January 30, 2004
Debt-driven growth cools from 8.2% to 4.0%
After the torrid 8.2% growth rate of gross domestic product (GDP) in the third quarter, the U.S. economy cooled to a 4.0% pace in the last quarter of 2003. The fourth quarter drop suggests that the boost from the mid-year plunge in mortgage rates and in taxes faded in the fall.
Fourth quarter output growth generated only 207,000 jobs. This 0.6% growth rate for jobs remains less than half the 1.3% growth rate (about 450,000 jobs per quarter) necessary to keep up with the working-age population. When analyzing these issues, commentators often note the “lag” from the end of a recession to the start of job growth. But what the analysts often fail to mention is how extraordinarily long the lag was this time. In fact, jobs started to return within three months after all prior recessions on record but took 21 months to reverse course after this latest recession (see Table 1 from the EPI Briefing Paper, Understanding the severity of the current labor slump).
The weak job market is also reflected in today’s data on national income. The final quarter in 2003 saw real labor compensation grow at an annualized rate of only 1.6%, too slow to generate a healthy self-sustaining recovery. Since the last recession ended two years earlier, labor compensation has crept up by only 1.7%.
The two-year rebound in GDP combined with anemic growth in labor compensation has created an extremely unbalanced recovery in two respects. First, income growth has been tilted toward non-wage categories, particularly corporate profits (for more detail, see the EPI Snapshot, Fast growth for profits, slow growth for wages and benefits). Second, personal consumption has continued to grow only because of increased mortgage debt and large, unsustainable reductions in taxes.
U.S. demand slowed sharply—from 7.2% to 3.1%—as consumers, business, and government all increased spending more slowly. Both exports and imports rose, but net exports contributed less to growth in the fourth quarter. Inflation measures fell to near or below the 1% rate that several Federal Reserve officials have suggested as the minimum acceptable rate.
Consumer demand slipped from a 6.9%to 2.6% last quarter. Two factors—a short-lived plunge in mortgage interest rates and new tax cuts—boosted demand in the third quarter, but their effects trailed off in the fourth quarter. Of the two, the plunge in mortgage rates appears to have been more important.
The drop in mortgage rates put a lot of money in a few people’s hands, while tax reduction put a more modest amount in many more people’s hands. Lower mortgage rates in May and June led both to a burst of new home sales and construction and to cash-out refinancing used to buy autos and furniture to put in new homes. The effect of temporarily lower mortgage rates can be seen in the third quarter surge and fourth quarter drop-off in both durable goods sales and residential investment. Taken together, durables and home construction contributed only 0.6% of the growth in the last quarter, down from 3.3% in the previous quarter. That 2.7 percentage point swing accounted for the bulk of the 4.2 point slowdown in total GDP growth.
Since the tax cuts were relatively modest per family but more widespread, their effect shows up in the spurt in non-durable items like food and clothing, which also grew more slowly in the fourth quarter. Non-durable spending contributed 0.9 percentage points of growth in the fourth quarter, down from 1.5 points in the third quarter.
The pace of fixed non-residential investment also slowed in the latest quarter, down from a strong 12.8% to a more modest 6.9%. Investment in information technology slowed markedly, while investment in industrial equipment fell in the fourth quarter.
Among the major measures of activity, only inventory building did better in the fourth quarter than in the third quarter.
Exports registered a growth rate of 19.1%, while imports rose at an 11.3% rate. As a result, net exports contributed 0.2 percentage points to growth, down from 0.8 points in the prior quarter.
The 6% average growth rate for the second half of 2003 is surely welcome, but its underlying stimulus is problematic. Without healthy gains in jobs and labor compensation, the recovery will continue to depend on the piling up of more consumer and government debt that then gets passed on to consumers in the form of tax cuts now and interest costs long into the future. That pattern cannot sustain strong, viable growth indefinitely.
—by Lee Price
To view archived editions of GDP PICTURE, click here.
The Economic Policy Institute GDP PICTURE is published quarterly upon release of the Bureau of Economic Analysis’ quarterly GDP report.
EPI offers same-day analysis of income, price, employment, and other economic data released by U.S. government agencies. For more information, contact EPI at 202-775-8810.
