inflation is accelerating primarily because commodities prices are again rising and commodities-based goods prices are going higher. They expect consumer price index inflation to surpass the central bank's 2 percent target in the first quarter and approach 3 percent by the end of the year. They see PCE at about 2.5 percent at year-end.
Schwab strategists said the return of inflation could help to lift sales for global companies and boost business confidence and spending. A rising dollar could keep inflation in check, they said, and as long as it does not rise too much, stock valuations seem reasonable. They expect the Fed to raise rates twice this year as inflation picks up.
Michael Gapen, chief U.S. economist at Barclays, actually included in his inflation forecast what many economists have left as unknowns — the potential impact of tariffs on inflation. So far, it's unclear what Trump will do about taxing goods at the border, but the president-elect has said companies that go overseas to manufacture should pay an expensive tax on goods shipped back into the U.S.
On Thursday, Toyota was the latest company to be warned by Trump on Twitter to build cars in the U.S., not Mexico or pay a huge tax.