Low supply across many sectors impaired GDP growth.
The economy grew by a much weaker-than-expected 6.5% in the second quarter, compared with the Bloomberg consensus of 8.4% and our estimate here at Federated Hermes for an even stronger 9% quarter-on-quarter gain. The Blue Chip consensus was 9.1%, and the Atlanta Fed’s GDPNow forecast was 7.4%. Gross domestic product (GDP) growth in the first quarter was downwardly revised to 6.3%. Despite this disappointing news, the S&P 500 rallied to another intraday record high yesterday, as investors expect the Federal Reserve to be patient and deliberate in withdrawing monetary policy accommodation.
Personal consumption expenditures were stronger than expected in the second quarter, with an outsized 11.8% increase (10.5% consensus estimate), the second-largest gain since 1952. But supply-chain bottlenecks resulted in the second consecutive quarterly decline in inventories, which fell by nearly $166 billion, reducing second-quarter GDP by 1.13%. Given the underlying strength in the U.S. economy, companies should be restocking their inventories—not cutting them—at a pace of $100 billion or more each quarter. This suggests that this delayed inventory build-up will be rolled into the second half of 2021 and beyond, which should eventually boost growth in coming quarters.
Although corporate capex was solid, the surge in imports swamped strong export volumes, resulting in a negative contribution from net trade. Housing declined in the second quarter due to limited inventory, rising commodity and labor costs, and higher prices. Finally, government consumption declined last quarter, largely due to a drop in federal nondefense spending.
Strong private domestic final sales This metric is a better indication of the economy’s underlying fundamental strength because it excludes volatile net trade, inventory building and government spending. It rose 9.9% quarter-over-quarter versus gains of 11.8% in the first quarter, 6.2% in the fourth quarter of 2020 and 38.4% in last year’s third quarter. That compares with a decline of 32.8% in the second quarter of 2020 at the depth of the pandemic-driven recession.
The recession is over Last week, the National Bureau of Economic Research announced that the recession ended in April 2020, only two months after it started in February, marking the shortest and deepest recession on record. We’ve now successfully closed the output gap. On a chained-dollar basis, second-quarter GDP approximated $19.4 trillion, besting the fourth quarter of 2019’s $19.3 trillion, which was the last “normal” quarter before the economy collapsed due to the global pandemic. (GDP had troughed at $17.3 trillion in last year’s second quarter, a 10% decline from its peak.) On a current-dollar basis, GDP in the second quarter of this year hit $22.7 trillion, well above the fourth quarter of 2019’s $21.7 trillion. (Last year’s second-quarter trough was at $19.5 trillion, also a 10% decline from its peak.)
Strong second quarter earnings We’re halfway through the second quarter reporting season, and S&P results have been very strong. Revenues have risen by 23% year-over-year, with 83% of companies beating consensus estimates by an average of nearly 5%. Earnings have surged 96% thus far, as 88% of the companies are beating consensus forecasts by an average of 18%.
Details on the second quarter GDP report:
Personal consumption (70% of GDP) rose a stronger-than-expected 11.8% in the second quarter (accounting for 7.78 percentage points of the gain in overall GDP), versus consensus expectations for a 10.5% increase. This compares with an 11.4% increase in the first quarter, a 3.4% gain in last year’s fourth quarter and an outsized 41.4% increase in the third quarter. In the second quarter of 2020, GDP plunged 31.2%—the steepest decline on record—as the U.S. economy was shut down to contain the virus and save lives.
Phase 4 of the CARES Act last December pumped $900 billion of fiscal stimulus into the economy, and President Biden added another $1.9 trillion with his American Rescue Plan this past March. As a result, retail sales surged during January and in March and April, which boosted personal consumption expenditures in the first half of 2021.
Corporate nonresidential capital spending increased 8% in the second quarter (adding 0.57 percentage points to GDP), versus gains of 12.9% in the first quarter, 12.5% in last year’s fourth quarter, 18.7% in the third quarter, and a decline of 30.3% in the second quarter (its steepest drop since 1952). In the second quarter, structures declined for the sixth time in the last seven quarters, falling 7%. But equipment spending rose for the fourth consecutive quarter, by 13%, and intellectual property also increased for the fourth consecutive quarter, rising 10.7% in the second quarter.
Inventories surprisingly declined by $165.9 billion in the second quarter (subtracting 1.13 percentage points), due to the ongoing supply-chain bottlenecks that prevented companies from restocking their shelves. That compares with another surprising decline of $88.3 billion in the first quarter versus inventory gains of $88.8 billion in last year’s fourth quarter, $25.3 billion in the third quarter and a sizable liquidation of $252.8 billion in the second quarter at the economic trough of the pandemic. We fully expect inventory restocking to resume in the second half of 2021, which should boost growth over the balance of this year into 2022.
Housing declined 9.8% in the second quarter (which subtracted 0.49 percentage points). After surging to a 15-year high, the previously white-hot housing market has slowed, as the inventory of houses available for sale has fallen, prices have risen and commodity and labor costs have increased. That contrasts sharply with sizable gains of 13.3% in the first quarter, 34.4% in last year’s fourth quarter, and 59.9% in its third quarter—its strongest since 1983—goosed by record-low interest rates and strong demand. That reversed the second quarter of 2020’s decline of 30.7%, housing’s worst quarter since 1980.
Government spending slipped 1.5% in the second quarter (subtracting 0.27 percentage points), compared with a gain of 4.2% in the first quarter and declines of 0.5% in last year’s fourth quarter and 2.1% in its third quarter. Federal nondefense spending declined 10.4% in the second quarter (which subtracted 0.33 percentage points). State and local spending rose 0.8% in the second quarter (which added 0.09 percentage points).
Net trade reduced GDP by 0.44 percentage points in the second quarter. Exports rose 6% (which added 0.64 percentage points). But imports rose 7.8% in the second quarter (which subtracted 1.09 percentage points), as the U.S. economic recovery accelerated.