Tuesday, November 01, 2005

Problematic Aspects of the U.S. GDP Reports

Most commentators were euphoric over the seemingly strong third quarter GDP growth number of 3.8%. If we look at the details however, we can see that there are many troubling aspects which surprisingly few commentators (Indeed as far as I know, none besides me) have noticed.

First of all, because of a sharp deterioration of terms-of-trade (related mostly to the energy price increases), the purchasing power of U.S. production increased far less than the headline 3.8%-number. If we deflate the nominal increase of 7.0% with the 4% increase in the price index for domestic purchases rather than the 3.1% increase in the price index for GDP, we find that real production growth was more like 2.9% than 3.8%.

Another negative aspect is the high extent to which growth was driven by government spending. While the misleading volume measures indicates that the burden of government purchases (not including government transfer and interest payments) fell as it rose 3.2% versus 3.8% for the economy. But the price index for government spending rose a full 6.3% versus the 3.1% GDP price index, meaning that the private sector suffered what one might call a deterioration in its terms-of-trade versus government. As a result nominal government spending rose at an annual rate of 9.8% versus the overall 7% increase. Because of this government purchases rose from 18.89% in the second quarter to 19.01% in the third quarter, meaning that private sector growth was in fact even weaker than the above mentioned 2.9%.

A third troubling fact was the fact that because of the high capital consumption caused by Katrina, Net Domestic Product fell in fact during the third quarter, by 4.4% at an annual rate in nominal terms and by 8.2% in real terms. This means that Americans in fact saw their net income fall sharply during the third quarter. On the other hand as the sharp increase in capital consumption was largely driven by temporary factors like Katrina this means that Net Domestic Product is likely to increase even faster than Gross Production during the fourth quarter But it is still important to notice that America became poorer not richer during the third quarter.

A fourth troubling fact related to the previous one is that both the household savings rate and the net national savings rate fell sharply and became negative during the fourth quarter as American consumption (both government and private) rose despite falling real income. The household savings rate fell from 0% to -1.1% while the net national savings rate from -0.2% to -5.5%. This of course reflects to a high extent Katrina-related damages and so we can expect a great improvement in the fourth quarter. But this still means that real American wealth (as opposed to asset price inflated paper worth) fell and even excluding Katrina, the absolute level of savings is far too low.

What does this mean for the future outlook? Clearly with a negative savings rate, there is no room for further increases in private consumption spending and because of the declines in real spending in August and September the fourth quarter number for private consumption will likely only show a very small increase at best.

On the other hand there will of course be a continued sharp increase in government purchases related to Katrina-related reconstruction. This will likely keep the headline GDP number well into positive territory for the fourth quarter , but such growth is hardly sound. Beyond that, the conflicting forces of weak household finances on the one hand and on the other hand high corporate profits and a continued government spending produces a uncertain outlook.


Blogger Edie said...

Very interesting post, Stefan. Good analysis.

1:59 AM  

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