Tuesday, July 29, 2014

GDP Consensus Too High, But We're Working Hard

In a tiny sliver of the service economy in a Southern state capital, labor productivity soared when we worked a double shift one day last week.  It would have taken similar heroic efforts repeated oh-so-many times for the nation’s economic output to have meaningfully rebounded in the second quarter.  In our view, the 3.5% consensus estimate for gross domestic product growth is too sanguine. 

Nevertheless, our model expects a return to trend growth between 2.5% and 3.0%.  Our point estimate is 2.9%, which should be robust enough to reassure equity markets the expansion is healthy but not a tipping point for tighter monetary policy.

The economy contracted at a 2.9% annual rate in the first quarter, a result largely blamed on the “hibernus horribilis” of ice, snow and bitter cold in North America.

For the spring, we expect positive contributions from employment gains of more than 800,000 and a rebound from the first-quarter labor productivity decline of 3.2%.  The jobs gains also likely boosted non-residential fixed investment, which has been a consistent drag.  Confidence also probably led businesses to rebuild inventories drawn down in the harsh winter months.
However, the trade deficit widened in the first two months of the quarter, and real personal consumption expenditures declined in both April and May.  Estimates for June in these line items will be a swing factor.
Our concern is that real final sales (GDP minus inventory growth) could prove anemic, which ironically could support the liquidity-fueled equity market’s expectation of a steady near-zero interest rate policy from the Federal Reserve absent signs of inflation. 
The answer will come soon enough, as the Federal Open Market Committee will release its latest monetary policy decision in a statement Wednesday afternoon, just hours after the GDP release from the Commerce Department.  The punch bowl, we believe, will remain spiked.

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