Summary
Last Friday, the Commerce Department released its preliminary estimate of second-quarter gross domestic product. According to the report, real GDP grew at a 2.8% rate during the June quarter, 0.2% slower than Commerce's initial or "advance" estimate of 3.0%, released on 7/30. In critiquing the economy within the context of these data, two words came readily to mind, to wit: "weakening" and "stagflation." Of course, this was not how Wall Street bulls assessed the results!
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Introduction
NOTE: Table 5 at the end of the this missive breaks out in greater detail many of the numbers discussed in the following text.
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In its report of last Friday, the Commerce Department indicated that second-quarter real GDP grew at an annual rate of 2.8%, down from the department's initial estimate of 3.0%, released on 7/30. Included in the regular reporting cycle will be a third or so-called "final" estimate, due out on 9/29.
Generally, the differences between preliminary and final GDP estimates for a given quarter are less significant than the differences between advance and preliminary estimates. This results from a lot of incomplete or missing data when the Commerce Department releases its advance estimate, data that are much more complete when its time to render the preliminary estimate.
In most respects, the revised numbers conformed quite closely to the big-picture observations I made in the missive dated 8/20 and entitled, "August 27, 2004: A Day That Will Live in GDP Infamy?" I will weave some of those thoughts and numbers into this research missive. First, however, I'll go through the ususal examination of the reported data.
The Revised Second-Quarter Numbers
The three-month period ended June was the 11th consecutive quarter of reported real GDP expansion. The preliminary estimate of growth at a 2.8% annual rate was in line with the consensus forecast, but it represented the weakest number (measured quarter over quarter) since the March 2003 quarter, when GDP expanded at a 1.9% annual rate.
In comparing the preliminary second-quarter numbers with the Commerce Department's final estimate this year's first quarter, real GDP was up $73.9 billion or about 0.691%. Add one, then raise this to the fourth power, and you get the rounded annual rate of change of 2.8%.
Expressed in nominal terms, GDP expanded at a 6.1% rate during the second quarter ($11643.1 billion, versus the first quarter's $11472.6 billion.) Comparing the 2.8% real rate to the 6.1% nominal rate is a grahpic indication of the inordinate contribution inflation made to total growth during the second quarter.
Versus 2003's second quarter, 2Q2004 real GDP rose $484.0 billion, or 4.7%. The respective numbers: 2Q2004 = $10771.4 billion; 2Q2003 = $10287.4 billion.
Four of the six primary GDP categories added to growth in the preliminary versus advance estimates of activity during the second quarter. In order of their dollar contribution, they were: (1) personal consumption expenditures (+$10.2 billion), (2) inventory change (also +$10.2 billion), (3) nonresidential fixed investment (capital spending, +$8.9 billion), and (4) government spending (+$0.6 billion).
The two primary categories subtracting from growth after revision for the most recent period, in order of their dollar contribution, were: (1) residential fixed investment (housing, minus $0.8 billion), and (2) net exports (minus $35.9 billion, by virtue of a reported widening in the deficit from $552.8 billion to $588.7 billion).
Additional Items of Note
(1) Many analysts look at "real final sales" as a critical number, since it measures GDP growth with the effect of changes in inventory levels removed. This makes RFS a purer gauge with which to assess "core" growth.
During 2004 so far, growth in real GDP has been bolstered materially by inventory accumulation, at respective first- and second-quarter annual rates of $40.0 billion and $57.7 billion. In turn, this contributed to overall growth in real gross domestic product at respective 4.5% and 2.8% annual rates. However, the expansion in real final sales were at the lower rates of 3.3% and 2.1%.
(2) In the most recent GDP numbers, personal consumption expenditures were revised higher, to a 1.6% from a 1.0% rate of growth. However, the 1.6% rate during the second quarter still fits well with some of the more important views I expressed about the economy in the missive published 7/20 ("Midyear Economic & Market Review: More Disappointments Ahead?").
