150519 us quarterly

US Watch Is the US economy derailing?

Group Economics Macro & Financial Markets Research Maritza Cabezas, +31 20 343 5618

26 May 2015 

After a disappointing first quarter, we think that the US economy will bounce back. A solid labour market will in fact support growth in consumption and in residential investment, but it will take a firmer pace of growth to compensate for the drag of oil-related capital spending and exports. Our forecast was adjusted downward to reflect the acuteness of the slowdown in the first quarter. GDP growth is now 2.7%, down from 3.1% in 2015.

The Fed considers the first-quarter slowdown as transitory and remains positive about the long-term economic outlook. A rate hike in September remains the most likely scenario, but this will obviously depend on whether the economy recovers convincingly after the weak first quarter.



Why has GDP growth stalled in the first quarter?

There are different sources that explain the slowdown in GDP growth. The “known unknowns” are related to developments that were already ongoing in 2014, but whose magnitude was underestimated. This includes weaker investment in oil-related activities as a result of lower oil prices. The strong dollar, which was boosted by a combination of positive sentiment for the US growth outlook and looser monetary policy abroad, was also a factor. In addition, the disruptions in the west coast seaports that had been building up since fall last year escalated in January and February. This finally resulted in the closing of the major ports, with backlogs clearly moving into April. Not surprisingly, export growth faced major headwinds, but the drag was so acute in Q1 that a moderation in Q2 seems very likely. On top of this, extreme weather took again its toll on the economy, pushing down consumption and construction to similar levels as the year before. The advance estimate of Q1 GDP growth was 0.2%, down from 2.2% the previous quarter.

This estimate could be revised downwards in the coming time, but we think that negative drivers are transitory and that a rebound is on the cards.

Foreign trade and investment facing headwinds contribution in %

Could uncertain statistics be pulling down GDP growth?

There is a pattern of recurrent weakness in first-quarter GDP growth reported by the Bureau of Economic Analysis (BEA), which appears to be partly attributable to methodological distortions in the seasonal adjustment process. In fact, firstquarter US GDP growth from 2010 to 2014 averaged 0.6% compared to 2.9% in the other three quarters. Details on firstquarter growth suggest that this pattern of weaker growth can be found in the categories construction, federal and local government expenditures, defence spending and exports. If this residual seasonality were absent, GDP growth would be much higher.

First-quarter GDP growth could be higher in %

6 5 4 3 2 1 0 -1 -2 -3 Q1 2010

1.8%

0.2%

Q1 2011

Q1 2012

Q1 2013

Q1 2014

Q1 2015

GDP seasonally adjusted BEA

6

GDP seasonally adjusted FRB San Francisco

4 Source: Thomson Reuters Datastream, Federal Reserve Bank of San Francisco

2 0 -2 -4 Q2 2013

Q4 2013

Q2 2014

Q4 2014

Consumption

Investment

Government

Inventory

Net trade

GDP growth

Source: Thomson Reuters Datastream

The Federal Reserve Bank of San Francisco has looked into the seasonality issue. Its conclusion was that GDP growth appears to be substantially stronger than the BEA initially reported. They suggest that the very sharp drop in the first quarter of 2009 during the Great Recession potentially leads to several years of residual seasonality. This concern was already voiced by former Chair Ben Bernanke in 2010. The data corrected by the FRB of San Francisco show that published first-quarter GDP growth increases by about 1.5 percentage points. The BEA is currently reviewing their

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Is the US eco onomy derailin ng? – 26 May 2015 2

me ethodology. We e, for one, thinkk that this statis stical distortion helps to explain th he discrepancyy between the labour market’ss sitive performance and the we eak economic activity. pos t labour ma arket losing mo omentum?

Is the Sin nce 2014 the im mprovement of the labour market has been clear to see. The unemployment rate is falling at a faster pacce an the Fed expe ected. But that is not all: a bro oader set of tha labour market ind dicators applied d by Chair Yelle en have been proving as well. It is true that the pace of job b creation has imp slow wed over the p past few month hs and that Marrch’s labour ma arket report wass disappointing g This slowdow wn in momentum m is, however, to so ome extent a re eflection of the weak economiic 14, resulting fro om the harsh acttivity in the firstt quarter of 201 win nter and other ttemporary facto ors. The labour market con nditions index, based on Yelle en’s dashboard d of indicators, sho owed that the sslowdown in mo omentum alrea ady showed signs of reversing g in April.

