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Second-quarter GDP growth came in at only 1.3%, and revisions to previous quarters show a deeper recession and a weaker recovery than previously portrayed. Immediate growth prospects look bleak given the lack of underlying momentum and the damage to confidence from the debt-ceiling stand-off (even assuming that the crisis is resolved without a default).
Second-quarter GDP growth came in at 1.3%, an anemic performance although not a big surprise (we had been expecting 1.6% growth as of a week ago, which we revised to 1.3% after the durable goods report on Wednesday). Consumer spending was almost at a standstill (up just 0.1%), while government spending (down 1.1%) was again a drag on growth as declines in state and local spending and federal nondefense spending offset a bounce in federal defense spending.
Domestic fixed investment was a plus for growth, with equipment and software spending up 5.7% (albeit up less sharply than the first quarter's 8.7% increase). Business structures spending advanced 8.1%, driven by surging spending on drilling in the oil and gas sector. More favorable weather than in the first quarter helped generate a small increase in residential construction. Foreign trade was a plus, with export growth at 6.0% outpacing import growth at 1.3%. Inventories had little impact on growth, adding a couple of tenths to GDP growth.
The big surprises were in the historical revisions. These deepened the recession substantially. The fourth quarter of 2008, right after the Lehman failure, now shows an 8.9% annual rate of decline in GDP (previously 6.8%), and now represents the worst single-quarter decline in GDP since the 10.4% drop in the first quarter of 1958, exceeding the 7.9% decline in the second quarter of 1980. The revisions then made the initial rebound a bit faster (with growth running just below 4% in the first and second quarters of 2010), but then showed the recovery losing momentum over the second half of 2010 and tailing away to just 0.4% in the first quarter of 2011 (previously 1.9%) and 1.3% in the second. Although the second quarter was disappointing, the revisions mean that it actually shows stronger growth than the first.
The figures now show more starkly than before a recovery that looked rapid at first, helped by inventory re-building and fiscal and monetary stimulus, but simply fading away as those supports weakened, since the private sector (especially the consumer and the housing market), burdened by the excesses of debt and overbuilding from the boom and bust, was unable to play its traditional role driving the recovery forward.
The new GDP data help clear up one puzzle, but create several others:
The GDP figures show an economy barely crawling forward. Unfortunately, there is little in the recent evidence to suggest that the economy was gaining momentum as the second quarter ended—June retail sales were weak, as were June durable goods orders, and the Fed's Beige Book report was soft. The Michigan consumer sentiment index tumbled in July, while the corresponding Conference Board measure edged just slightly higher after tumbling in May and June.
And the economy now faces a major headwind from the prolonged stand-off in Washington over the federal debt-ceiling. While we still anticipate that cooler heads will prevail and that the federal government will not actually default on its debt obligations, nobody can be sure how the drama will play out. At the very minimum, the willingness of consumers and businesses to take risks while the unedifying spectacle has been playing out has surely diminished. That hurts consumer spending on big-ticket consumer durables, hurts their willingness to move ahead with house purchases, and hurts businesses willingness to hire and make major capital investments.
Our hope—as of a month ago—that third-quarter growth would bounce back above 3% no longer looks realistic, even though we should still get some help from a rebound in vehicle production. IHS Global Insight now expects that growth in the third quarter will come in much weaker than previously expected—probably less than 2% and possibly less than 1%. Assuming that the budget impasse in Washington is resolved soon and that the worst-case scenario is avoided, there is a decent chance that growth in the fourth quarter could be stronger. However, a weak economy will only make the tough decisions on the budget even more difficult and the case for fiscal austerity in the near term even weaker. The current fragile state of the economy also means that the Fed is likely to remain on hold for a very, very long time.
by Nigel Gault