According to a new economic research report released by the Federal Reserve Bank of San Francisco, the significant warming of Pacific Ocean waters this year 鈥?a cyclical climate phenomenon known as El Nino 鈥?could push up US prices and boost employment next year.
El Nino occurs when unusually warm waters appear in the equatorial Pacific, altering atmospheric circulation and weather patterns. In the United States, this phenomenon typically brings milder winters to parts of the north, more rainfall to the south, and reduced Atlantic hurricane activity. Data from the National Oceanic and Atmospheric Administration (NOAA) shows the current El Nino is classified as "very strong."
The San Francisco Fed's analysis found that this weather pattern could reignite price pressures 鈥?historically, El Nino tends to push up core services prices and food prices. The risk El Nino poses to US inflation depends largely on whether it transitions to La Nina next year. La Nina has the opposite effect, characterized by stronger Pacific trade winds and cooler ocean temperatures along the Pacific coast.
Report authors Molly Ardren, Tobin Graf and Brigitte Roth Tran said the current El Nino may already be having an impact 鈥?between April and July this year, the personal consumption expenditures (PCE) price level was about 0.3 percentage points higher than it would have been without the phenomenon. The researchers expect this initial price effect to fade gradually by the end of this year.
However, if this El Nino is followed by La Nina next year, further price pressures could add an additional 1 percentage point to 2027 PCE inflation. At the same time, the San Francisco Fed analysis found that in the first year of El Nino, total US nonfarm payrolls are typically not significantly affected, but by the second year, employment tends to rise notably.
Unlike the inflation forecast, which depends heavily on whether La Nina follows El Nino, the researchers expect hiring activity to increase and the unemployment rate to fall in 2027, based on patterns that have consistently appeared across past El Nino cycles. Weather conditions can affect various sectors of the economy in different ways. For example, milder winters may reduce heating demand and improve productivity in construction and agriculture, while increased precipitation could disrupt construction activity or cause flooding.
The authors noted that in the early stages of an El Nino cycle, price pressures hit consumers' wallets sooner, but the effects on the labor market take longer to appear. The data sample used by the authors includes only 22 El Nino events since the 1950s, of which only 4 were classified as "very strong," and the current El Nino is expected to exceed the intensity of any event included in the historical data analysis.
"We view these findings not as a forecast, but as indicating significant upside risk to inflation next year," the authors wrote. They also noted that El Nino increases uncertainty about the overall US economic outlook.
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