The US economy is now 15 quarters in to the expansion, and government has subtracted from growth in 11 of them, or two thirds of the time. Even with the headwinds, the economy posted a respectable 2.5% pace of growth in the first quarter of 2013, an improvement over the last quarter of 2012 (when the government was an even bigger drag), but somewhat below expectations of 3.0% and well below the typical pace of post-war expansions. In the 10 prior business cycles since 1950, the US economy grew an average of 4.2% during expansions (ie, excluding recessions), exactly double the average 2.1% so far in this cycle (the white dots in the bar charts).
The government also reports the GDP data in four principal accounts, which can help show how the current expansion stacks up. On average, investment contributes 1.3 percentage points to GDP growth (the blue bars), close to the current cycleâ€™s average 1.1 percentage points. The US typically runs a trade deficit during expansions and the quarterly hitÂ from net exports is also close to the norm (the brown bars), averaging -0.1 percentage points historically compared to -0.2 at the current pace.
The two other categories account for current cycleâ€™s subpar performance. In past expansions, personal consumption alone added 2.5 percentage points to growth (green bars), a full percentage point higher than the 1.5 contribution in the current cycle. And then thereâ€™s government (orange bars), which flipped the sign from a typical contribution of 0.6 percentage points to a loss of -0.3, a difference of nearly another full percentage point.
Going forward, we expect the contribution from personal consumption to improve as the labor market improves, wages pick up, and household net worth recovers to new highs. We also anticipate continued strength from investment, both business and especially residential. Assuming net exports to be a modest drag, the big wild card is the government. With the recent tax changes still reverberating and the full effects of the sequester yet to hit, the government is likely to be a drag for at least a few more quarters and represents a complicating factor in assessing the economyâ€™s fundamentals
So weâ€™d be concerned if consumer spending really faltered, business investment ground to a halt, or the housing recovery suddenly rolled over. When GDP for the first quarter came in below expectations, however, all of those private-sector pistons were firing just fine. Instead, blame the government.
With all the cross currents, GDP alone can be a misleading indicator of the underlying trends, which brings us back to what we believe to be a better metric: â€śfinal sales to private domestic purchasers,â€ť which strips out the government as well as the swings from inventories and net exports (the yellow diamonds). Over time, its average is close to headline GDP but tends to be more stable from quarter to quarter. Without all the noise, the pace of â€ścoreâ€ť GDP was up a respectable 3.3% in the first quarter.
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Warren Hatch, PhD, CFA
Chief Investment Strategist
McAlinden Research - a division of Catalpa Capital Advisors, LLC