GDP's stunning slump
We see a variety of reasons for the pullback in Q3 GDP growth.
Due to the surge in the Covid-19 delta variant in July and August, the supply-chain bottlenecks caused by the ongoing West Coast port logjam, a decline in auto sales, sluggish job creation over the summer and sharply rising sustainable inflation, economic growth in the third quarter slowed to a much weaker-than-expected 2%, down from a robust 6.7% in the second quarter and 6.3% in the first quarter. The Bloomberg consensus third-quarter estimate was for 2.6% growth, Blue Chip’s was 3.6% and the Atlanta Fed’s GDPNow forecast was a decidedly pessimistic 0.5%. As economic growth decelerated sharply during the quarter, we at Federated Hermes lowered our estimate from 7.8% in July to 5.2% in September to 3.2% in October.
Personal consumption expenditures, business investment in intellectual property, more state and local government spending, and a smaller drawdown in inventories contributed to the positive quarter, although net trade and housing detracted from growth.
Weak private domestic final sales This metric is a much better indication of the economy’s underlying fundamental strength because it excludes volatile net trade, inventory building and government spending. It rose only 1.1% in the third quarter, down sharply from powerful gains of 10.1% in the second and 11.8% in the first.
Here are the details on the third-quarter GDP report:
Personal consumption (70% of GDP) rose by a stronger-than-expected 1.6% in the third quarter (accounting for 1.09 percentage points of the overall gain in GDP) versus consensus expectations for only a 0.9% increase. But this is contrasted by powerful gains of 12% in the second quarter and 11.4% in the first quarter. Back-to-School (BTS) spending rose by a strong 15.9% during the June-through-September period, which contributed to the gain in personal consumption. But the personal savings rate has declined from 26.6% in March 2021 to 7.5% in September, so we’re expecting a less sequentially robust holiday shopping season.
Inventories declined by $77.7 billion on a chained-dollar basis in the third quarter, due to the ongoing supply-chain bottlenecks that prevented companies from restocking their shelves, compared with a much larger drawdown of $168.5 billion in the second quarter. However, that smaller reduction in inventories added 2.07 percentage points to GDP growth. We fully expect inventory restocking to resume at some point in time, which should boost growth. But the timing remains highly uncertain, given the severity of the West Coast port backlog. Some 100 ships and 100,000 containers—carrying 40% of our import volume—are sitting in the Pacific Ocean. It could be the second half of 2022 before we see any meaningful relief.
Government spending rose by a tepid 0.8% in the third quarter, which added 0.14 percentage points to the gain in GDP, compared with a 2% decline in the second quarter. Federal nondefense spending declined 9.2% in the third quarter, so it was the 4.4% increase in state and local spending (adding 0.46 percentage points), which salvaged government spending as a whole.
Corporate nonresidential capital spending rose 1.8% in the third quarter (adding 0.24 percentage points), versus gains of 9.2% in the second quarter and 12.9% in the first quarter. But structures declined for the seventh time in the last eight quarters, falling 7.3%. Equipment spending declined for the first time in five quarter, slipping 3.2%. Powerful spending in intellectual property, however, salvaged capex spending as a whole, surging 12.2% in the third quarter, its fifth consecutive positive quarter, adding 0.61 percentage points.
Housing declined for the second consecutive quarter, falling 7.7% in the third quarter (which subtracted 0.38 percentage points), on the heels of an 11.7% second-quarter decline. After surging to a 15-year high earlier this year, the previously white-hot housing market has slowed, as the inventory of houses available for sale has fallen, prices and interest rates have risen, and commodity and labor costs have increased.
Net trade reduced GDP growth by 1.14 percentage points in the third quarter. Exports declined 2.5% in the third quarter (which subtracted 0.28 percentage points) compared with a 7.6% increase in the second quarter. At the same time, imports rose for the fifth consecutive quarter, gaining by 6.1% in the third quarter (which subtracted 0.87 percentage points), after increases of 7.1% in the second quarter and 9.3% in the first quarter, as the U.S. economic recovery accelerated.