Recently in Economics--Data Category

Real gross domestic product -- the output of goods and services produced by labor and property located in the United States -- increased at an annual rate of 2.8 percent in the second quarter of 2008, (that is, from the first quarter to the second quarter), according to final estimates released by the Bureau of Economic Analysis. In the first quarter, real GDP increased 0.9 percent.

The GDP estimates released today are based on more complete source data than were available for the preliminary estimates issued last month. In the preliminary estimates, the increase in real GDP was 3.3 percent.

The unemployment rate rose from 5.7 to 6.1 percent in August, and non-farm payroll employment continued to trend down (-84,000), the Bureau of Labor Statistics of the U.S. Department of Labor reported today. In August, employment fell in manufacturing and employment services, while mining and health care continued to add jobs. Average hourly earnings rose by 7 cents, or 0.4 percent, over the month.

Series Id:           LNS14000000
Seasonal Adjusted
Series title:        (Seas) Unemployment Rate
Labor force status:  Unemployment rate
Type of data:        Percent
Age:                 16 years and over

Real GDP was up 3.3% in the 2nd quarter.  That's more than most expected.  Certainly not what you'd expect to see in a recession.  It should be noted that this is not a clean bill of health for the economy.  It would be premature to say that we're out of the woods.  However, if this is a recession, it would be a pretty unusual one.  As King Banaian put it a couple days ago in response to labor market news, "If it be recession, it be wimpy."  And so today's news further complicates the picture.

Just what I needed as I sit in contemplation as I prepare to write about the local economic outlook.

The Wall Street Journal's Real Time Economics blog makes the following observation:

But the forecasts of a shrinking economy may not be so far off the mark after all. Gross domestic income, which Fed officials have in the past highlighted as perhaps a better measure than GDP, advanced just 1.9% at an annual rate last quarter after contracting the two previous quarters. Thursday's report is the first to show first quarter GDI in the red.

...

GDP is a consumption-based measure, adding up consumer, business and other spending and investment as well as net exports. GDI is income-based, adding up things like personal income and corporate profits. GDI is included in quarterly GDP, but not in the first, or "advance," estimate, so Thursday's report was the first for second quarter GDI.

In theory, the two should equal each other, but they don't always. In recent quarters, net exports seem to be the main reason, since they flow directly into GDP but only indirectly into GDI. In addition, GDI more heavily reflects corporate profits than GDP does.

Before-tax corporate profits grew slightly in the second quarter after falling the previous two quarters. The difference between GDI and GDP is more than just academic.

In a Fed paper released last year, Fed economist Jeremy Nalewaik wrote that "real-time GDI has done a substantially better job recognizing the start of the last several recessions than has real-time GDP." Fed officials have even taken notice. According to the Fed's May 2007 meeting minutes, when economic data were giving mixed signals on the economy's underlying state, Fed officials "discussed how best to reconcile the slowdown in output growth over the past year with the relatively strong performance of the labor market."

"This apparent tension could partly reflect measurement issues; in particular, participants noted that the more-rapid gains in estimates of gross domestic income over this period might better capture the pace of activity than the modest advances in measured GDP," the minutes said.

Now that the two measures have flipped with GDI lagging, it seems likely that Fed officials will now take 3%-plus GDP growth with a big grain of salt.

True.  One other thing to consider is how much the weakening dollar is helping GDP by reducing the trade deficit.  Exports are growing rapidly while (real) imports are shrinking.  The real trade deficit (quarterly SAAR) is about a third less than it was a year ago.  That's pretty significant, and definitely accounts for some of the increase in GDP.

In fact, the contribution of net exports to real GDP growth last quarter was 3.1%.

Out of 3.3%.

While I still think that the Fed's next move will be to raise interest rates rather than lower them, I admit to being a little concerned that a rate hike too soon might strengthen the dollar before we're ready.

Mark Thoma has more.

My class was right... including about who the dissenters would be. (Though they actually predicted more dissent, I cautioned them that two was probably the most you'd see in the vote.) Not that this was a particularly hard call. On the surprise meter, today's move by the Fed--from the amount and direction of the change to the dissenters to the apparent shift in stance going forward--barely registers. Indeed, what is there to say that hasn't been said already?

For the record, here is the statement from the Fed:

The Federal Open Market Committee decided today to lower its target for the federal funds rate 25 basis points to 2 percent.

Recent information indicates that economic activity remains weak. Household and business spending has been subdued and labor markets have softened further. Financial markets remain under considerable stress, and tight credit conditions and the deepening housing contraction are likely to weigh on economic growth over the next few quarters.

Although readings on core inflation have improved somewhat, energy and other commodity prices have increased, and some indicators of inflation expectations have risen in recent months. The Committee expects inflation to moderate in coming quarters, reflecting a projected leveling-out of energy and other commodity prices and an easing of pressures on resource utilization. Still, uncertainty about the inflation outlook remains high. It will be necessary to continue to monitor inflation developments carefully.

The substantial easing of monetary policy to date, combined with ongoing measures to foster market liquidity, should help to promote moderate growth over time and to mitigate risks to economic activity. The Committee will continue to monitor economic and financial developments and will act as needed to promote sustainable economic growth and price stability.

Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; Timothy F. Geithner, Vice Chairman; Donald L. Kohn; Randall S. Kroszner; Frederic S. Mishkin; Sandra Pianalto; Gary H. Stern; and Kevin M. Warsh. Voting against were Richard W. Fisher and Charles I. Plosser, who preferred no change in the target for the federal funds rate at this meeting.

