Big Picture Reflections on Today’s U.S. Data

September 29, 2011

People who trade currencies daily put a heavy emphasis on how reported data compare to street forecasts, and whether a number is deemed bullish or bearish hinges on that immediate litmus test.  Today’s upward revision of second-quarter U.S. GDP growth to 1.3% from 1.0% was a bigger improvement than predicted.   New U.S. jobless claims of 391K were about 30K lower that anticipated.  Pending home sales fell 1.2% in August, which was just over half their expected decline.  The Kansas City Fed manufacturing index doubled to 6, its best level in three months.  Several big-picture implications of these reports were worrisome, nonetheless. 

Real GDP rose only 1.6% in the year to 2Q11.  Economic growth between 2Q07 and 2Q11, a period encompassing the onset of the financial crisis, the whole Great Recession, and almost the the first two years of ensuing “recovery” averaged 0.2% per annum. 

Real GDP over the last five years averaged 0.5% per annum.  That pace constitutes an alarming outlier compared to previous five-year sequential five-year intervals of 2.6% in 2Q01-2Q06, 3.9% in 2Q96-2Q01, 3.3% per year during 2Q91-2Q96, 2.6% from 2Q86 to 2Q91, 3.4% from 2Q81 to 2Q86, 3.0% from 2Q76 to 2Q81, 3.1% from 2Q71 to 2Q76, 2.8% from 2Q66 to 2Q71, 5.9% from 2Q61 to 2Q66 and 2.4% per annum between 2Q56 and 2Q61.  Growth over the half century between 2Q56 and 2Q06 averaged 3.3% per year, some six and a half times faster than experienced in the most recent five-year period.

Five years starts to approach a semblance of a long-run period of time.  The deficiency of growth over the last five years from its previous long-term trend suggests that a permanent adverse departure from past performance has occurred.  Such a departure was confirmed earlier in the U.S. jobs data.  The possibility that the United States is following the metamorphosis of Japan’s economy is not idle conjecture.

The fiscal policy debate in America gives the impression that runaway public spending lies at the root of the poor present economic performance.  On the contrary, government expenditures, which between 2Q07 and 2Q11 advanced just 0.8% per annum, has expanded not nearly enough against the backdrop of a more serious financial system breakdown than what occurred in the early 1930s.  Moreover, fiscal momentum continues to ebb.  In the past four quarters, public spending contracted 2.2% in real terms.

Extremely forceful Federal Reserve stimulus has been appropriate.  The U.S. central bank doesn’t target inflation or money growth but rather uses a subjective dual mandate that considers both prices and employment to steer policy.  A more rigorous way to capture the parameters of inflation and growth would be to target nominal GDP.  Assuming that price stability embodies an upward trend of 1.75 – 2.00% and that real economic potential GDP climbs by 2.75-3.0%, a reasonable target for annualized nominal GDP growth would be a range of 4.5-5.0%.  Nominal GDP in the fifty years between 2Q56 and 2Q06 grew at an average per annum rate of 7.1%.  That’s too fast but understandable because the pace embodies the era of high inflation in the late 1970s and early 1980s.  Nominal GDP growth in the five years to 2Q11, by contrast, amounted to just 2.4% per year, and that justifies the Fed’s efforts to push the envelope of stimulus.   Nominal GDP growth of 4.0% over the most recent four quarters moreover reflects the lagged impact of those efforts. 

U.S. policymaking seems to be on the brink of an enormous mistake.  Monetary authorities executed their responsibilities more responsibly than fiscal policymakers, that the Congress, whose members can’t grasp the distinction between short-term and long-term needs.  Unfortunately, Fed policy is ultimately accountable to the Congress, not the other way around.  The balance between short-term fiscal and monetary support ought to be shifting in favor of more fiscal and less monetary stimulus, but the opposite is happening instead.

The big picture regarding new jobless claims is a pretty flat trajectory at an excessively elevated level, and it would be even higher if not for people who’ve run out of benefits or dropped out of the labor force altogether.  Claims averaged 417K over the past four weeks, compared to 410K in the prior four weeks to August 27, 408K in the four weeks to July 30, 425K in the four weeks to July 2, and 424K in the four weeks to June 4.  The index for pending home sales of 88.6 represented a second straight drop of over 1% and remains well below pre-housing crisis levels in spite of a near-record low in mortgage costs.  Even after doubling to 6, the K.C. Fed index is less than a fourth as high as its 27 reading six months earlier.

As in Europe, barometers of U.S. expectations and confidence have lately performed worse than measures of current conditions.  The latest weekly consumer confidence reading of minus 53, for example, was only a point better than its record low set nearly three years ago.  This and other confidence measures are combed in part because of their timeliness.  Second-quarter GDP captures activity that occurred no more recently than a whole quarter ago and as much as a half year ago. 

Getting a data reading that is more encouraging than projected can simply reflect forecasting error, statistical noise, or an incorrectly measured statistic that will be revised at a later date.  A big part of forecasting involves the extrapolation of underlying trend and adjusting for seasonal bias and any other known special factors.  A margin of forecasting error is normal and doesn’t imply a systematic mistake.  Whether a reported figure is above or below what the street is expecting only tells something meaningful about an economy’s direction when a significant percentage of reported statistics are significant in magnitude and bunched on the same side of their predicted outcomes.  Bottom line, nothing reported today changes the big picture that the U.S. economy has been running at close to stall speed and that it will be subjected to new policy headwinds and other risks in the future that may tip it into recession.

Copyright 2011, Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.



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