GDP Growth Collapses

1Q/2014 Growth A Mere 0.11% Annual Rate

by Rick Davis, Consumer Metrics Institute

In their first estimate of the US GDP for the first quarter of 2014, the Bureau of Economic Analysis (BEA) reported that the economy was growing at an anemic 0.11% annualized rate. When compared to prior quarters, the new measurement is down over 2.5% from the 2.64% growth rate reported for the 4th quarter of 2013, and it is now more than 4% lower than the 4.19% reported for the 3rd quarter of 2013 – indicating that the deceleration in the growth rate first noticed last quarter has both continued and sharply intensified.

Commercial activity was especially hard hit: exports led the collapse, and commercial investments and inventories also weakening significantly. Fixed investments in both equipment and residential construction contracted sharply. Government spending also contracted, primarily in Federal defense spending and state and local governmental infrastructure investment.

Consumer spending for services provided the only significant growth, with outlays for non-discretionary healthcare, housing, utilities and financial services all increasing. Spending on consumer goods was essentially flat even though household savings rates dropped once again.

Real annualized per-capita disposable income grew by $112 during the first quarter (although it is still $204 per year lower than it was during the fourth quarter of 2012), while the household savings rate shrank again to 4.1% (down -0.8% from the 4.9% in the prior quarter and down -2.5% from the fourth quarter of 2012). The reduced savings rate was an budgetary necessity – given that spending on non-discretionary services (including healthcare) increased substantially faster than disposable income.

And lastly, for this report the BEA assumed annualized net aggregate inflation of 1.30%. During the first quarter (i.e., from January through March) the growth rate of the seasonally adjusted CPI-U index published by the Bureau of Labor Statistics (BLS) was a full half percent higher at a 1.80% (annualized) rate, and the price index reported by the Billion Prices Project (BPP – which arguably reflected the real experiences of American households while recording sharply increasing consumer prices during the first quarter) was over two and a half percent higher at 3.91%. Under reported inflation will result in overly optimistic growth data, and if the BEA’s numbers were corrected for inflation using the BLS CPI-U the economy would be reported to be contracting at a -0.38% annualized rate. And if we were to use the BPP data to adjust for inflation the first quarter’s contraction rate would have been a staggering -2.50%.

Among the notable items in the report:

• The contribution of consumer expenditures for goods to the headline number decreased to an essentially flat 0.08% (down a substantial -0.58% from the 0.66% contribution in the prior quarter).
• The contribution made by consumer services spending increased sharply to 1.96% (up 0.39% from the 1.57% in the prior quarter). The increased spending was primarily for non-discretionary healthcare, housing, utilities and financial services.
• Commercial private fixed investments contracted, reducing the headline number by -0.44% (after having adding 0.43% during the prior quarter). The contraction was led by reduced outlays for IT equipment, transportation equipment and residential construction.
• Inventories are now reported to be contracting sharply – subtracting -0.57% from the headline growth rate (down -0.55% from the prior quarter). The first three three quarters of 2013 had seen substantial inventory growth that had boosted the reported annualized growth rate by an average of 1%. We might expect a corresponding multi-quarter contraction to “normalize” inventory levels.
• Reduced governmental spending removed an aggregate -0.09% from the headline number. The Federal government “shutdown” is now in the prior reporting quarter (i.e., 4Q-2013), and a modest bounce-back in Federal non-defense spending added 0.2% to headline number that was more than offset by contracting defense spending and shrinking state and local infrastructure investments.
• Exports swung dramatically from adding 1.23% to the overall growth rate in 4Q-2013 to subtracting -1.07% from the headline number in the new report (a swing of -2.30%). Export growth had been one of the bright spots of 2013 – even as the economies of many of our trading partners softened. That source of growth appears to have abruptly ended.
• Weakening demand for imports actually added 0.24% from the headline number (after subtracting -0.24% in the prior quarter – representing nearly a full half percent improvement). However, weakening demand for imports is not necessarily a good economic omen.
• The annualized growth rate for the “real final sales of domestic product” dropped sharply to 0.68% (down nearly 2% from the 2.66% in the prior quarter). This is the BEA’s “bottom line” measurement of the economy – and it remains stronger than the headline number because of the contraction in inventories.
• And as mentioned above, real per-capita annual disposable income grew by $112 during the quarter (a 1.22% annualized rate). But that number is still down a material -$204 per year from the fourth quarter of 2012 (before the FICA rates normalized) and it is up only about 1% in total ($382 per year) since the second quarter of 2008 – some 23 quarters ago.