In a related action, the Board of Governors unanimously approved a 25-basis-point decrease in the discount rate to 2-1/4 percent. In taking this action, the Board approved the requests submitted by the Boards of Directors of the Federal Reserve Banks of New York, Cleveland, Atlanta, and San Francisco.

There are two very obvious differences between this statement and the last (in addition to a few more subtle variations of the wording that are also consistent with the overall shift but probably not worth obsessing over). Those two obvious differences are that what was

Recent information indicates that the outlook for economic activity has weakened further.

is now...

Recent information indicates that economic activity remains weak.

The interpretation being that we may have "hit bottom," to put it rather bluntly. The other is that the sentence in the last statement...

However, downside risks to growth remain.

... is simply gone. Hard to be more obvious than that.

The inflation paragraph is interesting. There is some acknowledgment of the improvement in the core numbers. Also, the sentence in the last statement,

Still, uncertainty about the inflation outlook has increased.

Is now...

Still, uncertainty about the inflation outlook remains high.

As with the statement about economic activity, the implication is that while there hasn't been much improvement in the level, the first derivative looks better. It's almost as if an academic economist had a hand in crafting it.

Barring any new developments, expect no change in June.

Now, over to the GDP report. James Hamilton's post on the subject is my pick of the day for excellent analysis of the report. To tell you the truth, the GDP figure was pretty close to what most of us were expecting. Most expectations that I saw were in the positive-but-under-1-percent range. Also, it is important to remember that it is subject to revision, so I wouldn't make any big deal out of it beating expectations by a small fraction of a percent. It's what we expected, and it is not particularly good. The difference in economic activity over a 6 month period between growth of 3.5% and growth of 0.6% is a couple hundred billion dollars. Far from pocket change, that amount of lost economic activity in 6 months is roughly comparable to the current annual federal budget deficit.

But is it a recession? No. Not yet, anyway. And though some forecasts show an improvement in the 2nd half of 2008, we're not out of the woods yet. The increase in inventories and the accompanying decline in real final sales is particularly worrisome going into the 2nd quarter. The recovery from this slowdown (if not recession) will take some time.

Here's a link to the new PDF version of the Beige Book. Here's the old html version.

The Wall Street Journal headline is "Beige Book Hints at Stagflation Amid Slow Growth, Prices Pressures"

I'm heading out the door, but I know what I'll be reading tonight.

The news isn't good. The PPI is on the rise. (MSNBC)

WASHINGTON - Battered by bad economic news, consumer confidence plunged while wholesale food, energy and medicine costs soared, pushing inflation up at the fastest pace in a quarter century.

The Labor Department said Tuesday that wholesale inflation jumped by 1 percent in January, more than double the increase that analysts had been expecting.

The next paragraph isn't about inflation, but isn't great either...

Meanwhile, the New York-based Conference Board reported that its confidence index fell to 75.0 in February, down from a revised January reading of 87.3. The drop was far below the 83 reading that analysts had forecast and put the index at its lowest level since February 2003, a period that reflected anxiety in the lead up to the Iraq war.

And on another note, I was revising my homework solutions for my principles of macro course this semester. I always ask students to find the most recent rate of inflation by the CPI (12 month % change). Last semester, the answer was 2.0% at the time I asked the question. The answer now? 4.4%. (4.3% not seasonally adjusted)

Uh oh.

But Martin Feldstein does say this in Wednesday's Wall St. Journal:

The dysfunctional character of the credit markets means that a Fed policy of reducing interest rates cannot be as effective in stimulating the economy as it has been in the past. Monetary policy may simply lack traction in the current credit environment.

As they say, read the whole thing.

Ouch.

Feb. 15 (Bloomberg) -- Confidence among U.S. consumers fell more than expected this month, reaching a 16-year low, as the labor market cooled and expectations about inflation rose.

The Reuters/University of Michigan preliminary index of consumer sentiment decreased to 69.6, the lowest since February 1992, from 78.4 in January.

UPDATE: FRED has not updated their series to reflect today's data, so I have drawn in where the new data point will be. The series has been noisy in the current (I'm still using present tense) expansion. The reader is left to draw his or her own conclusions.

GDP increased by a paltry 0.6% in the 4th quarter of 2007 according to the Bureau of Economic Analysis. But there are reasons to be guardedly optimistic. First, real final sales were up 1.9%. Residential investment may be in the tank but households continue to consume at a steady pace. Obviously the major reasons for the low GDP number were the decline in residential investment and the decline in inventories. The decline in inventories, however, is not all bad. This means that producers may have already been slowing production on the expectation of falling demand. If there are further drops in demand, the adjustment may be smaller and smoother. If a drop in consumption doesn't materialize, production will need to increase to build up the inventories again.

James Hamilton's take on the inventory picture is similar. King Banaian at SCSU Scholars is less optimistic. He notes that the inventory/sales ratio has been in decline for some time and that if this was planned that it doesn't imply a turnaround in the current quarter.

Perhaps not. Perhaps the support provided by the consumer will weaken (but that's what the stimulus is for, right?). This report doesn't give us those kind of answers. We now await the employment report, which, according to some, might be better than you think.

PGL directs us to Kevin Drum. They are both hot under the collar about this from the Washington Post.

New data from the Department of Commerce showed that consumer spending increased 1.1 percent in November compared with the month before on a seasonally adjusted basis -- more than analysts expected and a sign that consumers had not yet been discouraged by rising energy prices and a slumping real estate market.

