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National Economic Update

Still Waiting for Acceleration

November 9, 2010 | Update in PDF PDF

The previous National Economic Update detailed three broad scenarios of possible trajectories for economic output.[1] Data released since then suggest that scenario one—a pickup in growth strong enough to eventually reach the prerecession path of output—did not occur in third quarter 2010, raising the probability of a longer period of subdued growth. However, the data releases for October, the first month of the fourth quarter, have so far been more positive.

GDP Growth Improves Slightly

The U.S. economy grew at a modest 2 percent annualized pace in third quarter 2010, according to the advance estimate of real gross domestic product (GDP), a slight acceleration from the previous quarter’s 1.7 percent. Much of the third quarter growth was provided by inventory investment. This year has seen inventory adjustment contribute 1.6 percentage points of quarterly average growth. Real final sales, a measure of demand that excludes the change in inventories, has averaged less than 0.9 percentage points the past three quarters. The composition of third-quarter growth was overall similar to the previous four quarters of recovery (Chart 1).

Inflation Remains Subdued

In September the consumer price index (CPI) excluding food and energy drifted down to 0.8 percent annual growth, and the personal consumption expenditures (PCE) price index edged down to a 1.2 percent annual pace (Chart 2). According to the Federal Reserve’s Open Market Committee Nov. 3 statement, “the unemployment rate is elevated, and measures of underlying inflation are somewhat low, relative to levels that the committee judges to be consistent, over the longer run, with its dual mandate. ...To promote a stronger pace of economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate, the committee decided … to expand its holdings of securities.”[2]

Productivity Bounces Back

In the previous National Economic Update, the second quarter 2010 drop in productivity was described as an optimistic signal for self-sustaining robust growth, as it might encourage employers to begin hiring. While this scenario could still play out, it appears employers continued to get more output out of fewer workers in the third quarter as productivity increased at an annualized pace of 1.9 percent. These productivity gains can help explain the extraordinary corporate profits in this period of subdued growth (Chart 3). Less easily explained, however, is why these profits are not encouraging businesses to increase hiring. One theory is that during the recession, businesses restructured in favor of more capital-intensive technologies, as demonstrated by several quarters of robust growth in equipment and software investment. Some anecdotal evidence in the national Beige Book suggests that businesses remain concerned about taxation and regulatory uncertainty.[3]

Signs of Strength in October

Although the third quarter was characterized by subdued growth and disappointing employment gains, there were early signs of strength in October. Nonfarm payrolls increased by 151,000, the largest monthly increase since May of this year. Private payrolls increased by 159,000, the largest since April. The unemployment rate remained at its elevated level of 9.6 percent, indicating that while this employment report is encouraging, it is not enough to quickly reduce the unemployment rate. In fact, if job growth continued at a 151,000 per month pace, jobs would not reach their prerecession level until 2015 (Chart 4). Nevertheless, October was a step in the right direction, and increasingly strengthening employment would go a long way to relieving constrained consumers and ending the current slowdown.

The Institute for Supply Management manufacturing and nonmanufacturing indexes both surprised on the upside in October, with broad improvement in the various components. In the manufacturing index, imports decreased and exports increased, suggesting that trade could contribute positively to growth early in the fourth quarter. The inventory investment component of the manufacturing index remains at a high, likely unsustainable level. The inventory cycle’s contribution to growth will likely dwindle as it slows to the rate of demand.

Summary

The possibility of a prolonged period of subdued growth appeared to be increasing as data for third quarter 2010 consistently fit the pattern of the slowdown in the second quarter. This picture was characterized by anemic final demand growth and lackluster employment as businesses made do with current payrolls and increased productivity. However, data released for the month of October have reflected an encouraging start to the fourth quarter, which could ignite the long-awaited turnaround to increasingly steady growth.

—Tyler Atkinson

Note
  1. “Oh, the Places We’ll Go: Three Scenarios for Economic Trajectory,” Tyler Atkinson and David Luttrell, Federal Reserve Bank of Dallas National Economic Update, Sept. 24, 2010, www.dallasfed.org/research/update-us/2010/1006.cfm.
  2. See Federal Open Market Committee Press Release, Nov. 3, 2010, www.federalreserve.gov/newsevents/press/monetary/20101103a.htm.
  3. Beige Book, Federal Reserve Board, Oct. 20, 2010, www.federalreserve.gov/fomc/beigebook/2010/20101020/default.htm.
About the Author

Atkinson is a research assistant in the Research Department at the Federal Reserve Bank of Dallas.

 

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