January 28, 2005

Growth rate slows in fourth quarter of 2004

The Bureau of Economic Analysis (BEA) of the Commerce department reported today that real gross domestic product (GDP) increased at an annual rate of 3.1% in the fourth quarter of 2004, down from a 4.0% growth rate in the third quarter. While growth was higher on average in the calendar year 2004 (4.4%) than in the calendar year of 2003 (3.0%), growth during 2004 (from the fourth quarter of 2003 to the fourth quarter of 2004), was down from the same period in 2003 (3.7% versus 4.4%, respectively).

Numbers for both the fourth quarter of 2004 and for the full year showed strong growth in domestic demand. Much of this demand, however, was satisfied by rising imports, meaning that it did not translate into gains in domestic production. For the fourth quarter, final sales to domestic purchasers (i.e., demand) rose by 4.3%, with inventories contributing another 0.4%. However, the rising trade deficit (or net exports) exerted a drag of 1.7% during the same period. This rising deficit was driven by both falling exports (down 3.9%) and rising imports (up 9.1%).

For the ninth consecutive year, the growing trade deficit hindered economic growth. For 2004, this deficit pulled down GDP growth by 0.61 percentage points, with the 0.77 percentage-point contribution of exports swamped by a -1.38 percentage point drag from imports. The expected benefits to net export growth from recent falls in the dollar are yet to materialize.

The strong domestic demand growth was driven by personal consumption expenditures (up 4.6%) and private investment (up 9.2%). Particularly encouraging was continued growth in equipment and software investment (up 14.9%).

What continues to lag in the current recovery is growth in labor compensation, particularly private-sector wage and salary growth, as can be seen in the figure below. Since the recovery’s start in the fourth quarter of 2001, (real) private wage and salary income is up only 3.9%. The average for all economic recoveries that lasted 11 quarters or more from 1947 to1982 is 18.2%, and even the “jobless recovery” of the early 1990s saw 7.4% growth. Workers’ wages have yet to see much evidence of this recovery.

Despite this lagging wage and compensation growth, personal disposable income rose by $250 billion (10.8%) in the fourth quarter, compared to $81.6 billion (3.4%) in the third. However, $99.4 billion of this increase was due to a special dividend payout made by the Microsoft Corporation, which will, of course, not be recurring boost to income growth in the future. One of the most striking effects this payout has had is on reported personal savings rates. The fourth quarter rate for personal savings rose to 1.3%, up from the third quarter measure of 0.5%, which was the lowest rate since the fourth quarter of 2001. However, without the Microsoft dividend payout, the savings rate would have actually fallen to 0.2%, the lowest rate since 1947.

Inflation remained tame in the fourth quarter, with the price index for gross domestic purchases rising 2.7%, compared to 1.9% in the third quarter. The “market-based” index for personal consumption expenditures excluding food and energy (which many believe is the best measure of “core” inflation in the economy) rose by only 1.7 % in the fourth quarter.

While domestic demand is relatively strong, the U.S. economy needs to close the trade deficit to translate this more fully into strong output growth. Further, while 2004 saw stronger employment growth than the previous three years, slow growth in average wages has kept this recovery from seeing growth in private-sector wage income that is comparable with previous business cycles.

By EPI economist Josh Bivens

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