From the third quarter of 2003 through this year's second quarter, inclusive, growth in PCEs are now reported at annual rates of 5.0%, 3.6%, 4.1% and 1.6%, respectively. This is a clear deceleration in growth in what is far and away the largest component of gross domestic product, and it reflects an increasingly stressed consumer. Surely a portion of the stress is coming from higher energy prices, a phenomenon not likely to diminish significantly, on balance, in the months immediately ahead, as the lagged impact of price increases from months ago continue to work through the system.
(3) Friday's report showed a sizable upward revision to nonresidential fixed investment (capital spending) during the second quarter, with growth at a 12.1% annual rate, versus a 8.8% rate in the initial second-quarter estimate. This compared with a first-quarter rate of 4.2%, and for this year's first six months, NRFI expanded at 8.1% rate.
Wall Street bulls remain desperate for a capital-spending "boom." Some analysts are opining one is underway. I doubt this, however. Instead, I continue to believe the respectable expansion seen in tech-equipment and related purchases merely reflects "plug" buying -- more the necessary (versus the discretionary) replacing of worn out equipment from the Y2K-induced spending binge of approximately five years ago.
(4) Friday's report maintained the sizable increases during this year's first two quarters in key GDP inflation measures. The deflators used for overall GDP and for personal consumption expenditures were reported for the second quarter at respective annual rates of 3.2% and 3.5%. For 2003's fourth quarter, these measures were reported at much lower rates of 1.4% and 1.2%, respectively. What we are seeing here is a taste of the stagflation I've vociferously warned about in past forecasting work. The following table shows quite clearly the emergence of this trend over the past several quarters.
Table 1.
------------------------------------------------
NOMINAL AND REAL GROSS DOMESTIC PRODUCT
(SAAR, 2000 Chained Dollars); RATIO OF REAL
TO NOMINAL; GDP IMPLICIT PRICE DEFLATOR;
PERSONAL CONSUMPTION EXPENDITURE DEFLATOR
------------------------------------------------
Year Q1 Q2 Q3 Q4
------------------------------------------------
2004 Nominal 7.4% 6.1% NA NA
Real 4.5% 2.8% -- --
R/N 0.61 0.46 -- --
===========================================
GDP Def. 2.7% 3.2% -- --
PCE Def. 2.4% 3.5% -- --
------------------------------------------------
2003 Nominal 4.9% 5.3% 8.8% 5.7%
Real 1.9% 4.1% 7.4% 4.2%
R/N 0.39 0.77 0.84 0.74
===========================================
GDP Def. 2.9% 1.1% 1.3% 1.4%
PCE Def. 3.9% 0.4% 1.6% 1.2%
------------------------------------------------
2002 Nominal 4.4% 4.2% 3.9% 2.7%
Real 3.4% 2.4% 2.6% 0.7%
R/N 0.77 0.57 0.67 0.26
===========================================
GDP Def. 1.0% 1.8% 1.3% 2.0%
PCE Def. 0.8% 2.8% 1.4% 1.9%
------------------------------------------------
Some Thoughts in Conjunction with the Missive Dated 8/20
("August 27, 2004: A Day That Will Live in GDP Infamy?")
I spent most of the 8/20 missive examining the negative impact the large second-quarter trade deficit would have on last Friday's GDP revisions. Had the revised trade numbers comprised the only change in the overall data, real gross domestic product for the second quarter would have come in at 1.7%, versus the 2.8% that was reported.
Excerpts from the 8/20 missive:
"If 3% [real GDP reported in the advance estimate] was disappointing, something less than 3% would be more so. I believe there's an excellent chance that the next estimate, due out a week from today, will be less than 3%.
"...When the advance estimate...was released on 7/30, trade data for June had not been released. Therefore, it was estimated in the report. It is the huge spike in the June trade deficit...that I believe might account for a material decline in the revised GDP numbers that will be reported next week.
"Following are the six months of now-reported trade deficits for 2004 (in billions):
Table 2.
