Revisions To PCE May Dash Fed's Hopes
As the mainstream news outlets rushed to capitalize on the headline number of the second quarter of 2013's gross domestic product of 1.7%, which was well ahead of the 1% consensus estimate, much of the detail of the largest revisions to gross domestic product in the history of the Bureau of Economic Analysis was lost. As I discussed in "Post GDP Revisions Reveal Weaker Economy" the actual headline data obscured the weaker underlying growth trends in the economy.
"The issue currently, is that post the 2013 revisions to the economic data, we find that the economy is currently growing even weaker than previously thought and the first estimate of second quarter GDP puts economic growth at just 1.43% annualized which is the 3rd straight quarter of sub-2% economic growth and the slowest rate prior the last recession."
In the Federal Reserve's July FOMC policy meeting presentation Ben Bernanke stated that:
"Information received since the Federal Open Market Committee met in June suggests that economic activity expanded at a modest pace during the first half of the year. Labor market conditions have shown further improvement in recent months, on balance, but the unemployment rate remains elevated. Household spending and business fixed investment advanced, and the housing sector has been strengthening, but mortgage rates have risen somewhat and fiscal policy is restraining economic growth. Partly reflecting transitory influences, inflation has been running below the Committee's longer-run objective, but longer-term inflation expectations have remained stable.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee expects that, with appropriate policy accommodation, economic growth will pick up from its recent pace and the unemployment rate will gradually decline toward levels the Committee judges consistent with its dual mandate."
The issue of economic expansion is critical to the ongoing assessment of the success of current monetary accommodations. While the Fed expects that economic growth will pick up in the second half of 2013 the current trends of data suggest otherwise. If we compare the latest revisions to GDP to the previous data we find rather large discrepancies between what the Federal has been expecting to happen versus what has really occurred. (Read more about Fed Expectations here)
Despite the additions of R&D and Pension Deficits to GDP in the latest revision to boost the level of economic value - the only component that really matters is personal consumption expenditures which comprises a little more than 68% of the calculation. There is little argument that "so goes the consumer; goes the economy." The first chart below shows the breakdown of PCE prior to the latest revisions.
Following the sharp slowdown in PCE in the first 6-months of 2011 caused by the Japanese earthquake/tsunami manufacturing shut down and the "debt ceiling" drama; personal consumption was showing an improving quarterly trend which supported the "economic growth story." From this data there is evidence to support the Federal Reserve's view that economic growth should indeed accelerate somewhat by the end of 2013. However, the short term view of the Federal Reserve maybe somewhat misleading as the longer term annualized growth trends suggest something entirely different as I discussed in "Code Blue for GDP":
"The incoming economic data most recently suggests that this 'comatose state' in the economy is set to continue in the months ahead with the data reflecting short-lived oscillations between growth and weakness in the economic fabric...When looking behind the headline numbers of the economic reports it is clear that there are still substantial pockets of weakness. Over the last 48 months the economy has ebbed and flowed depending on artificial stimulus programs from the Federal Reserve. When these programs were withdrawn economic growth stalled. As shown in the chart below the economy is not only growing at below a 2% annual rate for the last two quarters but the long term downtrend suggests that the current economic expansion that begin more than 4 years ago may have peaked for the current cycle."
That statement was somewhat flawed because, as shown in the next chart, the post-revised data shows that GDP is actually much weaker than originally thought and has now been below the 2% annualized growth trend for three straight quarters which is normally consistent with the onset of a recession.
What is most concerning is that post the latest revisions to GDP we find that PCE has been all but comatose since the initial surge of spending from post-financial crisis pent up demand. The chart below shows the negative trend not only in overall spending but that, as suspected, the surge in services spending in Q1 of 2013 which caused GDP to surge was nothing but a fantasy.
This is no trivial matter. While these negative trends can be ignored by the mainstream, "hope filled", analysis for a while - the drag of PCE on economic growth is currently larger than was originally thought. While asset prices are inflated due to the ongoing push of liquidity by the Federal Reserve into the markets the disparity between the "stock market" and the "real economy" is continuing to widen.
The chart below shows the correlation between real, inflation adjusted, GDP, Employment and PCE. The current negative trend of PCE certainly does not bode well for continued gains in employment as the "demand" created by consumption is what drives employment growth. Likewise, the weakness in PCE, since it is such a large piece of the GDP calculation does support the Fed's current hope of expanding economic growth by year end.
While this time is could certainly be "different," due to the massive amounts of artificial interventions, data massaging and monetary accommodations, history suggests that the recent downturn in the annual growth rates of the data is worth paying attention to.
While the financial markets currently believe that the Federal Reserve will reduce their support programs sooner, rather than later, the reality is that this will likely not be the case. With the Affordable Care Act set to kick in by the end of this year, an outright brawl between the branches of the government over the budget, spending and taxes, and weakening exports due to a ongoing global recession; the economy faces a very tough battle for recovery from here. While the Federal Reserve has a very limited ability to impact real economic growth, as clearly shown by the latest GDP analysis, the risk of the economy slipping back into a recession has most definitely increased. While Bernanke continues to hope for a resurgence of organic economic activity to allow for a reduction of the current forms of "life support" - the current data trends suggests that this could be much more problematic to actually do.