Economy appears ‘same as it ever was’
INDICATOR: Second Quarter GDP and Employment Costs and July Consumer Sentiment
KEY DATA: GDP: 2.6 percent; Consumption: 2.8 percent; Nonresidential Investment: 5.2 percent; Consumer Prices: 0.3 percent/ ECI (Over-Year): 2.4 percent; Wages: 2.3 percent/ Confidence: -1.7 points
IN A NUTSHELL: “Same as it ever was.”
WHAT IT MEANS: As the talking heads on the business channels are probably all saying today: The economy is the “same as it ever was”. (Yes, that lyric appeared in a song, Once In a Lifetime, by the Talking Heads.) As expected, the economy expanded at a decent pace in the second quarter after having limped along at a less than stellar, downward revised, 1.2 percent rate in the first quarter.
The consumer rebounded
nicely and businesses invested solidly for the second consecutive quarter. The trade deficit narrowed and even the government decided to play a positive role in the economy. Only a slowdown in home construction restrained growth. Inventories, surprisingly, had little impact. On the inflation front, the Fed could not be happy with the sharp slowdown in overall inflation as well as personal consumption costs.
One of the major reasons this economy is not soaring is that worker compensation is still going nowhere. The closely watched Employment Cost Index, which is a very broad measure of compensation changes, posted a modest increase in the second quarter. Wage and salary gains decelerated sharply despite solid job increases and declining unemployment. Private sector wages are improving a touch faster than public sector salaries, but benefit costs in the government are rising more quickly.
Despite the feeling that the economy is improving,
the University of Michigan’s reading on Consumer Sentiment eased in July. The drop was caused by a further decline in expectations. Republicans are becoming less optimistic about the future and we should see what the health care debacle did to expectations when the August mid-month number is released in three weeks.
MARKETS AND FED POLICY IMPLICATIONS: The more the economy grows, the more it expands at the same pace it has since the end of the recession. When you put the two quarters of growth together, it looks like we will get this year the 2 percent to 2¼ percent pace that just about every economist predicted going into the year. With tax reform not looking like it will happen until late this year, at the earliest, and the possibility it will be more tax cuts than reform, we shouldn’t expect a whole lot better growth going forward.
Still, that is actually not bad. Growth at the current pace is enough to generate job gains that lower the unemployment rate. But what we really need is faster wage increases. The consumer is becoming somewhat tapped out. The savings rate has declined for the past year and unless incomes rise faster, it will be harder for consumption to continue supporting growth in the manner to which the economy has become accustomed.
A second concern is business investment, which has been stellar for the past two quarters. CEO confidence jumped after the election but there has been minimal follow-through on most issues near and dear to corporate leaders’ hearts. Critically, the ACA reform failure raises major uncertainties about the type and timing of tax changes. The impacts on 2018 growth of a tax bill passed early next year would likely not be great. If CEOs invested in expectation that the economy would accelerate once tax reform occurred, they might become more conservative going forward. Second quarter earnings have been pretty good, bolstering equities. It may take some negative economic numbers to shake the faith of investors.