Final revisions to US GDP released June 25, 2014 show the US economy contracted this past January-March 2014 by -2.9%. Does the much larger than predicted decline reflect the beginning of new recession? A -2.9% contraction for the quarter is just about the average quarter decline during the 2007-09 last recession. Or is the -2.9% an indication of a continuing stagnation, with a moderate recovery in GDP to occur in the second quarter 2014? Or perhaps it was just an aberration, due to bad winter weather, as many mainstream economists and press pundits are now saying, with a robust recovery of 4%-5% GDP growth coming in the second half of 2014?
The larger than expected -2.9% contraction was a further significant reduction from the government’s GDP estimate of a -1.0% GDP decline for the quarter that was reported by the government in May; and an even bigger 3% ‘swing’ from the initial +0.1% GDP estimate reported in April.
The record-setting ‘swing’ of 3% represents the largest such adjustment in nearly four decades, raising a question of why the government’s initial GDP estimate of 0.1% was so far off the mark in the first place? It also raises a question of just how accurate are estimates of GDP in today’s post-2008 ‘great’ recession restructured US and global economy? Is estimation becoming more a game of ‘guestimation’?
The record 3.0% swing and final GDP revision should finally silence those forecasters who have been spinning the message for months now that the US economy’s first quarter poor performance was due mostly to ‘weather’ factors. As this writer has been saying in several prior published commentaries since March, based on a closer look at the composition and magnitude of the GDP decline in the first quarter it is impossible to attribute the huge -2.9% decline to weather factors. A -2.9% drop would have taken the onset of a virtual new mini ice-age—and not just ‘bad winter weather’. Something more fundamental is going on perhaps in the US economy that official government estimates of GDP aren’t initially recognizing, or even picking up.
The closer look at the composition of elements of GDP responsible for the -2.9% drop were unrelated to bad weather—as this writer previously pointed out in a prior article, ‘The Real ‘Real’ GDP’, on June 3, 2014, and in a prior piece, ‘False Positives: Analyzing Recent US GDP and Jobs Reports’, November 11, 2013, both available on the writer’s blog at jackrasmus.com. The major factors behind the first quarter major -2.9% GDP decline were:
• a big pull back of business inventory investment during the quarter, after a buildup of the same in the third quarter of 2013 in anticipation of a surge in end of year consumer spending that did not materialize;
• a similar major drop in US net exports in the first quarter that reflected a slowing global economy.
Final revisions to GDP just reported this week now show clearly that the inventory adjustment reduced 1st quarter GDP by a whopping -1.7 percentage points, and the decline in net exports by another -1.5%. A weakening of Net exports reflects a gradual and progressively slowing global economy. The business inventory slowdown represents business stocking up for a consumer spending surge that nonetheless repeatedly fails to materialize. Neither of these developments can be attributed significantly to ‘weather factors’
In addition, the final GDP revision reported on June 25, 2014 showed a third important element underlying the -2.9% GDP decline in general, and the big ‘swing’ from -1.0% to -2.9% in the final revision: Consumer spending the first quarter was initially grossly overestimated in both April and May GDP reports. A growth in consumer spending of 3.3% was actually only 1%. What was first thought as healthcare spending surge generated by sign ups to the Affordable Care Act, boosting consumer spending, turned out not to be the case. The ACA boost to consumer spending was minimal, not significant.
None of these major determinants of first quarter GDP can be attributed to ‘bad weather’. Weather does not impact inventory accumulation or exports. Both inventories and exports are sold and ‘booked’, and thus added to GDP, before transported to warehouses or shipped. Moreover, consumer spending on ACA sign ups occurs mostly via phone or online, and not by going to a government or insurance company office purportedly postponed due to bad weather.
Estimates of the ‘bad weather’ impact are at best responsible for only 0.5% of the GDP decline in the quarter. That leaves more than 2.4% of the decline to be determined by real causes, not weather. Weak inventory spending, slowing net exports, and stagnating consumer spending are more fundamental conditions that are due to the aftermath of a fragile ‘epic’ recession characterized by lack of disposable income generation by most of consumer households and minimal debt reduction for most since 2009 despite claims of economy recovery by politicians.
Consumer spending weakness in particular reflects the lack of real wage and income growth for the vast majority of households. Slowing inventory investment is a lagged consequence of the same. And net exports weakness is a reflection of a slowing global demand and/or currency exchange rate shifts. But none of the above is weather related. Nonetheless, many economists and politicians are still sticking to the ‘bad weather’ metaphor for the huge -2.9% drop. And now argue to corollary, that the end of bad weather will mean a robust 4%-5% recovery in GDP in the months ahead.
