JOHN WILLIAMS’ SHADOW GOVERNMENT STATISTICS

 COMMENTARY NUMBER 267
Third-Quarter GDP Revision

December 22, 2009

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GDP Growth Still Overstated

Economic and Liquidity Crises Face New Down-Legs

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PLEASE NOTE: The next scheduled Commentary is planned for Wednesday (December 30th).

– Best wishes to all for a most joyous holiday season and for a healthy, happy and prosperous New Year!  John Williams

 


Minor GDP Revisions Leave Reported Economic Growth Heavily Overstated. As discussed in Commentary No. 266, severe seasonal-adjustment distortions are being created by the intense economic downturn, unprecedented for its length and depth in the post-World II era of modern economic reporting. Already acknowledged problems with payroll employment reporting helped to spike the second- and third-quarter GDP-related reporting with last month’s unusual upside revisions to wages and salaries in the GDI. Annual revisions to the GDP series, scheduled in July 2010, could turn the third-quarter 2009 GDP quarterly growth estimate flat to negative, and likely will show an outright quarterly contraction in fourth-quarter 2009 GDP. 

The "advance" estimate of the fourth-quarter growth is scheduled for release on January 29th. Consensus estimates at the moment still are for continued, positive quarter-to-quarter real growth. How the consensus estimates and initial reporting evolve, however, will depend heavily on initial reporting of December employment, retail sales, industrial production and housing data due for release in January. Severe downside adjustments to the employment data, which will be published in February, likely will not be reflected in current GDP estimates until the annual revisions of July.

Economic and Liquidity Woes Appear Ready to Intensify Anew. Nonetheless, as shown in the following graph of official year-to-year change in real GDP (not the annualized quarter-to-quarter growth rate of the headline number), the annual decline in the U.S. economy during the third quarter generally remained at or below the annual contraction troughs of the other post-World War II recessions. The economic depression continues, albeit with some sectors showing some bottom-bouncing, but clean data are not showing any upturns, shy of non-recurring, short-lived spikes from temporary stimulus measures. 

 Gross Domestic Product Chart

The ongoing weakening of annual growth in M3 — highly likely to have turned negative year-to-year in December (on both a nominal and real basis) — would, in normal times, indicate a looming recession in 2010. Ahead lie a deepening depression and likely new efforts by the Fed and the Administration to address the ongoing and still-intensifying liquidity and economic woes. These issues will be explored in some depth in the next Commentary due on December 30th.

The broad economic and inflation outlooks are unchanged. Irrespective of near-term volatility in the markets, over the long haul the outlook remains particularly dim for U.S. equities, the U.S. credit market, and the U.S. dollar, while gold and silver prices should rally strongly. 

GDP-Related Definitions. For purposes of clarity and the use of simplified language in the following text, here are definitions of key terms used related to GDP reporting:

"Gross Domestic Product (GDP)" is the headline number and the most widely followed broad measure of U.S. economic activity. It is published quarterly by the Bureau of Economic Analysis (BEA), with two successive monthly revisions and with an annual revision the following July.

"Gross Domestic Income (GDI)" is the theoretical equivalent to the GDP, but it is not followed by the popular press. Where GDP reflects the consumption side of the economy and GDI reflects the offsetting income side. When the series estimates do not equal each other, which almost always is the case, the difference is added to or subtracted from the GDI as a "statistical discrepancy." Although the BEA touts the GDP as the more accurate measure, the GDI is relatively free of the monthly political targeting the GDP goes through.

"Gross National Product (GNP)" is the broadest measure of the U.S. economy published by the BEA. Once the headline number, now it rarely is followed by the popular media. GDP is the GNP net of trade in factor income (interest and dividend payments). GNP growth usually is weaker than GDP growth for net-debtor nations. Games played with money flows between the United States and the rest of the world tend to mute that impact on the reporting of U.S. GDP growth.

"Real" means growth has been adjusted for inflation.

"Nominal" means growth or level has not been adjusted for inflation. This is the way a business normally records revenues or an individual views day-to-day income and expenses.

" GDP Implicit Price Deflator (IPD)" is the inflation measure used to convert GDP data from nominal to real. The adjusted numbers are based on "Chained 2005 Dollars," at present, where the 2005 is the base year for inflation, and "chained" refers to the methodology which gimmicks the reported numbers so much that the total of the deflated GDP sub-series misses the total of the deflated total GDP series by nearly $40 billion in "residual" as of second-quarter 2010.

