The latest gross domestic product (GDP) numbers confirm that the U.S. economy remains mired in slower-than-desired growth despite recent signs of progress in some data points. Real GDP grew just 1.2 percent in the second quarter, well below the consensus estimate of 2.6 percent, with first quarter growth revised down to 0.8 percent. This release reflects a rebound in consumer spending, but there were significant drags on activity from fixed investment and inventories. Indeed, manufacturers and other business leaders continue to be quite cautious, and as a result, they are holding back on capital spending and hiring, waiting for better signs of traction in the economy.
The U.S. economy has averaged 2.2 percent growth annually since the end of the Great Recession, and with this release, real GDP is likely to expand by 1.8 percent in 2016. That would, however, suggest a better second half of the year, as real GDP grew just 1.0 percent at the annual rate in the first half. With that in mind, we need policymakers – especially in this all-important election year – to focus on pro-growth measures that will spur stronger activity.
Disappointing economic growth will also make it harder for the Federal Reserve, which would like to continue on its path toward normalization. With better data, the Federal Reserve might have increased short-term interest rates at its September meeting. That might still happen, particularly if other indicators reflect healthier progress in the economy, but today’s GDP report would likely diminish that prospect, increasing the likelihood of the next rate hike to December or perhaps 2017.
Looking more closely at the second quarter data, consumer spending was a bright spot in an otherwise disappointing release. Personal consumption expenditures on goods jumped by an annualized 6.8 percent in the second quarter, its fastest quarterly pace in two years, with durable goods rebounding strongly, up by 8.4 percent. This was a vast improvement from the first quarter, when it was clear that Americans were holding back somewhat in their spending. Overall consumer spending, which includes goods and services, expanded by 4.2 percent in this report, and the category contributed 2.83 percentage points to headline growth. The other positive contributor was net exports, which added another 0.23 percent to real GDP in the second quarter. Goods exports rose 2.7 percent in the second quarter; in contrast, goods imports fell by 0.9 percent.
As such, consumer spending and net exports alone would have given us growth just over 3 percent. Instead, the headline number was 1.2 percent, suggesting that there were notable drags pulling that figure lower. The bulk of that drag came from gross private domestic investment, which subtracted 1.68 percentage points from the bottom line, of which 1.16 percent came from slower spending on inventories. Fixed investment decreased 3.2 percent at the annual rate in the second quarter, falling for the third straight month. Nonresidential spending on structures (down 7.9 percent) and equipment (down 3.5 percent) continued to decline, with the former lower in six of the past eight months. Much of this decline has come from pullbacks in the energy sector, but as a whole, they also reflect broader unease in the economy. Residential spending was also weaker in this report, down 6.1 percent, even as the longer-term trend has been more encouraging.
Government spending was also a drag on second quarter growth, subtracting 0.16 percentage points from real GDP. The decrease mainly came from state and local governments, with federal defense spending also pulling that figure lower.
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