The key question now, therefore, is whether the above factors behind the big first quarter 2014 contraction (i.e. inventory investment slowdown, net exports slowing, consumer spending stagnation) will continue into the current April-June, second quarter 2014? Will those factors be offset perhaps by growth in other sectors of the US economy in the second quarter and the rest of the 2014 year—like residential housing, government spending, or business equipment investment? Will the long awaited sustained consumer spending recovery that has been predicted, but has not occurred since 2010, finally appear?
Or will the ‘recovery’ from winter ‘bad weather’ once again in the second quarter 2014—as in previous years—prove far weaker than official government, mainstream economists’, and politicians’ current predictions?
1st Quarter 2014 GDP: Even Worse Than Reported
The US economy has been on a ‘stop-go’ trajectory ever since the official end of the 2007-09 recession in June 2009, now a full five years ago during which the US economy has grown at best one half to two thirds the normal recovery rate at this stage following recession. During the best quarters of economic performance since 2009, the US economy has grown at a sub-par 3% or so, followed by what this writer calls economic ‘relapses’ back to zero or below zero GDP growth on several occasions—three to be exact.
After only 18 months of economic growth following June 2009, for example, the US economy experienced a negative GDP again in the first quarter of 2011. It thereafter’ relapsed’ again, falling into virtual zero growth in the fourth quarter of 2012. The latest, third ‘relapse’ has occurred now, resulting in an even more dramatic -2.9% growth in the first quarter of 2014.
But this past quarter 2014’s -2.9% is actually even worse in fact than reported. It comes after last summer 2013’s redefinition of US GDP that added $500 billion more annually to GDP by declaring certain business expenses involving research & development and other ‘intangibles’ were thereafter to be included in GDP numbers. (see my ‘The Real ‘Real’ GDP’ article explanation). That redefinition added at minimum another 0.3% to US GDP. Adjust for that ‘GDP growth by redefinition’ and the first quarter’s GDP decline was actually an even worse -3.2%. But that’s not all.
An even greater GDP overestimation effect derives from how the US ‘adjusts’ GDP for inflation. The US uses a conservative estimator called the ‘GDP Deflator’ that grossly underestimates the role of price changes on the economy. The smaller the estimated inflation, the larger the real GDP. If the government adjusted inflation using the Consumer Price Index (CPI), or even the Personal Consumption Expenditures (PCE) index, both of which better estimate inflation, then the real GDP for the first quarter 2014 (and previous quarters) would be less than reported—i.e. at least 0.5% lower than actually estimated. The US government’s ‘GDP Deflator’ estimates US inflation at well less than 1.5%. In contrast, both the CPI price index and the PCE price index register inflation today at around 2% or more, and rising.
Together just these two changes—the redefinition of GDP that artificially raises it and the failure to fully adjust GDP to real GDP—means first quarter GDP declined by -3.7% and not the -2.9%.
From ‘Bad Weather’ to ‘Second Half’ Hype: A Continuing Pattern
‘Bad weather’ metaphors have been repeatedly trotted out as explanations whenever the US economy weakens—as has been the case since 2011—in turn followed by claims that the second half of the year will finally bring sustained recovery.
For example, US GDP contracted in the first quarter 2011—i.e. the first ‘economic relapse’ following the formal ending of the 2007-09 recession. That ‘relapse’ was predicted by this writer in his book, ‘Epic Recession’ written late 2009. As is the case today in 2014, that 2011 GDP contraction was blamed on bad weather, and was followed up by economists and forecasters assuring a second half 2011 would result in sustained recovery. But it didn’t. The pattern was again repeated in the fourth quarter 2012 when the economy initially contracted again by 0.1% despite the year-end 2012 holiday spending season, and winter weather was blamed again. Once more a robust recovery was predicted that didn’t happen.
First quarter 2011, fourth quarter 2012, and now once again first quarter 2014—it’s the same old story: it’s the bad weather that’s responsible for periodic GDP contraction; and the ‘second half of the year’ will bring a sustained recovery. Whether that pattern changes in the second half of 2014 remains to be seen, although it appears economists and forecasters are now ‘doubling down’ and betting on an enormous 4%-5% second half US GDP explosion—a growth that hasn’t been seen in any quarter since the onset of the recession in 2007!
(For the rest of this article on 1st quarter GDP by Dr. Rasmus, further analysis of 2nd quarter US GDP, and full year 2014 GDP, go his website at: