The initial estimate of real GDP growth for the first quarter was lower than expected. Details were mixed, and surprising relative to what was anticipated at the start of the quarter. Government remained a drag on overall GDP growth, which is a major difference between the current recovery and rebounds from previous recessions. The first quarter figures don’t tell us much about the pace of growth in the current quarter and beyond, but most economist have lowered their GDP forecasts for 2Q13.
First of all, it’s important to remember that the first quarter growth figure will be revised, and revised, and revised. It’s not unusual to see the growth figure revised more than a full percentage point higher or lower than the initial estimate. However, the underlying story isn’t expected to change much.
Consumer spending growth was much stronger than anticipated at the start of the quarter. The two percentage point rise in the payroll tax was expected to hit consumer spending hard and the increase in gasoline prices surely wasn’t going to help. However, it seems likely that many individuals were unaware that the payroll tax had gone up (just as most were unaware that the rate had been lowered over the last two years). Some households appeared to have reduced savings. The savings rate is a seriously flawed statistic, but it fell to 2.6% in 1Q13, from 4.7% in 4Q12 (although a large part of that reflects the pulling forward of income ahead of expected tax increases). Some of the first quarter strength in spending may reflect a rebound from the effects of Hurricane Sandy. More importantly, the March retail sales report suggested a significant weakening of momentum heading into 2Q13. Yet, some of that weakness may have been a function of the weather.
Business fixed investment was also a lot different than what was expected at the start of the quarter. Recall that fiscal cliff fears were supposed to freeze capital spending in late 2012, and capital spending was expected to jump once that uncertainty was resolved. Instead, business fixed investment rose at a 13.2% annual rate in 4Q12 and slowed to a 2.1% pace in the advance estimate for 1Q13. Corporate profits, a major driver of business fixed investment, have remained strong, which bodes well for the second quarter.
Inventory growth slowed sharply in 4Q12, subtracting 1.5 percentage points for GDP growth that quarter. Some rebound was anticipated in the first quarter. The rebuilding of inventories appears to be largely complete, but the end-of-quarter inventory figures can be significantly higher or lower than was assumed in the advance GDP estimates.
Exports added 0.4 percentage point to 1Q13 GDP growth, but that followed a subtraction of the same size in 4Q12. Imports, which have a negative sign in the GDP calculation, subtracted 0.9 percentage point from GDP in 1Q13, after subtracting 0.7 percentage point in 4Q12. Averaging the last two quarters, the trends in foreign trade are about flat. The soft global economy seems unlikely to add significant support for U.S. exports in the near term. However, imports should rise as the U.S. economy continues to improve (although increased energy production will likely limit that trend relative to historical experience). In short, don’t expect net exports to be a major factor from here.
Government subtracted 0.8 percentage point from 1Q13 GDP growth. Most of that was in defense. Government consumption and investment typically provides support in an economic recovery. However, the decline over the last several quarters marks a clear departure from the norm. GDP growth averaged a 2.0% annual rate over the last ten quarters, but would have risen at 2.6% if not for the government contraction.
While most economists had raised their expectations for 1Q13 GDP growth heading into the advance report, they had also reduced expectations of growth for 2Q13. That appears to have been reflected in the bond market, but not the stock market. Data arriving over the next few weeks will be critical.
Comprehensive benchmark revisions to the GDP data are coming. On July 31, the Bureau of Economic Analysis will revise GDP figures back to 1929. The biggest change will be that spending on research and development by business, government, and nonprofit institutions serving households will be counted as fixed investment. In addition, expenditures on entertainment, literary, and other artistic originals will be counted as fixed investment. The level of GDP, currently a bit above $16 trillion, is expected to be raised by about 3%. This doesn’t mean that the economy is “stronger than we thought.” The level of economic activity and the pace of growth were whatever they were. What’s changing is how we measure that.
© Raymond James
