The Bureau of Economic Analysis rates 3rd quarter GDP with a preliminary estimate of 2.0%, an increase from the previous quarter but not the kind of economic growth normally associated with reducing the unemployment rate in rapid fashion. GDP in the second quarter increased 1.3%, so this represents an acceleration on growth, albeit a modest one. This is a first estimate; the second estimate with more complete data is due next month.
What added to GDP in Q3? Consumer spending (particularly durable goods, which shot up) and residential fixed investment, the two areas for which we’ve seen positive indicators of late. Exports and private inventory investment dragged on growth in Q3. In other words, the GDP statistics show the same dichotomy between consumers and businesses that we’ve seen in all other leading economic indicators recently.
Government spending at the federal level, needed if you have business investment and trade, two of the other leading inputs, down, actually ticked up in the third quarter, but being the end of the fiscal year, I wonder if that just represents a normal seasonal rush to spend out budgets. Indeed, the biggest change was a 13% increase in defense spending, which certainly looks like an end of the fiscal year rush. State and local government spending still detracted from GDP, but at a much smaller rate than we’ve seen at any point since 2009.
The GDP estimate included an estimate of slightly higher inflation relative to the second quarter, but still a totally manageable increase of 1.5% (1.3% ex-auto and food), within the ceiling of 2% that the Fed has built for a while now.
The real question on GDP in the future is whether Congress will snap back federal spending, the key input given the trajectories of everything else contributing to GDP, to the extent of hampering growth. They can do this even separate from the more celebrated fiscal cliff actions. The expiration of the payroll tax cut alone could remove as much as 1% from growth next year, and really any near-term deficit reduction that hits in 2013 would present a problem. Under the current trajectory, that would cut growth in half. If you think that growth is accelerating in consumer spending and housing enough that we get a trend level of growth, around 3%, decreasing 1% from government fiscal cutbacks puts you back at the current level, which is not associated with rapid decreases in the unemployment rate.
“If you get all three and no offsetting stimulative measures you knock around 1.2 [percentage points] from growth and add perhaps 0.6 [percentage points] to the unemployment rate,” says Dean Baker, cofounder of the Center for Economic and Policy Research. “In a baseline, with no bad news from the government we might have expected to see 3.0 percent growth next year (housing comeback is the good news here) and perhaps a 0.4 [percentage points] drop in the unemployment rate. These three together get us down around 2.0 percent growth and basically no progress on unemployment.”
That’s based on what economists call Okun’s law — a rule of thumb that allows them to estimate how changes in GDP will impact employment. The estimates don’t take into account that certain budget cuts hit the economy harder than others.
Relying on Congress to do the right macroeconomic thing almost ensures choppy waters ahead for the economy.