Downward Revision of US GDP Strengthens Case for New Stimulus
The second estimate of U.S. GDP for the third quarter of 2011 shows a downward revision, making the real growth rate 2 percent rather than the 2.5 percent reported in last month’s preliminary estimate. The slowing growth rate makes the expansion look weaker than before and strengthens the case for new stimulus.
Almost all of the expansion, 1.63 out of the 2 percentage points of growth, came from personal consumption. Most of that came from consumption of services, with health care leading the way.
Fixed investment contributed 1.45 percentage points to reported growth, with computer equipment and software as the strongest component. However, growth of fixed investment was more than offset by a sharp drop in nonfarm inventories, so that the overall contribution of gross private domestic investment was actually slightly negative. Optimists can hope that at least some of the drop in inventories was unplanned, in which case it could be a harbinger of restocking orders later in the year. Pessimists will worry that the rundown of inventory reflects a planned reduction based on unfavorable business expectations.
The government sector contributed little to growth one way or the other. The only positive element was defense spending, which was slightly more than offset by decreases in federal nondefense, state, and local government expenditures.
Growth of net exports was a little higher than in last month’s preliminary report. Most of the improvement came from a smaller growth of imports than previously estimated. Exports continued to grow more strongly than exports, as was also the case in the second quarter.
One bright spot in last month’s preliminary report was that the economy had finally surpassed its prerecession peak real GDP. That would mean that the economy had officially completed the recovery phase of the business cycle and entered the expansion phase. The second estimate for Q3 confirms that to be the case, but only by the smallest of margins, $13,336 billion in Q3 2011 compared with the previous peak of $13,326 for Q4 2007. It would take only a slight additional downward revision to render celebration of the expansion premature.
Watchers of Nominal GDP (NGDP) will also be disappointed by the downward revision. Many NGDP targeters consider 4.5 percent growth to be the appropriate long-run trend for the U.S. economy, allowing for 2.5 percent real growth and 2 percent inflation. When a recession brings nominal GDP below that trend, as has been the case since the start of the recession, NGDP growth faster than 4.5 percent is called for. The preliminary Q3 report showed NGDP growth of 5 percent, indicating that the NGDP gap might be starting to close, but the second estimate revises that down to 4.5 percent. That leaves the economy moving parallel to but far below the long run trend, as this chart shows.
On the whole, then, the second estimate of Q3 GDP tends to damp the modest optimism raised by the preliminary report. By any reasonable standard, the new numbers would strengthen the case for additional fiscal or monetary stimulus. But where will that stimulus come from? Minutes of the most recent FOMC meeting show little appetite at the Fed for additional monetary stimulus. At the same time, the failure of the Congressional supercommittee dashes any hope of a growth-friendly fiscal consolidation—one that would selectively control spending while reforming the tax system in a way that both closed loopholes to raise revenue and cut marginal rates to stimulate growth. Instead, it looks like we will get mandatory cuts to federal spending that will make the government component an even greater drag on GDP growth than it now is.
At this point, the only game in town seems to be the slight hope that Congress will extend cuts in payroll taxes and unemployment benefits that are due to expire at the end of the year. If it did so, and if the extensions were paid for by taxes on high income households, which presumably have lower marginal propensities to consume, there might be some hope that the economy would continue its halting expansion in the new year.
Follow this link to download a brief slideshow with additional charts based on the new GDP data.
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