Wednesday, January 30, 2013

The economic news is not worse than expected

Everyone realizes that the very weak GDP growth (-.5%) reported for last year's fourth quarter was an anomaly and not a harbinger of recession, the product of sharp defense cutbacks and an inventory slowdown. That's why stocks today are unchanged, and Treasury yields are actually up a bit. The Q4/12 news is old history, and growth is almost certainly going to be stronger in the current quarter, and that's what counts for now. 

Today's ADP forecast of January private sector jobs growth was better than expected (192K vs. 165K), and as the chart above suggests, this points to Friday's private sector jobs gain to also be a bit better than the 169K expected. To be sure, job gains of 190K aren't anything to get excited about, but they are surely welcome, and this goes a long way to explaining why the market didn't take the GDP report as unexpectedly bad news. The economy is most likely still growing, albeit slowly.

The economy's real problem is displayed in the chart above, which compares the path of actual GDP growth (blue line) to what the long-term trend has been (red). By my calculations, the U.S. economy is now about 14% below where it perhaps could have been if fiscal and monetary policies had been more growth-friendly (e.g., lower tax burdens, less government spending, reduced regulatory burdens) and less manipulative (e.g., no QE infinity, less income redistribution). That's a shortfall of $2.25 trillion, or about $7,000 of annual income per capita, or about $20,000 per family, and that is real money to most folks. It's taken the form of a very slow recovery in jobs; if this had been a normal recovery there could have been well over 10 million more jobs by now.

So even though the economy continues to grow, we are losing ground relative to where we should or could be. This is a national tragedy, but it's not a reason for financial markets to collapse.

10-yr Treasury yields are still only 2%, and 5-yr real TIPS yields are still firmly negative. As the chart above suggests, this implies that the market is braced for GDP growth to be miserable (as low as zero, possibly) over the next few years. With expectations like these, GDP growth of only 2-3% this year might actually turn out to be a positive surprise.

Today's FOMC announcement shows that the Fed shares the market's miserable expectations. Everyone, it seems, realizes that the U.S. economy is just not performing well, and there is little reason to expect any meaningful improvement for the foreseeable future.

If there is any silver lining to this cloud, it is the almost-universal agreement that we are stuck in a rut. When sentiment shifts so solidly to one extreme or another, the market becomes vulnerable to even the smallest sign that things are not conforming to expectations. When this might happen is anyone's guess, but I continue to believe that the economy is capable of exceeding the market's miserable expectations, which is why I remain invested in risk assets.

For all the glum news, it's not worse than the market expected, and that's good news.


Gloeschi said...

Everyone knows that people who begin their statement by "everyone knows" are short of arguments.

"...where it [GDP] could have been if fiscal and monetary policy had been more growth-friendly"

Um, seriously? What part of 10% fiscal deficit, ZIRP, QE infinity is not "growth-friendly"?

Anonymous said...

"Everyone knows that people who begin their statement by "everyone knows" are short of arguments."

That was funny.

McKibbinUSA said...

Let's face it, the US economy is tanking -- to date, we have not seen anything close to a "recovery" in real working wages, real home values, or the employment to population ratio -- the good news is that a tanking growth rate means declining equity values, which spells B-U-Y -- now is the time to build one's equity portfolio with dividend and rent-earning equities on the cheap -- the growth will return eventually, but likely not for at least 25-30 years -- that's where we are -- best to accept reality for what reality has to offer...

marcusbalbus said...

you have convinced me you are a computer program. nothing else would explain such mindless panglossian behaviour, militantly almost, over the past years.

Benjamin Cole said...

Everyone realizes that the very weak GDP growth (-.5%) reported for last year's fourth quarter was an anomaly and not a harbinger of recession, the product of sharp defense cutbacks --Scott Grannis.

Wel, I guess Scott has become a Keynesian.

Personally, I think the smaller federal outlays are, the better.

A case might be made for federal outlays that go into infrastructure---bridges, roads, power plants, industry parks and sewers etc---but the military?

Military outlays are a pure drag and black hole, economically speaking.

I am astonished at this sentiment of Scott Grannis'.

Anonymous said...

Investing in stocks is all about the time frame. A brother-in-law has had his entire retirement fund in equity index EFTs for 10 years. He believes in America and the S&P 500 is America. You believe in it or not.

As long as the money supply is going up corporate profits should hold up and in turn hold up the market. If the economy doesn’t organically start to grow by the time artificial stimulus can no longer be maintained, look out below.

I hope for a charge up to S&P 1515 tomorrow or very soon. That would be a good place to short the market for a pull back of unknown time or depth before the charge up to the all time high of 1576. This is just my scenario for reference for trading; does the market conform to my scenario or not day by day.

The economy is a whole ‘nother scenario. The 51% don’t care about the economy and does care about equalitarianism. This is Europeanism, liberalism, progressivism, socialism. And elitism. It is different names for government supremacy and that never ends well. The best thing that could happen for the U.S. is for Europe to tank. Then we might be able to reverse the European philosophy that has come to dominate the U.S.

Rick said...

The average guess of the "experts" was 1.1% growth. BEA reported no growth. The equity markets remained stable for most of the day because they were waiting for the Fed release at 2:15 pm EST.

If the sequester gets implemented in March, then another $40-$50 billion will be cut from defense spending between then and September 30th. Thus, 1Q-13 could see another down month in that category.

Although the large drop in the growth of non-farm inventories was a major drag on the GDP, the large increase in the same account in 3Q was a major reason for the above-expectations 3.1%. I did not see any discussion of that factor here.

Benjamin - I think that Scott was merely pointing to the accounts that had the largest declines - not making a statement on policy.

Gloeschi - those policies are not growth friendly here because they are offset by a new federal tax and regulatory policy that has created a lot of disincentives to invest capital. One example is communications where the large service providers have not increased their aggregate cap-ex spending since 2011. Instead, most publicly traded companies are opting to buy back their own shares rather than make additional capital investments in their businesses.

McKibbinUSA said...

@Joseph Constable, most writers use the term "egalitarianism" rather than "equalitarianism" -- more at:

I agree with your major points...

McKibbinUSA said...

@Benjamin, you said, "Military outlays are a pure drag and black hole, economically speaking." You are spot on!

Divsurgeon said...

Good to see you are starting the year as an optimist.

Coastallife22 said...

Nice Post for all.