GDP Picture, April 29, 2009
Upside surprise in consumption spending doesn’t stem sharp decline in economic growth
by Josh Bivens with research assistance from Kathryn Edwards
According to a Commerce Department report released today, gross domestic product (GDP) shrank 6.1% in the first quarter of this year, measured at an annual rate. This drop and the 6.3% decline in the last quarter of 2008 represent the worst half-year GDP performance since 1958.
The decline was driven by large falls in exports, dwindling private investment in all categories, and declines in government spending. While the contraction was slightly worse than consensus forecasts of a 5% decline, the real surprise in the report was the 2.2% increase in personal consumption spending, which had fallen at an average rate of 4% in the previous two quarters.
An especially troubling sign was the cliff-dive of investment spending. Investment in non-residential structures fell 44% in the quarter. Non-residential investment has historically followed movements in residential investment with a one to two year lag. It had held up through the first three years of the residential housing sector meltdown, but shrank 9% in the last quarter of 2008. Its performance in the first quarter this year is a sign that it will be dragging on GDP growth for some time to come.
Following the 28% decline in the last quarter of 2008, investment in equipment and software dropped another 34% in the first quarter of this year. This is the fifth straight quarter of decline, with each successive fall being larger than the previous.
The residential housing sector posted its 13th straight quarter of decline, and its contraction was the steepest yet at 38%. Ironically, the decline of the housing sector has been so dramatic that the sector is now too small for it to put great downward pressure on overall GDP. Housing accounts for 2.7% of overall GDP now, roughly 43% of its peak size in 2005. Given that home prices fell at the fastest rate yet in the first quarter of 2009, it seems unlikely that this decline in home building will stop anytime soon.
Trade continues to collapse on both the import and export side, down 30% and 34% respectively. As imports remain much larger than exports, these changes led to net exports (exports minus imports) adding a full 2 percentage points to the quarter’s growth. However, given that the International Monetary Fund (IMF) predicts 2009 will be the first year in the last 60 to see an overall decline in world output, it seems unlikely that foreign demand will provide a reliable boost to pull the U.S. economy out of recession. This is especially worrying given that a new IMF report on recessions that are accompanied by financial crises indicates that these downturns are most likely to end when a country sees a rapid increase in demand for its net exports. This recession and financial crisis are, however, global and global net exports, of course, are always and everywhere zero. In short, the prescription for alleviating a national recession and financial crisis just can’t work at the global level.
Both federal and state/local government spending fell last quarter, by 4.0% and 3.9% respectively. The federal spending downturn was entirely accounted for by the 6.4% decline in defense spending. This was probably inevitable after extraordinarily rapid increases in defense outlays in the previous 6 months (they rose by an average of over 10% in the last two quarters of 2008).
It should be noted that essentially none of the money in the stimulus package passed in February was spent in the first quarter, so that at least is a bright sport for the future. Further, much of the money appropriated both in the stimulus package and in the bailouts of the financial sector does not show up in the government category of the GDP report. This category essentially counts only government purchases of goods and services.
Also, the state fiscal relief included as part of the stimulus package was not generally felt in the first quarter of 2009; this number should hopefully stabilize a bit in coming quarters.
The gains in consumption spending last quarter are a real surprise. A key factor was a 9.4% rise in durable goods spending, which had fallen for the previous year. Spending on autos accounted for two-thirds of this increase, following six straight quarters of decline. Despite the 4.8% increase in spending on autos, motor vehicle production in the United States actually fell, subtracting a full 1.4% off of overall GDP in the quarter. Extraordinarily low levels of auto sales before the first quarter of 2009 indicate that pent-up demand for cars could conceivably be a strong force leading to recovery in coming years. For the moment, much of this demand was probably satisfied by running down inventories, which subtracted 2.8 percentage points off of GDP this quarter. This pent-up demand for autos, however, will only help pull the U.S. economy out of recession if it is translated into a rise in U.S. production of cars. In a sense, today’s GDP report argues strongly that there is a compelling macroeconomic reason to make sure that American-based auto producers do not fail in the next couple of years.
The rise in consumption spending is even more puzzling in that it was accompanied by a large increase in the personal savings rate. Savings reached 4.2% of personal disposable income, the highest rate since 1998. Given that before the stock and housing bubbles of the 1990s and 2000s this rate averaged well over 6%, it is safe to guess that future quarters will not see the relatively strong consumer spending numbers posted last quarter.
The rise in both consumer spending and the savings rate was made possible by a large fall-off in personal taxes, which fell 13% in the quarter. This fall-off in taxes is almost surely a symptom of the rapid declines in the earnings of high-income households that has accompanied the current recession.
Despite the upside surprise on consumption spending, today’s GDP report overall tells the story of an economy mired in recession. The uptick in consumer spending was accompanied (maybe even driven) by falling prices for consumer goods, and the overall effects of it were mostly undone by running down inventories. The overall economic decline spread across many more sectors, with huge falls occurring in the investment accounts. In short, there is very little in this report to make one optimistic in the near-term about the U.S. economy.
How does last quarter’s GDP performance compare to the average for other recessions? See today’s Economic Snapshot.