Orlando's Outlook: Second-quarter GDP snapback


Bottom line The Commerce Department last week reported that the U.S. economy successfully thawed from the brutal winter during the second quarter, posting a powerful Gross Domestic Product (GDP) snapback thanks to stronger-than-expected trends in consumer spending, corporate investment and inventory rebuilding. The advanced report showed second-quarter GDP rising 4.0%, much better than the consensus of pessimistic Bloomberg estimates for only 3.0% growth but on the button with our own 4.0% estimate here at Federated. 

In addition, the government typically revises its historical data with the second-quarter flash, and this year the Bureau of Economic Analysis (BEA) went back to 1999 (see table, below). Among the more recent data-point changes, GDP was revised lower for most of 2011 and 2012, but economic growth was revised higher in three of the four quarters in 2013 and in the first quarter of 2014, which was nudged up from a decline of 2.9% to a smaller decline of 2.1%. True, it’s still the worst quarter since the depths of the Great Recession. But in conjunction with the upward revisions in last year’s second half (to 4.5% in the third quarter and 3.5% in the fourth quarter), we now have greater confidence that this year’s second-quarter flash bounce to 4.0% has legs through 2014’s second half. 

GDP Revisions
Quarter/Full YearPrevious GDPRevised GDP
4Q2010 2.8% 2.4%
Full year 2010 2.5% 2.5%
1Q2011 -1.3% -1.5%
2Q2011 3.2% 2.9%
3Q2011 1.4% 0.8%
4Q2011 4.9% 4.6%
Full-year 2011 1.8% 1.6%
1Q2012 3.7% 2.3%
2Q2012 1.2% 1.6%
3Q2012 2.8% 2.5%
4Q2012 0.1% 0.1%
Full-year 2012 2.8% 2.3%
1Q2013 1.1% 2.7%
2Q2013 2.5% 1.8%
3Q2013 4.1% 4.5%
4Q2013 2.6% 3.5%
Full-year 2013 1.9% 2.2%
1Q2014 -2.9% -2.1%
2Q2014   4.0%

Here are the key details regarding the recent second-quarter GDP flash report:

Consumer spending surprises As we had expected, personal consumption expenditures, which account for 70% of GDP, rose by a stronger-than-expected 2.5% in the second quarter (versus a 1.9% consensus estimate and a paltry 1.2% first-quarter gain), boosted by the largest improvement (up 14%) in durable-goods sales in five years. Autos, for example, sold at an annualized run rate of 16.9 million vehicles in June, an eight-year high. This contributed 1.7 percentage points to overall second-quarter growth. After the weakest three-month Christmas retail sales season since 2009 during the weather-impaired first quarter, retail sales strengthened considerably during the recent March-April Easter season. With the four-week moving average for initial weekly jobless claims running at an eight-year low, the savings rate rising in the second quarter to a two-year high of 5.3% and consumer confidence at a seven-year high, we believe that this more constructive consumer-spending trend is sustainable. 

Inventory rebuild starts Given the significant gutting of inventories over the winter, it was our belief that we could see a new inventory restocking cycle commence in this year’s second half. But it appears that companies have already started to replenish their depleted inventories, providing a powerful boost to second-quarter GDP growth. Because of the difficult winter and concerns about softening end-market demand, businesses sharply reduced their elevated inventory levels during the year’s first three months, adding only $35.2 billion in the first quarter, down sharply from fourth-quarter 2013’s $81.8 billion. Businesses completely reversed this liquidation cycle in the April-June quarter, nearly tripling inventories to $93.4 billion and adding almost 1.7 percentage points to GDP growth. 

Corporate capex bounces Real business fixed investment rose by 5.5% in the second quarter, substantially better than the first-quarter’s tepid 1.6% increase, which was well below a robust 10.4% gain in last year’s fourth quarter. So the marginal improvement in corporate spending and investment added nine-tenths of a point to second-quarter GDP growth. Looking at the key components, business equipment and software spending rose by 7%, significantly better than the first-quarter’s 1% decline, which had fallen off a cliff from last year’s 14.1% fourth-quarter surge. Business structure investment—a very volatile category that includes factories and office buildings—rose by 5.3% in the second quarter, better than the first-quarter’s modest 2.9% increase but still well below the fourth quarter’s huge 12.8% gain. Finally, intellectual property spending has been steady, rising by 3.5% in the first quarter, which is actually down from the first-quarter’s gain of 4.7% and roughly flat with the fourth quarter’s 3.6% increase. 

Trade deficit narrows In our recent July 18 piece on trade (“Orlando’s Outlook: Inflection point on trade”), we posited that negative first-quarter trends would mark the trough of the trade cycle, with net trade representing a smaller drag on second-quarter GDP. In the just-completed second quarter, exports surged by 9.5%, completely reversing the 9.2% first-quarter decline, compared with the robust fourth-quarter gain of 10%. This implies that our many of our key global trading partners are gaining economic traction to purchase more of our goods. But imports leapt by 11.7% in the second quarter, compared with much more modest gains of only 2.2% in the first quarter and 1.3% in last year’s fourth quarter, which means that U.S. economic growth is starting to accelerate. Taken together, because import gains outstripped the improvement in export trends, net trade subtracted six-tenths of a point from second-quarter GDP—but that’s less than half as bad as the first-quarter’s net trade hit to GDP.

Housing improves There’s little question that because of the inclement weather, higher mortgage rates and prices, tighter bank-lending standards, reduced inventories and rising student-loan debt, housing suffered through a challenging winter. But the housing market seemingly came back to life in the second quarter, as residential investment rose by 7.5%, compared with declines of 5.3% and 8.5%, respectively, in 2014’s first and 2013’s fourth quarters. That improvement added two-tenths of a point to second-quarter GDP growth.

Government spending ticks up Total government spending, which accounts for about 17% of total U.S. GDP, rose by 1.6% in the second quarter, compared with modest declines of 0.8% in the first quarter and 3.8% in last year’s fourth quarter. That improvement, due to the largest gain in state and local government spending in five years, added three-tenths of a point to second-quarter GDP growth.