Incomes also rose in November, by 0.4 percent, double the rate of increase in October, although that was more than offset by increased prices, the department reported. Discounting for inflation, disposable personal income -- the money left to spend after taxes -- fell 0.3 percent.

PGL suggests a shorter version.

Real consumer spending rose by 0.5 percent in November despite a 0.3 percent decline in disposable personal income. With consumption increasing despite the drop in income, personal savings declined.

Yep. Much better.

Drum comments:

What possible excuse can there be for leaving the initial impression that incomes rose in November? Real income is the only income that matters, and real income was down. That's the number that should get the attention.

Indeed. Mark my words. If inflation makes a resurgence in 2008, we are going to have to really be on the lookout for this sort of thing. Inflation makes it all too easy to point to rising nominal spending and miss the fact that real spending (or income) is barely moving.

UPDATE: It's not just the Washington Post. This article on MSNBC (which comes from the Associated Press) does the same thing. It's not any one writer. It's just the fact that these stories follow a formula the reflects the government press release.

That's the problem.

Nonfarm payrolls increased by 93,000 last month. The average for the last 5 months is approximately 99,000. We would certainly like it a little better if these numbers were a little higher. If we need somewhere around 125,000 jobs per month to keep up with population growth, then we are falling behind--albeit slowly, but falling behind nonetheless. What is interesting is that the gains have been reasonably consistent. In the last 5 months, three data points were in the 90,000s, just two outliers--one at 170,000 and one at 44,000. So it's as if the economy is trying to keep growing, but just isn't getting the traction it was getting in 2005 and 2006. We're stuck in neutral, unable to get back into the higher gear.

But at the same time, the labor force participation rate climbed a bit last month, back up to 66.1%--where it was in July. The employment to population ratio is at 63%--also the same as its July level. These numbers had dipped a bit in recent months, so this could be a good sign that there still is some strength remaining under the surface.

Of course employment is a lagging indicator. I wouldn't recommend trying to forecast when a recession will begin by looking at the last month's job growth. But given the preponderance of the evidence this number is not going to be enough to cause the Fed to stop cutting interest rates yet. Not until there's a clearer sign that we've finally let out the clutch and are safely in high gear again.

Productivity is up. (BLS press release)

The Bureau of Labor Statistics of the U.S. Department of Labor today reported revised productivity data—as measured by output per hour of all persons—for the third quarter of 2007. The seasonally adjusted annual rates of productivity growth in the third quarter were:

6.7 percent in the business sector and

6.3 percent in the nonfarm business sector.

In both sectors, changes in productivity are higher than the preliminary estimates published November 7, and represent the largest productivity gains since the third quarter of 2003. The upward revisions to productivity resulted from upward revisions to output—which grew 5.7 percent in both sectors—and small downward revisions to hours, which fell 1.0 percent in the business sector and 0.6 percent in the nonfarm business sector in the third quarter.

Also see the Wall St. Journal.

Does this change anything going into the FOMC meeting? In my estimation, no.

Final sales, especially for durable goods, appear to be stalling out. That's not a good sign. If we weren't waiting for the other shoe to drop on housing and the financial markets, this might be regarded as a decent GDP report. But consumption is likely to contract in the current quarter. The question is, how much?

Chairman Bernanke spoke last night. Here's the full text. Here's the part that made everyone take notice.

With respect to household spending, the data received over the past month have been on the soft side. The Committee will have considerable additional information on consumer purchases and sentiment to digest before its next meeting. I expect household income and spending to continue to grow, but the combination of higher gas prices, the weak housing market, tighter credit conditions, and declines in stock prices seem likely to create some headwinds for the consumer in the months ahead.

In the very short run (like, say, the next couple hours), no. Wall St. Journal story on GDP here. The stock market, quite predictably, rallied a bit. However, it has not moved anyone seriously off of their expectations of a 25 b.p. rate cut. So, if your immediate thought was that this might buy the Fed a way out, I have to say that I don't think it's any easier. In a perfect world, expectations might have been more balanced coming into today and then this data could have tipped the balance towards doing nothing. I might wish that was the world we live in, but it's not. Felix Salmon has more.

On the fundamental question of what the Fed should do--taking everything, including expectations, into account--I'm left with the opinion that while it would be a courageous statement of principle to do nothing (and part of me really wishes they could), I think it might be too risky given the somewhat fragile state of the market. I'm really holding my nose as I say that because I don't like the idea of the Fed being pushed into doing something. But in some sense you also have to play the hand you are dealt...or the hand you dealt yourself... or something.

Commenter Kevin writes:

I think Ben's Fed has really tried to stay away from any commitments about the path of future policy moves. So I think your suggestion that they say that this will be the last cut is a nonstarter. However, what I do expect would be more guidance about the conditions for any changes - which may include taking back the rate cuts (imagine that!).

First, a clarification. When I made reference to them saying that this would be the last cut, I was using some verbal shorthand at the end of a long post (in a three part series!) Of course they will not say it in so many words. They can "say" it in their assessment of the risks to growth and inflation. It's easy to come up with some wording that would say that they are going to have a "neutral bias" (though that language is itself somewhat passé). Whether one could make that language credible is another matter.

So then what about some guidance about the conditions for any changes? Not yet, not in any formal way. That could potentially end up being part of the new communication strategy that the Fed is discussing. But not yet. And they are certainly not going to say anything today about when these cuts are going to be taken back. Not a chance. Personally, I'd like to see that guidance too. I think one could make a credible case that if 4th quarter GDP growth is above X and if average monthly job growth stays above Y and if core PCE stays below Z, then they could raise the funds rate in January or March. But they certainly aren't going to tell us X, Y, and Z (or whatever other indicators would come into play). And I really don't think you're even going to get much of a hint yet. I think the best we can hope for is a strongly worded statement that growth is stronger than anticipated, that the housing problems have not yet spilled over into the broader economy, and that the magnitude of that spillover may be less than anticipated. Furthermore, firms are getting squeezed by higher input prices. While that has not yet passed through to final goods prices, the weaker dollar is going to put more pressure on firms to raise prices. (Except that the Fed will not talk about the weaker dollar, but you get the idea.) Make it so we expect that at least 25 basis points will be taken back if this strength continues. That way, if the 4th quarter ends up being only slightly weaker, they could still get by with holding steady in December and January.

It's almost time.

The decline was more than expected. (Reuters)

NEW YORK (Reuters) - Consumer confidence declined for the third month in a row in October to its lowest level in two years on growing concerns about weakening business conditions and the impact that could have on the job market.

The Conference Board said on Tuesday its index of consumer sentiment fell more than expected to 95.6 in October down from a revised 99.5 in September. The median forecast of economists polled by Reuters was for 99.0 in October.

From Bloomberg:

Oct. 25 (Bloomberg) -- Orders for American-made durable goods unexpectedly fell, led by a slump in military equipment that overshadowed increases in business investment.

Demand for cars, planes and other items made to last several years fell 1.7 percent in September, the Commerce Department said today in Washington. At the same time, orders for and sales of computers and machinery, a proxy for capital spending, advanced.

``Manufacturing will have slow-but-steady growth through the end of the year,'' said Adam York, an economist in Charlotte, North Carolina, at Wachovia Corp., which had forecast orders would decline in September. The drop in total orders was ``not quite as weak as the headline suggests.''

Record export demand will keep manufacturing growing, helping prevent the housing-market recession from sinking the broader economy, economists said. The gains in business investment prompted Morgan Stanley and Macroeconomic Advisers LLC, a St. Louis-based research group, to lift their estimates of third-quarter growth.

Macroeconomic Advisers, headed by former Federal Reserve Governor Lawrence Meyer, increased its calculation of growth last month to 3.3 percent, from 3.1 percent. Morgan Stanley adjusted its estimate to 3.5 percent, from 3.1 percent.

The falling dollar is keeping the export market going. The decline in military spending in September could be due to the end of the budget year or just the vagaries of war spending. That investment remains strong is quite impressive. For the rest of 2007 I think we're going to see very uneven performance as certain sectors struggle due to the decline in housing while others respond positively to strong global demand.

King Banaian made a good point along these lines a few days ago.

A local friend reported to me that someone spoke in a meeting of business leaders rather negatively about my writing on the local economy. Basically that I don't know what I'm talking about. Someone responded to him that at least sectorally there are problems stemming from housing. My friend reported that, afterwards, several people came up to him and the guy who spoke back to the critic saying "doesn't he know there are people really hurting out there?"

"Is your firm hurting?" I asked.

"No, we're fine," he replied. "But I know others who are in big trouble."

And so in today's environment, perhaps more than business managers are used to from past experience, sectoral recessions may not lead to overall declines. But when people see a recession in one sector it makes them think that everyone is suffering the same fate... except (perhaps) them.

That said, the size of the decline in housing reported yesterday had me saying, along with Brad DeLong, "GURK!"

The Philly Fed is upbeat.

Activity in the region’s manufacturing sector picked up in September, according to firms polled for this month’s Business Outlook Survey. Indexes for general activity, new orders, and shipments increased, reflecting continued underlying growth. Firms continued to report a rise in prices for inputs, but price increases for finished manufactured goods were not widespread. On balance, the forecast for growth over the next six months has not diminished appreciably, even though, according to responses to special questions this month, over one-quarter of the firms said they are scaling back employment and capital spending plans because of the recent deterioration in the construction industry and uncertainty in financial markets.

...

Respondents continue to report higher prices for inputs this month. The prices paid index increased eight points, after edging lower in the previous three months. Thirty percent of the firms reported higher input prices; 7 percent reported lower input prices.

Less than 10% of firms surveyed expected a substantial decline in employment or capital spending as a result of recent developments.

I think I just heard a bond price drop. The 10 year yield stands at 4.63% and climbing.

It's probably a good thing that the determination of a recession is not subject to a majority vote.

Via Reuters:

NEW YORK (Reuters) - Just over two-thirds of Americans believe the country is either already in recession or headed for one over the coming year, according to a new poll conducted jointly by The Wall Street Journal and NBC.

Nearly half the survey respondents, 46 percent, believed a recession was already under way.

The conviction comes despite a 3.4 percent rebound in economic growth during the second quarter, according to Commerce Department data released last week.

A recession is generally defined as two consecutive quarters of declines in gross domestic product.

Turning points in the economy are notoriously difficult to predict. In 2001, many Wall Street and government forecasters waited until growth had already turned negative before acknowledging a period of contraction.

Can we lose the definition of "two consecutive quarters of declines in GDP"? By that definition, we didn't have one in 2001. What we had was three quarters of negative growth, but they were every other quarter. One down, one up... one down, one up.... one down, one up. Definitely a recession, there's no question about that. But the standard textbook definition is obsolete.