"Quarterly growth," unless otherwise stated, is in terms of seasonally-adjusted, annualized quarter-to-quarter growth, i.e., the growth rate of one quarter over the prior quarter, raised to the fourth power, a compounded annual rate of growth. While some might annualize a quarterly growth rate by multiplying it by four, the BEA uses the compounding method, raising the quarterly growth rate to the fourth power. So a one percent quarterly growth rate annualizes to 1.01 x 1.01 x 1.01 x 1.01 = 1.0406 or 4.1%, instead of 4 x 1% = 4%.

"Annual growth" refers to the year-to-year change of the referenced period versus the same period the year before. 


GDP.  The third estimate of, and second revision to third-quarter 2009 Gross Domestic Product (GDP) released this morning (December 22nd) by the Bureau of Economic Analysis (BEA) showed a downwardly-revised and statistically-insignificant annualized real growth rate of 2.24% +/- 3% (95% confidence interval), reduced from the second estimate of 2.78% and initial estimate of 3.53%. Such followed a 0.74% decline reported for second-quarter GDP. While the latest revision was somewhat more than statistical noise, it still was minor. Keep in mind that the reported quarterly growth rates are annualized, so a 0.1% downward revision gets reported as a 0.4% downward revision. The vast bulk of the growth in the quarter remained dependent on short-lived stimulus impact.

Net of the effect of a further downward revision to the third-quarter GDP implicit price deflator, to an annualized quarterly inflation rate 0.35% from the second estimate of 0.50% and an initial estimate of 0.76%, the quarterly GDP growth rate would have revised to 2.09% instead of to 2.24%. Inflation estimation is central to real GDP reporting and gimmicking. The weaker the inflation rate used for deflating the GDP, the stronger will be the inflation-adjusted growth rate. The revised 0.35% annualized third-quarter GDP inflation was up from an annualized contraction of 0.02% in the second quarter. In contrast, reported 3.60% annualized third-quarter CPI-U inflation was up from an annualized positive inflation rate of 1.33% in the second quarter. As noted last month, if the reported GDP inflator moved in tandem with CPI, which is not too farfetched a concept, the bulk of the reported real growth in third-quarter GDP would disappear.

The year-to-year contraction in real third-quarter GDP deepened again, in revision, to 2.64% from the second estimate of 2.51% and the initial reporting of 2.33%. Such still is a smaller annual contraction, however, than the record 3.83% decline reported for the second-quarter. As shown in the graph and mentioned above, the latest year-to-year decline generally is below or in line with annual-growth troughs of the major post-World War II recessions.

The SGS Alternate-GDP estimate for third-quarter 2009 remains an annual contraction of 5.7% versus the 2.6% official estimate, narrowed from an annual 5.9% (3.8% official estimate) contraction in the second quarter. While annualized real quarterly growth is not formally estimated on an alternative basis, a flat quarter-to-quarter circumstance, plus or minus, likely was realistic. I still look for a renewed quarter-to-quarter contraction in the GDP as of fourth-quarter 2009, barring extreme seasonal factor distortions in December economic reporting. 

GNP. The second estimate of Gross National Product for third-quarter 2009 showed annualized real growth revised sharply lower to 3.03% from the initial estimate of 3.76%, but up from a 0.96% contraction reported for the second-quarter. Year-to-year decline widened anew, in revision, to 2.87% from the initial 2.70% contraction reported in the third-quarter, though it still was improved from the 4.04% contraction in the second-quarter. Further significant downside revision awaits this series, as estimates of third-quarter factor income (interest and dividend payments) stabilize in the quarters ahead.

GDI. The second estimate of Gross Domestic Income for third-quarter 2009 showed annualized real growth of 2.22%, revised up from the initial 1.98% estimate, and up from a 0.07% contraction in the second-quarter. The quarterly GDI growth is unusually close to the GDP growth, at the moment, thanks to unusual stability in the quarterly levels of statistical discrepancy. Year-to-year change narrowed slightly to a still historically severe 3.30% contraction, versus the initial 3.36% contraction reported in the third-quarter, and narrowed from a 4.09% contraction in the second-quarter.

The extreme prior-period upside revisions to second-quarter wages and salaries last month reflected the impact of the terribly flawed payroll survey out of the Bureau of Labor Statistics. Corrections to the GDP are not likely before the July 2010 annual revisions.

Week Ahead. With holidays forcing early release of some data, the economic calendar in the week or so ahead is particularly thin. Given the underlying reality of a weaker economy and a more serious inflation problem than generally is expected by the financial markets, risks to reporting will tend towards higher-than-expected inflation and weaker-than-expected economic reporting in the month ahead. Such is true especially for economic reporting net of prior-period revisions.

New Orders for Durable Goods (November 2009). Due for release on Thursday, December 24th, the November monthly change again should be insignificant versus the regular month-to-month volatility seen in the series, with the level of activity continuing to bottom-bounce at a low-level plateau of activity.

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