The US GDP data for the third quarter are a mixed bag. In some areas, they look truly encouraging; in other areas, much less so. What do they tell the Fed, which is preparing for its crucial meeting on QE, next Tuesday and Wednesday? They show an economy growing steadily, with no sign of a double dip, but at a rate which is slightly below trend, and which is clearly not sufficient to generate any marked recovery in private sector jobs. They show an economy where core inflation is stable around a 1 per cent rate. And they show an economy which is far too dependent on inventories, and far too vulnerable to increasing penetration from imports. All of that, the Fed will probably think it knew already.
First the encouraging areas. Business fixed investment rose by 9.7 per cent in this quarter, compared with the remarkable 17.2 per cent gain recorded in Q2. This maintains the very strong recent recovery in capital spending after the collapse which took place in the recession. Remember that business investment is only about 10 per cent of gross domestic product, so it is implausible to expect that it will drag the economy towards a strong recovery all on its own. Still, it is a very good number.
More surprisingly, consumers’ expenditure rose at a 2.6 per cent rate in Q3, which is a solid advance in the face of household deleveraging and fairly weak consumer confidence. Real disposable income rose by only 0.8 per cent in the quarter, so the bulk of the rise in consumption came from a drop in personal savings. This may not be sustainable, and the consumer will also have to face rising oil prices in the near future. Nevertheless, it is not at all a bad outcome for the quarter just ended.
What about the less encouraging components? First, housing continues to act as a massive drag on the economy. Residential investment fell at an annualised rate of 29.1 per cent in Q3, thus eliminating the apparent recovery in Q2. The timing of government housing measures has clearly affected these figures, but the wider outlook for residential construction still appears bleak.
Second, the economy is still far too reliant on inventory accumulation, which by its very nature cannot be sustained. In Q3, 1.4 percentage points of the 2.0 per cent GDP growth rate came from inventories, a much greater proportion than had been expected. And, because inventories tend to have a very high import component, this led to a very large deterioration in the net trade balance, which subtracted 2 full percentage points from the growth rate.
The rate of advance in inventories and imports should probably be seen as two sides of the same coin. Taken together, they mean that the growth rate in domestic final sales (which is probably the best guide to underlying GDP growth) was running at an annual rate of 0.6 per cent in Q3. Throughout the recovery of the past 18 months, the growth rate of this key aggregate has never shown any sign of exceeding 1 per cent. If anything, the Q3 data show that it is tending to move in the wrong direction.
Overall, this is one of those reports which will change no-one’s mind about the course of the economy. There is some very good news, tempered by a continuation of some worrying trends. Now we must wait for the ISM figures on Monday to see if they give any firmer guidance for the Fed.
Related reading:
Buck stops with Bernanke in QE2 debate – FT
Can Fed’s fairy dust conjure up jobs? – FT video
FT Alphaville: US Q3 GDP results are in, bang on forecast [updated]
