Pouring Cold Water on Your GDP Numbers

On my previous beat, I felt an obligation to talk down any good piece of polling data, so I figured I'd extend the tradition to my economics coverage...

Here's my concern with the impressive-looking GDP growth number of 3.5 percent: It reflects a lot of one-off boosts to growth and masks trends that are likely to get worse. Consider this one-sentence summary from the Bureau of Economic Analysis:

The upturn in real GDP in the third quarter primarily reflected upturns in PCE [personal consumption expenditures], in private inventory investment, in exports, and in residential fixed investment and a smaller decrease in nonresidential fixed investment that were partly offset by an upturn in imports, a downturn in state and local government spending, and a deceleration in federal government spending.

Let's take a few of those categories individually. Personal consumption did rise by a healthy 3.4 percent after dropping 0.9 percent in the second quarter (contributing about 2.4 percentage points to GDP growth). But a huge part of that was "cash for clunkers." Likewise, housing perked up by 23.4 percent after falling by 23.3 percent in the second quarter, but a big chunk of that was people racing to beat the deadline for the first-time homebuyers tax credit. (The credit doesn't expire until November 30, but you have to close by then to qualify, which typically meant purchasing the house by the end of September to be safe.)

Consider, also, government spending. State and local government expenditures decreased by 1.1 percent after rising 3.9 percent in the second quarter, which suggests that local governments are pretty hard up and will be a drag on the economy going forward. While the Obama administration and congressional Dems are likely to extend parts of the stimulus--unemployment benefits, COBRA, the homebuyers tax credit--my understanding is that additional aid to states is a political non-starter, even though it would provide a huge bang for the buck.

Meanwhile, federal government spending increased at a 7.9 percent rate after increasing 11.4 percent in the third quarter, which means we're moving past the point where the stimulus is going increase GDP growth. (That's not the same as saying the stimulus is decreasing GDP. The stimulus is still inceasing the overall level of GDP. But obviously growth is the change from one quarter to the next, so a smaller absolute increase is actually a drag on the change in GDP growth.)*

The most interesting (and potentially encouraging) story is inventory. In the second quarter of the year, companies were running down their inventories rather than ordering new goods, which subtacted 1.42 percentage points (not percent, but percentage points) from the overall GDP growth figure. This quarter, companies were still running down inventories, but at a slower rate, which therefore added 0.94 percentage points to the overall GDP growth number. There are two ways to look at this. On the one hand, at some point companies are actually going to boost inventories rather than just shrinking them more slowly, which will provide a big bounce when it happens. On the other hand, you only really get that big bounce once, so even that isn't going to drive sustained growth.

Bottom line: Much better to have 3.5 percent GDP growth than -0.7 (like we did last quarter). But this recovery is still really shaky.

*In initially said "drag on GDP growth" rather than "drag on the change in GDP growth."