Likewise, even though the most recent quarter posted growth above 3% doesn't mean that this is a trouble-free economy. Just about everyone acknowledges that growth for the rest of 2007 will be weaker, perhaps significantly weaker. If we have two quarters of growth around 1%, will it feel like a recession? Perhaps in many ways, yes. Would it meet the textbook definition? No.

This is not your father's economy, and the textbook definitions that worked in the '70s and '80s to explain the malaise of the time are not applicable now. We need to get out there and educate the next generation as to the subtleties of economic statistics, lest they become disillusioned that economists and the media are out of touch with their textbook definitions from the '70s.

At least we don't wear bell-bottoms.

After reading the latest GDP news, I went poking around the CBOT website to see how things were going on the futures market for fed funds. One thing caught my eye. Shortly before noon today, there was a posting of a trade of 500 Fed Binary Options for December 07. Specifically, they were call options with a strike price of 94750. The trade was completed at a price of 41 ($410 per contract). That is the only open interest on that contract so far.

Here's what this means. A long position in this contract receives $1000 per contract if the fed funds target is less than 5.25% (the prevailing rate today) on the day after the December 2007 FOMC meeting. Essentially, two parties were able to agree on a bet that effectively indicates a subjective probability of a rate cut by December at 41%.

In case you're interested, the latest prices for similar options maturing in August, September, and October are 9, 20, and 28 respectively.

The more traditional 30 day futures on fed funds were broadly higher as well, though yesterday's moves in light of the continued housing difficulties were larger. Today's GDP numbers seemed to reinforce yesterday's news. September contracts on the IEM have not started to move much yet. We'll keep in eye on that.

It will indeed be interesting to watch the binary options on the CBOT in the coming weeks. Keep it tuned right here for the coverage.

Click to enlarge the chart.

Real GDP grew at a rate of 3.4% in the 2nd quarter of 2007, according to the Bureau of Economic Analysis. The Wall Street Journal has an article as well as reaction on their economics blog. Behind the headline number, which sounds pretty good (most of us would regard 3 to 3.5 percent as being consistent with the growth of potential GDP), there are a couple of areas of concern. Foremost in the minds of many economists is the fact that personal consumption, which accounts for 70% of GDP only grew at a 1.3% rate. In the last 3 years, only the 4th quarter of 2005 was lower (1.2%). The weakness in the housing market likely accounts for some of the drop in the growth of consumption, which causes many to worry that soft consumption growth could continue for the rest of 2007.

Also, for the first time since 2003, imports decreased for the quarter. At a very basic level, imports can be an important indicator. In the 3rd quarter of 2000, imports began to fall and did not turn up again until the first quarter of 2002. The 2003 drop seemed to be a one off event that did not presage a recession. Hence, this drop does not immediately set the recession alarms ringing. However, if we had two consecutive quarters of imports falling, I would be much more concerned.

Government contributed 0.82% to GDP growth, which is on the high side of where it has been for the last few quarters.

The strength of the economy right now is clearly in the non-residential investment market. I see evidence of this anecdotally wherever I go as well. Spending on non-residential structures increased at a 22% rate--the highest in years. That pushed overall investment spending to its highest growth rate since the first quarter of 2006--even while the housing slump was putting downward pressure on the number. Neither the government spending, nor non-residential investment spending are likely to continue at this rate for an extended time. Unless there is a tremendous bounce-back in consumption, GDP growth for the rest of 2007 is likely to be below 3%, probably in the high 1's or low 2's.

I always find the chart at the top of this post useful. It shows the contributions of the various components of GDP to the overall growth rate. For the first time in a long time, every major component was on the plus side. That doesn't happen often, and some aspects of it do not bode well. My subjective probability for a rate cut by the end of 2007 just increased considerably. More on that later.

UPDATE: James Hamilton is thinking along the same lines. He also does a chart of the contributions to GDP. His includes residential investment as a category. His recession probability index is up to 26.2%, even with the relatively strong overall GDP number. All of this just goes to show that it's not just the overall number. You've got to look at the individual components. It's 3.4%, but it's a pretty ugly 3.4%.

If you liked this one, you'll enjoy the sequel.

Hat tip to Felix Salmon.

Here is the full report from the BEA. Real GDP increased at an annual rate of 1.3%. Most of us were expecting less than 2%, but few expected something this low.

The short version is that housing is the main negative component and consumer spending is the main positive component. In fact, consumer spending continues to defy the expectations of many, contributing 2.66% to the overall growth rate. Nonresidential investment contributes a small 0.21%. Residential investment subtracts almost a full percentage point (0.97%). As King (SCSU Scholars) points out, this is less than its impact in the 4th quarter--and I would add, the 3rd quarter. Inventories and net exports also shave a bit off the overall total.

To be sure, this number was a little lower than I expected, but not much. I was not looking for anything near the 2% that was the top of the range given by some analysts. While I don't think it's time to call recession yet, it does make me wonder how long consumption can hold up in the face of the declines in residential investment.

I concur with some of the voices in the blogosphere today. King Banaian also writes:

Worth noting: When this number is revised (and there will be two such revisions) the trade figure is the one that changes the most. So I expect this GDP estimate to be rather volatile to trade revisions.

