Not surprisingly, Q1 GDP growth data have been revised lower into contraction territory. However, everybody “knows” that this was just a temporary weather-related stumble and there will be a magical second half. This “second half” hopery has been with us for years now. Alas, the strong recovery has never arrived – instead, the economy is at best muddling through, in what has so far been the weakest recovery of the entire post WW2 era.
Readers of this blog probably know why this is so. The Fed and the commercial banking system have increased the true US money supply by well over 100% since 2008. Monetary pumping can create a temporary illusion of economic strength by misdirecting scarce resources into what would otherwise be loss-making activities. In so doing, it severely undermines the economy on a structural level. If the economy’s pool of real funding is already in trouble – and we would argue that this is definitely the case in the US economy after one credit bubble too many – then money printing cannot even conjure up an illusion of economic strength anymore.
Image via Newsday
“The U.S. economy contracted in the first quarter as it buckled under the weight of unusually heavy snowfalls, a resurgent dollar and disruptions at West Coast ports, but activity already has rebounded modestly.
The government on Friday slashed its gross domestic product estimate to show GDP shrinking at a 0.7 percent annual rate instead of the 0.2 percent growth pace it estimated last month. A larger trade deficit and a smaller accumulation of inventories by businesses than previously thought accounted for much of the downward revision. There was also a modest downward revision to consumer spending.
With growth estimates for the second quarter currently around 2 percent, the economy appears poised for its worst first-half performance since 2011. The economy’s recovery from the 2007-2009 financial crisis has been erratic.
Weak data on consumer sentiment and factory activity in the Midwest on Friday suggested that while the economy has pulled out of its first-quarter soft patch, the growth pace was modest early in the second quarter. That mirrored other recent soft data on retail sales and industrial production.
But reports on housing and business spending plans have indicated momentum could be building, which would keep the Federal Reserve on track to raise interest rates later this year.
Economists caution against reading too much into the slump in output. They argue the GDP figure for the first quarter was held down by a confluence of temporary factors, including a problem with the model the government uses to smooth the data for seasonal fluctuations.”
The idea that there will be a “magical second half” is evidently alive and well. However, it appears that there has actually been very little by way of “recovery” in the second quarter so far, in spite of every mainstream economist up to Fed chair Janet Yellen insisting that everything is copacetic. Regional Fed district reports on manufacturing have been between “weak” and “weaker”, undercutting most estimates by a mile. Weakness was especially pronounced in the Dallas survey, with the region reeling from the recent demise of the oil boom.
However, the presumed “winners” of lower oil prices are actually not showing any improvement either – on the contrary. Below you can see a chart of the Chicago manufacturing ISM. Today’s release was headlined: “Chicago Business Barometer Back into Contraction in May – New Orders, Production and Employment Down by More Than 10%”. That doesn’t sound like any sort of recovery to us – it sounds more as if the economy is slowly but surely drifting toward an outright recession.
As the ISM report states:
“The Chicago Business Barometer fell sharply back into contraction in May, reversing all of April’s gain and casting doubt on the strength of the widely expected bounce-back in the US economy in the second quarter.
The Barometer fell 6.1 points to 46.2 in May from 52.3 in April. All five components of the Barometer weakened with three dropping by more than 10% and all of them now below the 50 breakeven mark.”
In short, everything is “not fine”. Contrary to government statistics, the ISM data are not influenced by any seasonal adjustment quirks (they are simply the result of a business survey). The new orders component was especially weak in the Chicago ISM report, plummeting by 13.8% from its April reading, well into contraction territory. This is incidentally one of the most important components of the report, as it is a forward-looking datum (the complete report can be seen here [pdf]).
We would also point out, stronger housing reports are largely a reflection of bubble activities. The Fed’s interventions have brought refinancing and mortgage rates to rock-bottom levels and house prices have in the meantime recovered a great deal of the ground they lost after the previous housing bubble expired in 2007-2008. This has priced out the average home buyer in spite of low rates, but because Wall Street has discovered “buy-to-rent” schemes, prices have been driven up anyway – to levels that are likely to once again prove unsustainable. As our friend Ramsey Su has frequently pointed out in these pages, this is a market that is unlikely to survive any rate hikes for very long.
It seems ever more likely that this time, not even a return to the “muddle through” growth rates of previous years will be achieved. Economic data released so far in the second quarter have second quarter have been especially weak in the manufacturing area, and manufacturing is by far the largest part of the economy. Note here that the widely held view that consumption is 70% of economic activity is erroneous. GDP leaves out the entire production structure producing intermediate goods.
If one consults gross output tables, it quickly becomes clear that consumption at best accounts for 35-40% of economic activity. It cannot be otherwise actually: if the 70% figure were true, we would very quickly consume all capital in the economy and revert to a hand-in-mouth existence. How the manufacturing sector is doing is therefore of crucial importance to overall economic performance. It could well be that Ms. Yellen won’t even get the opportunity to implement a single rate hike.
Photo credit: Andrew Harrer / Bloomberg
Charts by: St. Louis Federal Reserve Research, Chicago Institute for Supply Management