The Numbers

As a quick reminder, the classic definition of the GDP can be summarized with the following equation:

GDP = private consumption + gross private investment + government spending + (exports – imports)

or, as it is commonly expressed in algebraic shorthand:

GDP = C + I + G + (X-M)

In the new report the values for that equation (total dollars, percentage of the total GDP, and contribution to the final percentage growth number) are as follows:

GDP Components Table

Click to enlarge

The quarter-to-quarter changes in the contributions that various components make to the overall GDP can be best understood from the table below, which breaks out the component contributions in more detail and over time. In the table below we have split the “C” component into goods and services, split the “I” component into fixed investment and inventories, separated exports from imports, added a line for the BEA’s “Real Final Sales of Domestic Product” and listed the quarters in columns with the most current to the left:

Quarterly Changes in % Contributions to GDP

Click to enlarge

Summary and Commentary

There are a number of disturbing items in this report:

• Even at first glance this is not a good report. Although the headline number itself says “stagnation,” in the context of earlier reports it shows an economy in dynamic transition from lackluster growth towards outright contraction. The overall headline number is down 2.5% from the prior quarter and down 4% from the next earlier quarter. These are significant changes, with the prior quarter’s trend extended and the downward slope intensifying.
• Private commercial investment dropped substantially, led by reduced outlays for residential construction, transportation equipment and IT infrastructure.
• The year-long 2013 cycle of inventory building has come to an end. Over an extended time period inventories are mostly a cyclical zero-sum game, with excessive growth or contraction over any period being corrected (i.e., reversed) during a subsequent period. Moving forward we should expect that inventories will continue their cyclical contraction, with negative consequences to the headline number.
• Collapsing exports are likely confirming a weakening global economy. If so, exports are unlikely to provide the same kind of growth boost that they have provided during 2013, when they grew at about twice their historic rate.
• A positive contribution to the headline growth rate from imports is historically an inverse growth indicator, since it is usually a consequence of reduced domestic demand (e.g., positive import contributions were particularly notable during 2008 and early 2009, and again during the overall weak 4Q-2012).
• The Federal government’s “shutdown” subtracted roughly 1% from the fourth quarter’s reported growth rate. Since it is likely that some part of the reduced spending was actually only deferred (rather than foregone), we had expected a sharp “bounce-back” in Federal spending in 1Q-2014. While that did occur to some extent in the non-defense portions of the Federal budget, it was offset by ongoing cutbacks in defense spending and shrinking state and local expenditures on infrastructure.
• Although real household income improved somewhat (at a respectable real 1.22% annualized rate), it is still below levels seen in the fourth quarter of 2012. It bears repeating that total aggregate real per-capita income growth since the second quarter of 2008 has been just 1.04% – an average annualized growth rate of just 0.19% during the entire “recovery.” The household savings rate is down over 2.5% since the fourth quarter of 2012, and it remains well below the historical long term savings rate.
• The growth in consumer spending was caused by increased household costs for non-discretionary services – healthcare, housing, utilities and financial services (e.g., rising interest rates). Spending on goods remained essentially flat, with the “growth” in consumer services spending coming once again mostly out of savings – which is unsustainable over the long haul.
• Most of the increasing spending on services was channeled/transferred to large-cap corporate America. Discretionary spending at shops on “Main Street” America – the quickest source of economic growth or new jobs – is under renewed (and probably unrelenting) pressure.
• The headline growth rate is likely enhanced by an understatement of inflation. Even using BLS data to “deflate” the nominal data results in a contracting headline number, while using data from the BPP to deflate the data results in an eye-opening -2.5% contraction rate.

Enjoy this (barely) positive headline number while it lasts. Even if it survives the next two months of revisions, the economic momentum signaled by the past two quarters will likely carry the headline number into the red in the very near future.