Bill Conerly says, "No panic." Barry Ritholtz points out that the PCE deflator is up 3.4% (from a 1.0% drop in the 4th quarter). This is enough to get my attention and cause me to doubt that inflation is coming under control as quickly as we thought. No doubt the Fed will be concerned about this. Ritholtz says that this is why you aren't hearing any "rate cut" chants. Kash is more pessimistic, saying that this is a yucky report. I wouldn't go that far. But it is definitely concerning. I can't just shake this one off and forget about it.

(NY Times and WSJ articles.)

UPDATE: PGL isn't pleased with the long term prospects either.

UPDATE 2: James Hamilton has two posts that hit the mark. He sees the strength of consumer spending as evidence of consumption smoothing behavior in the face of a temporary drop in the other components of GDP. That's the story I'm going with for now.

Ok, this is one of the best animated graphs I've seen in a while. Play with it. You can change the variables on the axes. It was created by the Gapminder Foundation. I will definitely use this in my classes when I need to illustrate economic growth.

Hat Tip: Division of Labour

Political Calculations has a tool to calculate the annualized percentage change in the S&P 500 with or without dividend reinvestment and, if you like, adjusted for inflation. Very nice.

Hat tip: Newmark's Door

This time, it comes from Ed Leamer, who is worth listening to: (Reuters)

SAN FRANCISCO (Reuters) - The U.S. economy will expand at a weak pace next year, setting the stage for lower interest rates, according to a UCLA Anderson Forecast report released on Thursday.

The forecasting unit's latest report projected quarterly real gross domestic product growth no higher than 2.7 percent next year, reflecting the weak housing market.

...

As a result, the Federal Reserve will cut interest rates to stimulate business, said Edward Leamer, director of the UCLA Anderson Forecast.

"We think the Fed will shift from an inflation concern to a sluggishness concern so that we'll get some rate cuts," Leamer said, adding that he sees the Federal Funds rate falling to 4.5 percent by the fourth quarter of next year.

...

Manufacturing has already shed so many jobs it is in no position to produce the kind of massive layoffs that paired with a housing downturn would trigger recession, Leamer added.

"We've trimmed it to the bone," Leamer said, referring to factory work. "It's already lean and mean."

Additionally, the economy will avoid recession because credit is abundant and consumers will continue spending at a moderate pace, Leamer said.

Interesting. Their prediction of moderate growth (2.7%) is certainly less than average, but equally certainly not indicative of a recession. It is quite similar to the GDP growth in 1995 (a "soft landing" year). And while there were two rate cuts in 1995 (and one more in early 1996), those cuts were to bring the funds rate down to 5.25%. Ironically, that's where we are now. So, while I'm not ready to predict three rate cuts in 2007 to bring the funds rate down to 4.5%, I would say that the UCLA forecast is in the ballpark.

Given all that has transpired in recent days, I would regard a rate cut in the first six months of 2007 to be more likely than a rate increase in that same time frame. That said, I continue to hold to the view that a rate cut at this time would slow the return of core inflation to its comfort zone. The fact that productivity is not growing as fast as it was in the first half of the year and that Mr. Bernanke has suggested that potential output growth may be slowing only serve to reinforce that view. Unlike 1995 and 1996 when productivity was rising rather than falling, the Fed will not have the luxury of cutting rates while inflation trends down.

The part of me that wants to give a prediction that is right is turning to the view that there will be at least one rate cut in 2007.

The Cassandra in me is having a tough time with that.

UPDATE: Calculated Risk quotes the LA Times version of the story, which includes Leamer quotes such as:

"If you are a builder or a broker, it will feel like a deep depression," he said. "But the rest of us will hardly notice."

and...

His conclusion: "The models say 'recession'; the mind says 'no way.' I'm going with the mind."

UPDATE 2: Leamer isn't alone. At least some people's models agree with his mind.

NEW YORK (Reuters) - The economy will likely pick up in 2007 after output growth slows rapidly in late 2006, according to a survey conducted by the Philadelphia Federal Reserve Bank released on Thursday.

Economic growth for 2008, released for the first time in the survey, was forecast at 3.0 percent.

Economists lowered their forecasts for U.S. growth in the first half of 2007 to 2.8 percent from 3.0 percent when the previous survey was taken six months ago. They forecast growth at 3.1 percent for the second half of 2007.

This month's fedgazette from the Minneapolis Fed features poverty as its theme. There are a number of interesting articles that are worth your attention. In this post, I call your attention to one in particular on income mobility--the ability of individuals and households to move through the income distribution over time.

Income mobility is one of those things that we like to talk about and make claims about. We like to hear stories of "rags to riches", but how often does it really happen? It turns out that we understand relatively little about mobility from a statistical standpoint. Ronald Wirtz writes in the fedgazette article,

Bhashkar Mazumder, an economist at the Federal Reserve Bank of Chicago, has authored several mobility studies in recent years. He said, also via e-mail, that prevailing mobility research throws water on the common notion that U.S. income is highly mobile and more mobile than other countries. More recent studies, like his own, have used much richer longitudinal data that track income over longer periods of time, giving a more accurate reading of lifetime incomes in the United States. Research over the past decade and a half shows that “mobility is relatively low in the U.S. and lower than we thought,” said Mazumder.

...

Nathan Grawe has also done research on income mobility as an economics professor at Carleton College in Minnesota. In his estimation, the four best studies done to date on intergenerational mobility have both positive and negative findings, and most results were not statistically significant; in other words, the findings aren't particularly trustworthy. “All told,” Grawe said via e-mail, “I'd say we have no evidence of change.”