La abour markett conditions have h lost som me momentum m Index based on Yellen’s Y dashboard d

2 1 0

ecovering. The ratio of househhold liquid asse ets to liabilities, as re we ell as consume ers’ purchasingg power and the e rate at which they are saving, indicate that co consumers are in excellent sh hape. In additio on, the ratio of hhousehold deb bt to disposable e income is down roughly 25 perrcentage points s from its peak (9 98%). We expect consumers tto provide a tailwind for un nderlying econo omic activity inn the upcoming quarters.

Will W the long aw waited investm ment growth liift off?

We W see this as the weak link inn the recovery. Capital ex xpenditures in oil-producing o inndustries are now n a drag to to otal fix xed investmentt, but business spending in eq quipment and so oftware slowed as well. The sstrong dollar ha as hit manufacturing activity and its innvestment outllook, and this has h pu ut some pressu ure on businesss spending. We e think that the ere is still more weakness in non-reesidential inves stment in the pipeline. Most prrojects that werre delayed in the oil sector an nd re elated activities are not expect cted to resume this year.

Meanwhile, we expect e residenttial investment growth to pickk up.

Th his is the resultt of improving ffinancing conditions and increasing housing demand booosted by a stro ong labour market. April’s positive housingg starts and permits data show w that the weather effects are now ow behind us.

Private P investment pulled d down by oil & gas

-1

contributions s to percentage chhange in private in nvestment in %

-2 -3

10

4 -4

5

-5 92

94

96

98

00

02

04

06

08

10

12

14

0 -5 The e 0 value is the hisstoric average for each indicator, with positive and negative deviations S Source: ABN AMR RO Group Econom mics

oking ahead, w we think the lab bour market will remain firm.

Loo Ma anufacturing an nd services survveys, as well as a the small bus siness survey, are now pointing to solid incrreases in job cre eation over the coming period. Employment in the Markit P PMI has s risen at a rob bust pace for th he 22nd consecu utive month. Th he serrvices PMI show wed that job crreation was rob bust in April, while the small bu usiness surveyy shows that pla ans to increase e mployment are sstill increasingly positive. On top of this, em une employment be enefits are at th heir lowest leve el since 2000. g comeback?

Willl consumers make a strong Our consensus fo orecast relies on o consumers doing d their sha re er the next few quarters. In th he first four mon nths of this yea ar, ove con nsumption wass a bit disappointing. It is poss sible that winte er too ok away some o of the spending g momentum. We W expected con nsumers to rea ach for their purrses as wage growth g improve ed with h the labour market tightening g, while lower energy e prices increased their disposable incom me. Consumerr spending in th he nded by 1.9% year-on-year, y a little below th he first quarter expan 3% average, wh hich suggests that t there is still room for 2.3 imp provement. The e economic he ealth of consum mers is steadily

-10 Q1 2013

Q3 2013

Q 2014 Q1

Q3 2014

Q1 20 015

Private fixed in nvestment ex. oil & gas g Investment in infrastructure Mining incl. oil & gas So ource: Thomson Reuters R Datastream m

Ho ow will this influence the Feed rate hike decision?

FO OMC members s remain cautioously optimistic c about the ec conomy. The changes that haave been made e to the sta atements over the past monthhs point to a more m nuanced tone ab bout the strength of the econoomy. That said, they maintain n their view that th he effects of thi s slowdown arre transitory and re emain positive about a the long--term outlook. By placing em mphasis on the ese transitory faactors, the Fed d still seems on n tra ack to introduce e rate hikes in September this year given th he un nderlying strong g fundamentalss. The fragility of certain secttors, including investm ments in structuures and busin ness investmen nt, as s well as low inflation suggestt that rate hikes s will be inttroduced at a gradual g pace. A As Chair Yellen n mentioned in her lattest interventio on, ‘…it will be sseveral years before b the fede eral funds rate would d be back to itss normal, longe er-run level’.

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Is the US eco onomy derailin ng? – 26 May 2015 2

Ke ey forecasts forr the US econo omy (% yoy unlesss stated otherwise) 2015 20 2014 016 GD DP 2.7 2.4 3.1 CP PI inflation (% yo oy)

1.6

0.1

2.5

Un nemployment ra ate (%) Bu udget balance (% % GDP) Cu urrent account (% % GDP) Go overnment debt (% GDP)

6.2 -2.8 -2.3 73.8

5.2 -2.5 -2.6 75.0

4.7 --2.2 -2.7 7 76.8

10yyr government bond b yield EU UR/USD (eop)

2.2 1.21

2.7 1.00

2.9 1.15

Source: Thomson Reuters R Datastre eam, ABN AMRO O Group Econom mics

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