The first-quarter gross domestic product (GDP) estimate led many investors to believe that the economy is stronger than it really is.
The estimate indicated that GDP grew at a 3.2% annualized rate in the first quarter. That’s a big jump from the 2.2% rate of the fourth quarter of 2018.
A major reason for the increase in GDP was a large jump in inventories. In the equation used to calculate GDP, higher inventories equate with higher growth. There are times when higher inventories mean businesses are building their stockpiles in anticipation of higher sales. But most of the time, an increase in inventories means sales are lower than businesses had anticipated. That means growth is slowing, not increasing.
Over time, changes in inventories offset each other and don’t influence the long-term GDP results. But in short periods, the inventory number can make the economy look stronger or weaker than it is in reality. I think that inventories in the first quarter made growth seem stronger than what really occurred.
Other data in the GDP report have raised questions about the growth rate. Growth was lower than in the fourth quarter of 2018 for residential investment, nonresidential investment and personal consumption expenditures.
Another reason to believe that the first GDP estimate is misleading is that it contrasts with other economic data for the first quarter and the succeeding months.
Household spending and retail sales both have been weak. Spending has increased the last couple of years as the job market continued to improve and households benefited from tax cuts and other tailwinds. But spending clearly has slowed the last few months, and there are few reasons to expect retail sales to increase in the coming months.
The housing market faltered in 2018 and remains weak. This is inevitable, since home prices increased faster than incomes over the last few years. But it also is another indication that economic growth is modest.
A few of the manufacturing surveys improved in the last month, but not all of them. The ISM Manufacturing Survey, the national benchmark of these surveys, turned lower. The data on actual manufacturing activity has been weak and recently turned down further. Industrial Production, for example, is at its lowest level since 2016.
Surveys on the service sector, which had been robust for some time, had lower-than-expected results in the last month.
Despite the weakness in this data, most of it indicates the economy is growing. I don’t see a recession in the near term. The point is that economic growth slowed from its highs of 2018 and is weaker than the first-quarter GDP report had indicated.
There also is no reason to expect the growth rate to increase. The fiscal stimulus from the 2017 tax cuts is fading. The benefits from the Fed’s pause in interest rates also have about run their course.
I see the low growth of recent months continuing.
The markets expect the Fed to reduce interest rates at least once during 2019. That has been factored into market interest rates and stock prices. If the economy continues at the recent growth rate and the Fed doesn’t reduce rates, stock prices probably will adjust downward.
The PMI Composite Mid-Month Flash Index showed a decline in both manufacturing and services. The manufacturing component of the survey declined to 50.6 from 52.4. The service component dipped to 50.9 from 52.9. That puts the composite at 50.9, compared to 52.8 last month. A reading below 50 indicates the economy is contracting. The new orders component was below 50 for the first time since August 2009. The trade conflict with China was identified as the main reason for the decline.
Consumer Sentiment, as measured by the University of Michigan, unexpectedly jumped higher to 102.4 from 97.2. That puts the measure at a 15-year high. Most of the increase came from higher expectations about the next six months. The current conditions component of the survey increased only marginally. Keep in mind that the survey was taken before the recent escalation in the trade conflict with China.
Leading Economic Indicators from the Conference Board increased 0.2%, compared to 0.3% last month. The Conference Board reported that the recent levels of the index are correlated with about a 2% growth rate for the economy.
Existing home sales declined for the second consecutive month following February’s unexpected surge. Sales declined 0.4% in April and have been down 4.4% over 12 months. Sales still are above the lows that were recorded in the second half of 2018. The good news is that prices increased 2.9% for the month and the three-month average of sales is at its highest level since last September.
New home sales were more mixed. They declined to an annualized 673,000, but last month’s surge was revised even higher to 723,000 from 692,000. Last month’s sales were at their highest level since the financial crisis. This month’s sales are 7% higher than they were 12 months ago.
New unemployment claims declined another 1,000 to 211,000. They are still about 18,000 higher than the lows of April.
The S&P 500 rose 0.20% for the week that ended with Wednesday’s close. The Dow Jones Industrial Average added 0.52%. The Russell 2000 declined 0.98%. The All-Country World Index (excluding U.S. stocks) lost 0.52%. Emerging market equities fell 1.94%.
Long-term treasuries rose 0.10% for the week. Investment-grade bonds fell 0.18%. Treasury Inflation-Protected Securities (TIPS) gave up 0.30%. High-yield bonds gained 0.57%.
On the currency front, the dollar increased 0.65%.
Energy-based commodities declined 1.17%. Broader-based commodities fell 1.17%, while gold lost 1.69%.
Bob’s News & Updates
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