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Q2 2010 U.S. GDP: U.S. Economy Slowing to a Stall
By Prajakta Bhide and Christian Menegatti
Revised estimates from the U.S. Bureau of Economic Analysis (BEA) showed that the U.S. economy grew 1.6% q/q in Q2 2010—well below the advance estimate of 2.4%. The revision reflects lower-than-expected inventory accumulation. However, growth in final sales—GDP less inventory accumulation—was also revised down to 1% from the advance estimate of 1.3%, due to a sharply wider trade deficit. The upward revision to consumer spending, while welcome news, offers little consolation, as a 2% q/q pickup is still anemic. While the lower inventory accumulation in Q2 2010 means a cushioning of the expected drag from inventories in Q3 2010, the advance indicators for Q3 suggest even slower growth, given the sharp collapse in residential investment, weaker consumer spending and a clear slowdown in manufacturing activity and business investment.
A Review of the Data
The revision to the preliminary estimate of U.S. GDP from the BEA showed that in Q2 2010 the U.S. economy grew at 1.6%, rather than the 2.4% shown in the preliminary estimate. The sharp pickup in inventory accumulation in the Q2 2010 advance estimate, which showed a 1.05% contribution to growth, had surprised us to the upside. The revised estimates for GDP indicated a slower pace of inventory accumulation than earlier estimates, with a 0.63% boost to GDP growth. The downward revision indicates that the inventory cycle will be less of a drag on GDP growth in Q3 2010 or may provide a small boost to GDP growth in that quarter. However, the cyclicality of inventories notwithstanding, what is more concerning is the downward revision to final sales, a measure of aggregate demand minus the effect of inventories. In Q2 2010, final sales grew at an even more anemic pace of 1% q/q from 1.1% q/q in Q1 2010, sapped by deterioration in net exports. After peaking in Q4 2009 at 2.1%, final sales have been trending downward, making this recovery look much more anemic than the previous four.
Figure 1: Real Final Sales (GDP Less Inventories)
Source: U.S. Bureau of Economic Analysis and RGE Computations
The sharply weaker incoming monthly data on the trade balance—following the advance Q2 2010 GDP estimate—showed that a downward revision to growth was imminent, but the revision to net exports was eye–popping. Revised estimates now indicate that in Q2 2010 imports soared by a massive 32.4% q/q, while export growth was significantly slower at 9.1%. This caused the trade deficit to subtract 3.37% from headline GDP growth—the largest negative contribution in over six decades. Going forward, the termination of the inventory cycle and the slowdown in manufacturing activity will provide some respite to imports in Q3 2010.
Consumer spending in Q2 2010 was revised to show 2% growth (compared to an advance estimate of 1.6%) after a 1.9% growth rate in Q1 2010. While this is certainly a positive development, we take it with a grain of salt, as advance indicators of consumer spending already suggest a weaker pace in Q3. On a encouraging note, the slower pace of consumer spending in Q3 2010 could also help temper the boom in imports, alleviating some of the stress from net exports.
Business fixed investment proceeded at a robust pace in Q2 2010. Spending on equipment and software grew 24.9% q/q. This was revised upward from the advance estimate of 21% and represents the fifth consecutive quarter of growth in spending. Meanwhile, though revised data indicated that spending on non-residential structures flattened in Q2 2010 for the first time since Q3 2008, the downward revised gain of 0.4% q/q was significantly below the advance estimate of 5%. While we expected continued growth in business spending, gains in spending on equipment and software will be tempered in coming quarters. Advance data on core durable goods orders indicate a softening in Q3 2010, which does not come as a surprise, given that growth in final demand—which will drive investment plans—remains very weak.
Meanwhile, residential investment grew by 27.2% q/q in Q2 2010, a sharp quarterly gain reflecting the surge in housing activity driven by the first-time homebuyer tax credit, particularly as the extension of the credit had boosted the demand in the new homes segment. The temporary jump in Q2 2010 will give way to a sharp correction in residential investment in Q3 2010—already evidenced by the complete post-tax credit collapse in housing construction.
In conclusion, the revisions to growth indicated that at a rate of 1.6% q/q in Q2 2010, the slowdown that we had initially expected to start in H2 2010 has arrived even earlier. Also, although the improvement in consumer spending was positive, advance retail sales data suggest that consumer spending is off to a weaker start in Q3 2010. Residential investment was clearly a temporary jump and will be a significant drag on growth in Q3 2010. Finally, spending on equipment and software has moderated in Q3 2010. Meanwhile, while we expect the drag from net exports to also lessen in Q3 2010—following the sharp deterioration during Q2 2010—trade will continue to subtract from growth. And while government spending turned positive in Q2 2010, it will be a drag on growth over coming quarters, particularly given its weakness at the state and local level.
An update to our forecasts for the U.S. economy is available here: "Approaching a Dangerous Stall Speed."