Part of the problem is that studies done before about 1990—which generally concluded that the United States had high mobility—are widely discredited today as faulty, mostly because they relied on very small windows of income data, often just a few years or less. In 1992, Solon published one of the first papers suggesting that U.S. mobility was not as high as everyone thought.

Mazumder's research comes to the same conclusion. But his most recent effort with Daniel Aaronson (also of the Chicago Fed) might have something of a silver lining. They found that current mobility might simply be returning to its historical trend line after experiencing an uptick in the 1970s. In other words, mobility might be worse compared to the 1970s, but it might well be in line with the country's historical average.

Obviously, a lack of longitudinal data going way back will remain a problem. Maybe in fifty years we'll be able to put the current period in historical perspective. Too long for some. You know what Keynes said about the long run. While the evidence here is conflicting and the conclusions not quite conclusive, the situation is better than that concerning the question of how much mobility is optimal.

The notion of perfect mobility—an equal chance for any outcome, regardless of where you start—has a hint of social and economic chaos, by virtue of the fact that it implies a lack of predictability in outcomes regardless of the very things that families and societies tend to value: effort, ability, education and other human capital investment, and parenting.

Economists believe incentives motivate behavior. Grawe, from Carleton College, noted that mobility research was often written “in ways which suggest more mobility is better.” But a society with no obvious determinants for income “would clearly have all sorts of incentive problems.”

For example, parents' attempts to offer certain advantages to their kids—reading to them, sending them to better schools, saving for college, transmitting certain values—might be for naught in a world where these things have no lasting economic effect. In a 2002 working paper on the notion of perfect mobility, sociologist Adam Swift of the University of Oxford wrote, “Even those that regard current mobility patterns as evidence of morally unacceptable unfairness should acknowledge that some mechanisms by which parents transmit advantage—or disadvantage—to their children are unobjectionable and would exist even in an altogether just society.”

In other words, there is no clear guidance at all on how much mobility is optimal or even what we mean by optimal mobility. One cannot escape the fact that mobility requires an appeal to long run incentives, but people do not always behave in accordance with those long run incentives. Hence, a divergence between opportunity and outcomes is assured. This is the world in which we live. And this is why the solution to the problem of income inequality is more difficult than many people realize.

3rd quarter real GDP grew at a 1.6% annualized growth rate. King asks how bad this really is and says that it's pretty bad, but not as bad as some will make it out to be. Brad DeLong says, "Gork!" Nouriel Roubini pats himself on the back for an excellent forecast. And he goes on to say:

What do these Q3 growth figures imply for Q4 and 2007 GDP growth? Expect today the usual spin with the soft-landing optimists – who were altogether wrong on Q2 growth and even more wrong on Q3 growth – having already started to spin the fairy tale of a Q4 rebound. This Q4 rebound has, so far, no base or data behind it: residential investment will be falling at a faster rate in Q4 than in Q3 given recent data on building permits and housing starts; non-residential investment that was, until now, growing very fast will sharply decelerate in Q4 and much more in 2007: see the lead story in the WSJ today referring to a McGraw Hill Construction study forecasting a rapid fall in construction spending in 2007 (including non residential construction and specifically stores and shopping centers), the first decline of construction spending since 1991.

No spin here. I do admit to being more optimistic than Roubini, but even so I am open to letting incoming data refine my position. I do not predict a 4th quarter rebound. Even if this is something approximating a soft landing, we're not out of the woods yet. Looking at the contributions of the different components of GDP to the overall growth rate, I cannot see any reason to expect anything much over 2% for the 4th quarter even under the best of circumstances. I would not be surprised with a number between 0.5 and 1.5%. Less than 0.5% would surprise me but not shock me. Residential investment will continue to be a drag on GDP, no argument there. However on the plus side, retail sales are continuing at a decent pace. Inventories are basically unchanged suggesting that firms still have some pricing power and consumers haven't yet let the housing slump get them down. Unless something suggests that the bottom is in the process of dropping out as we speak, I don't see 4th quarter GDP to be markedly worse than the 3rd.

Tim Duy makes the following observation:

Also, there is a reasonable chance that investment spending is held back by the delayed launch of Windows Vista. And note this from Bloomberg:

Norfolk Southern Corp., the fourth-largest U.S. railroad, boosted freight rates, helping third-quarter profit increase 38 percent. Sales rose 11 percent.

''Overall, we don't see any drastic slowing of the entire economy,'' Norfolk Southern Chief Executive Officer Charles ``Wick'' Moorman said in an interview. ``We think that pricing power will stay with us for a while.''

I pay attention to what the rail barons say – they generally have a good sense of economic activity.

Indeed. So while an actual prediction of a recession may be a bit premature, there are still many uncertainties that cloud the picture as we move from winter into spring. I will be paying close attention to the holiday spending figures. But interpret the early numbers with caution. The day after Thanksgiving isn't what it once was. Internet shopping peaks in mid-December. Some internet shoppers have already been at work (propping up 3rd quarter consumption?). This article on the subject is a year old, but probably still a good guide to what to expect.

The bottom line is that we are probably in for two or three quarters of below average growth. The 1995 soft landing was harder than what we have experienced so far--a fact that hasn't been mentioned much. By no means would I predict a reversal of the current trend and a return to 3+% growth yet. This report probably didn't surprise anyone at the Fed, nor would a slightly worse report in the 4th quarter. These figures support the position that pausing when they did was probably the right thing to do, but do not give any clarification about what is to come next (i.e. which will come first, a cut or an increase in rates). Staying the course still seems like the best option.