---------------------------------
Second Quarter First Quarter
---------------------------------
Apr. $ 48.097 Jan. $ 45.176
May $ 46.882 Feb. $ 45.185
Jun. $ 55.815 Mar. $ 46.571
------- -------
Total $150.794 Total $136.932
======= =======
"...These are deficits, therefore, negative numbers for GDP purposes. In other words, they subtract from GDP. If they grow to larger negative numbers, they subtract more from GDP. Also, the above numbers are not annualized. To get them into GDP format, you must annualize them by multiplying by four. Thus, at an annual rate, the second-quarter figure becomes $603.2 billion, and the first-quarter figure becomes $547.7 billion.
"...You [cannot] simply take the above and it becomes the GDP "net export" component. It does not, for a variety of reasons. But sometimes, it does get close. For instance, in the first-quarter final GDP number, net exports were reported at minus $550.1 billion, versus the minus $547.7 billion figure shown above. Usually, however, it is not that close a fit.
"For 2003, the net export number in the respective quarterly GDP reports averaged about 96% of the reported trade deficits during each quarter. So what I'm going to do here is run a matrix ranging from 91% to 96%, then assume that the only revision in next week's GDP release comes from net exports. This will not be so, of course, but more on that in a moment.
"Here's the potential trade-only effect using the matrix (all amounts in billions). The 'annual rate' would be the reported revised GDP growth rate, which would compare with the 3.0% rate reported by the Commerce Department in its advance estimate, released on 7/30:"
Table 3.
---------------------------------------------
Reported Versus Adj. Annual
Deficit x = ($552.8) GDP* Rate*
---------------------------------------------
($603.2) 91% ($548.9) +$ 3.9 $10781.9 3.2%
" 92% ($554.9) -$ 2.1 $10775.9 3.0%
" 93% ($561.0) -$ 8.2 $10769.8 2.7%
" 94% ($567.0) -$14.2 $10763.8 2.5%
" 95% ($573.0) -$20.2 $10757.8 2.3%
" 96% ($579.1) -$26.3 $10751.7 2.0%
=============================================
" 97.6% ($588.7) -$35.9 $10742.1 1.7%
---------------------------------------------
*Advance estimate reported at $10778.0 bil-
lion. Annual rate computed against final
1Q2004 result of $10697.5 billion.
---------------------------------------------
The revised "net export" figure came in at $588.7 billion, which was about 97.6% of the reported annualized second-quarter trade deficit of $603.2 billion.
But there were other GDP revisions that cushioned the impact. More from the 8/20 missive:
"I feel very confident the full effect will never be allowed to flow through. For instance, some of the trade deficit might be reallocated to inventories, on the assumption that we import much of what we consume, so inventories are where the imports wound up before getting consumed. Or perhaps the imports actually made it to consumption, thereby increasing personal consumption expenditures. Either assumption or reallocation would blunt, on a dollar-for-dollar basis, the impact of the widening trade deficit as it gets incorporated into GDP.
"In addition to these possibilities, there is a chance that some of the other GDP components will be revised upward, exclusive of any direct association with the trade deficit."
In fact, and as discussed earlier, inventory change and personal consumption expenditures were revised higher, by respective amounts of $10.2 billion each. This $20.4 billion total went a long way towards offsetting the $35.9 billion additional drag from the reported widening of the trade deficit.
As a matter of general interest, I thought readers would be interested in seeing the large and growing impact that imported oil is having on the trade and the current-account deficits. As the following table shows, the United States, during the first six months of 2004, had imported about 12.9 times more crude oil in nominal-dollar terms than it did for all of 1973. In terms of quantity, during 2003, the last full year of data, the US imported 3.68 billion barrels, more than 2.6 times the 1973 level.
Table 4.
----------------------------------
US Crude Oil Imports*
--------------------------
Barrels Value Average
Year/ --------------- Price Per
Month (In Billions) Barrel
----------------------------------
1973 1.393 $ 4.593 $ 3.30
1978 2.392 32.140 13.43
1983 1.294 38.184 29.51
1988 1.888 25.844 13.69
1993 2.543 38.469 15.13
1998 3.243 37.252 11.49
2003 3.676 99.167 26.98
----------------------------------
2004
Jan. 0.309 $ 8.835 $28.55
Feb. 0.288 8.395 29.17
Mar. 0.332 10.162 30.64
Apr. 0.312 9.669 31.00
May 0.316 10.474 33.12
Jun. 0.347 11.697 33.76
----------------------------------
'04 To
Date 1.904 $59.232 $31.12
----------------------------------
*Source: US Dept. of Commerce.
----------------------------------
(NOTE: All applicable tables in this missive will be added to the "Data & Charts" archives section of the GRA website.)
Table 5.
--------------------------------------------------
PRELIMINARY ESTIMATE OF SECOND-QUARTER 2004
REAL GROSS DOMESTIC PRODUCT (Released
08/27 -- Billions of 2000 Chained Dollars
at Seasonally Adjusted Annual Rates)
--------------------------------------------------
2Q2004 1Q2004 Change/
Prelim. Final Impact
------------------------
Real GDP 10771.4 10697.5 2.8%
Inventory Change 57.7 40.0 $17.7
Real Final Sales 10712.3 10655.8 2.1%
--------------------------------------------------
Components of GDP
-----------------
Personal Consumption 7572.7 7543.0 1.6%
Nonres. Fixed Investment* 1207.0 1173.0 12.1%
Resid. Fixed Investment 561.5 542.5 14.8%
Net Exports -588.7 -550.1 -$38.6
Government Purchases* 1947.4 1935.8 2.4%
--------------------------------------------------
Implicit Price Deflators:
Gross Domestic Product 3.2% 2.7% --
Gross Domestic Purchases 3.5% 3.4% --
--------------------------------------------------
*MEMO ITEMS
-----------
Government Purchases
--------------------
Total 1947.4 1935.8 2.4%
State & Local 1229.2 1222.4 2.2%
Federal 718.1 713.3 2.7%
National Defense 479.9 477.6 1.9%
Nonresidential
Fixed Investment
----------------
Total 1207.0 1173.0 12.1%
Structures 241.8 237.7 7.1%
Equipment & Software 974.4 943.7 13.7%
Info. Processing
Equip. & Software 564.8 547.0 13.7%
---------------------------------------------------
MAJOR GDP COMPONENTS -- CHANGES BETWEEN
"PRELIMINARY" AND "ADVANCE" 2Q2004 ESTIMATES
(Billions of 2000 Chained Dollars at
Seasonally Adjusted Annual Rates)
---------------------------------------------------
2Q2004 2Q2004
Prelim. Advance Change
----------------------------
Real GDP 10771.4 10778.0 -6.6
Inventory Change 57.7 47.5 10.2
Real Final Sales 10712.3 10728.8 -16.5
---------------------------------------------------
Personal Consumption 7572.7 7562.5 10.2
Nones. Fixed Invest. 1207.0 1198.1 8.9
Resid. Fixed Invest. 561.5 562.3 -0.8
Net Exports -588.7 -552.8 -35.9
Govt. Purchases 1947.4 1946.8 0.6
---------------------------------------------------
REAL GROSS DOMESTIC PRODUCT (SEASONALLY
ADJUSTED ANNUAL RATES, 2000 CHAINED DOLLARS)
--------------------------------------------
Year Q1 Q2 Q3 Q4
----------------------------------------
2004 4.5% 2.8% -- --
2003 1.9% 4.1% 7.4% 4.2%
2002 3.4% 2.4% 2.6% 0.7%
2001 -0.5% 1.2% -1.4% 1.6%
2000 1.0% 6.4% -0.5% 2.1%
1999 3.4% 3.4% 4.8% 7.3%
1998 4.5% 2.7% 4.7% 6.2%
-----------------------------------------
MEMO ITEM: Annual change in real GDP
before and after the "comprehensive
revision" published by the Commerce
Department on 12/10/03.
----------------------------------------
1929-2002 1959-1992 1992-2002
---------------------------------
After 3.4% 3.4% 3.2%
Before 3.4% 3.4% 3.2%
---------------------------------------------------
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