In closing, I point out a report that I have not seen getting a lot of play yet. From Bloomberg:

Oct. 27 (Bloomberg) -- An unexpected increase in auto production last quarter was a statistical fluke that will be reversed, making current U.S. economic growth even weaker, according to a former Commerce Department economist.

Last quarter's annualized 26 percent increase in motor vehicle production shocked Joe Carson, now director of economic research at AllianceBernstein LP in New York. Without the gain, the economy would have grown at an annual rate of 0.9 percent, not the 1.6 percent the Commerce Department reported today.

The reported increase in output came despite cutbacks announced by General Motors Corp., Ford Motor Co. and others. A drop in the wholesale price of SUVs and light trucks as the automakers cleared leftover 2006 models made production look stronger than it actually was, said Carson. The economic fallout from the auto-industry cutbacks will instead come this quarter, he said.

``Last quarter was weak even with the benefit of this mismatch and the fourth quarter will now also be weak because it's going the other way,'' Carson said. ``Whatever output you have this quarter, which will probably be down, will be discounted by a likely rebound in prices.''

Carson stressed that there wasn't an error in procedure requiring a correction from the government. It's the way the Commerce Department always computes the data and doesn't mean the statisticians committed any mistakes, he said.

Adjusting For Prices

The mismatch can be explained by looking at how the government adjusts the figures for price changes.

Commerce Department economists use wholesale light truck prices, from the Labor Department's producer price report, to eliminate the influence of inflation on investment and inventories for that category. A 5.5 percent drop in price of SUVs and other light trucks last quarter made output look stronger when adjusted for inflation, Carson said.

Declines in shipments of vehicles and parts from the Commerce Department's durable goods report over the last three months and in the Federal Reserve's output numbers in its industrial production figures, reinforce forecasts that the fourth-quarter growth numbers will show the auto cutbacks, Carson said.

Read the whole thing. Chain weighting looks at the percentage changes in constant dollar GDP for adjacent periods. So if firms cut prices to get rid of inventories, it would show up as higher growth in GDP from the production period to the sales period than if prices didn't fall. The size of the influence on overall GDP growth is larger than I would have thought, but I'll take their numbers at face value. How much it affects the 4th quarter depends on the slowdown in production. We shall see. But it's just one more thing to keep in mind going forward.

Via Reuters:

The Labor Department said a seasonally adjusted 299,000 workers filed new claims for state unemployment insurance benefits in the week ended October 14, down from 309,000 claims a week earlier.

Economists polled by Reuters were expecting a slight increase in jobless claims to 312,000 from an original reading of 308,000 in the week ended October 7.

Separately, the Conference Board released its index of leading economic indicators today. From their website:

The Conference Board announced today that the U.S. leading index increased 0.1 percent, the coincident index remained unchanged and the lagging index increased 0.2 percent in September.

and...

The leading index has fallen 1.0 percent below its most recent high reached in January. At the same time, real GDP growth slowed to a 2.6 percent (annual) rate in the second quarter, following a 5.6 percent gain in the first quarter. The behavior of the leading index so far suggests that economic growth should continue at the slow rate in the near term.

According to the Wall Street Journal, analysts had expected a 0.3% increase in the leading economic indicators. So once again the news is mixed. Overall, it appears that the economy is slowing a bit. Growth for the remainder of the year will probably remain below average, but there is no indication yet of a full-blown recession.

Taken as a whole, this week's data releases leave us pretty much where we started. If there were only a couple pieces of conflicting evidence, it would be more puzzling. The preponderance of conflicting signals reinforces what most of us have been thinking for a while. For the past few months, indeed most of this year, the economy has been slowly inching toward a critical point where either growth will slow (perhaps briefly turning negative) or resume at a more normal pace. That's a good argument for not doing anything to rock the boat at the moment.

UPDATE: On Tuesday, I admitted that the mixed bag of data makes it impossible for me to be Harry Truman's "one-armed economist". Today, James Hamilton also cannot avoid saying "on the other hand."

I'm wondering though whether "no change" might be the least likely outcome at this point. If we start to see some serious financial repercussions develop in housing, I'd look for a rate cut, and wouldn't worry in that event about commodity prices, since I would expect to see commodities fall sharply on news of a big downturn in economic activity. On the other hand, if instead we have seen the bottom for housing and the core inflation numbers remain this high, I'd look for the Fed to tighten further.

That is the direction the data has been pushing me as well. Unlike Kash, who seems more convinced than I that we've reached a peak (though he does leave some room for doubt), I see the upside and downside risks as roughly equal.

It might be that the upcoming 3rd quarter GDP data could be the news that gives us a clue as to which way this will break. It probably won't be the overall growth rate (which is likely to be positive but below everage), but the different subcategories of consumption and investment that will tell the story. At least until that point, I'm prepared to use both hands when explaining where the economy seems to be going, and what direction interest rates might take in 2007.

UPDATE 2: David Altig finds himself in general agreement and is almost ready to take the next step--but not quite.

But, for reasons I'll detail in a later post, I'm beginning to wonder about the reach of developments in [the housing] sector. I'm not quite ready to take the anti-Roubini bet with the degree of confidence that Nouriel himself puts on his recession call. But I'm getting there.

Absent any additional negative shocks, I would agree. I'm not quite ready to call it a soft landing yet, but I too am getting there.