GDP, or gross domestic product, for the second quarter was just released, and it impressed with a year-over-year increase of 2.6% (or Q2 annualized increase of 2.4%). The healthy increase was due to various factors including the almighty consumer who Increased spending on both services and goods, although services are still far outpacing goods expenditures.
It’s amazing how long that post-pandemic, pent-up demand is holding up. I think cooling prices are also helping.
Nonresidential fixed investment also increased, and this includes investments in equipment, structures and intellectual property products. I watch this closely, because it tells me that investors and businesses are confident enough in the economy to expand or take on new ventures — and this bodes well for future growth.
State and local spending similarly increased due to increases in government employee compensation and investments in structures. Finally, private inventory investment also increased.
As I’ve mentioned in previous narratives, the increase in the “investment of structures” is primarily due to spending in electric vehicle manufacturing plants and semiconductor plants. The driver behind this accelerated level of both public and private investment is due to the Infrastructure Law (roughly $25 billion toward EV production) and the CHIPS and Science Act (roughly $50 billion for semiconductor manufacturing).
In the first three months of 2023, structures investment increased 78% on an annualized basis, according to Wells Fargo.
This public investment is spurring private investment, and I would argue that although ballooning deficits are worrisome, this kind of fiscal spending is favorable. First, it is buoying the U.S. economy and raising the probability of a “soft landing” (e.g., no recession) as the Federal Reserve battles Inflation.
Second, the unleashing of public and private dollars toward U.S. global competitiveness and long-term growth is truly an investment that is very likely to have a high return on investment in the medium and long run.
This is the first estimate for GDP and revisions will follow. Typically, those revisions aren’t more than one- or two-tenths of a percentage point. And given this upside surprise to GDP, the Federal Reserve is no longer forecasting a recession this year.
Because of the more-than-usual gyrations in the economy right now, we’ve started including forecasts for GDP and unemployment, which I have to say is pretty bold for any economist to do right now. The accompanying table includes actuals for 2021 and 2022 so you can compare previous economic growth rates and unemployment to forecasts for this year and next.
There, you can see that during the pandemic, the U.S. grew by 5.9% in 2021, which is more than double our trend growth rate of about 2%. That, of course, is due to both monetary policy (reduced interest rates) and fiscal policy (stimulus checks and other emergency government spending).
Yes, one of the negative externalities has been inflation, but monetary and fiscal policy are both blunt tools and the immediacy and severity of the pandemic triggered aggressive interventions. And to be fair, inflation was not just caused by government stimulus, as is evidenced by inflation in other countries with and without stimulus.
Thankfully, U.S. inflation is now retreating at a much faster rate than most of our peer nations, and that is due to resolving of supply-chain bottlenecks and higher interest rates (somewhat) taming demand.
But just like the pandemic-induced stimulus overshot with higher-than-normal GDP growth rates and inflation, the “medicine” to normalize the economy could potentially drag down economic growth, such that we have slower growth rates in coming quarters. With last week’s stronger-than-expected GDP reading, a slowing growth rate later this year and into 2024 is looking more likely (as opposed to a recession).
Thus, the forecasts for a 1.7% GDP (real, or inflation-adjusted) growth rate for 2023 and a 0.5% growth rate for 2024. That may seem low given the Q2 data, but one measure that’s been quite prescient and consistently flashing red is the LEI, or Index of Leading Economic Indicators.
One Wells Fargo report shows how various iterations of this measure still spell a U.S. economic downturn. The good news is that typically such slowdowns cause much higher unemployment rates, and this has simply not materialized due mostly
to the demographics I have previously addressed. Unemployment in June did tick up in the U.S., Colorado and El Paso County, but all three rates are still below 4%, and as the forecast table shows, the 2024 rate assuming a slowdown in the economy is 4.4% — by all standards a still very tight labor market. This is further substantiated by the ratio showing we still have only 0.6 workers for each open position. Many job openings would need to go away alongside many layoffs to close such a gap. Similarly, both initial and continuing jobless claims remain low by historic standards.
Another astounding labor market statistic is the increase in nonfarm payrolls, which have grown by nearly 1.7 million so far in 2023. By way of reference, nonfarm payrolls increased between 2.2 million and 2.7 million each year between 2017 and 2019.
U.S. job openings did decline in May to 9.8 million openings down from 10.3 in June, although openings remain about 40% higher than they were pre-pandemic. Likewise, our local ratio of available workers to job openings eased somewhat from 0.43 workers per job in May to 0.54 in June. A measurable loosening of the local labor market, but still a reality of roughly half a person for each posted job within our region.
A notable change from last month relates to consumer sentiment, which markedly improved from 63.9 in June to 71.6 in July. The improvements spanned across present and future conditions, mostly due to the strong labor market and cooling inflation. Sentiment improved for all socioeconomic and all age groups except lower-income consumers — and I would guess this has more to do with the erosion of buying power than it does with employment concerns.
Sentiment is still lower than pre-pandemic, but at about the halfway mark between the all-time low of 50 in June 2022 and the pre-pandemic value of 101.
Year-ahead inflation expectations eased to 3.4% and longer-run inflation expectations stayed at 3.1% in the June survey. Although Fed-defined “stable” inflation expectations of roughly 2% would be better, the simple fact that consumers expect disinflation is positive. To clarify, disinflation is a decreasing rate of inflation — which is what we are experiencing now. This is different than deflation, which is a decrease in the general price level. The latter happens when there is a widespread decrease in demand such as during The Great Depression when prices fell on average 7% each year from 1930 to 1933.
Our current disinflation is moving at a nice clip with a June rate of 3% falling from 4% in May. Most economists think that the last leg down to 2% will take a bit longer, and in the meanwhile, prices still feel much higher than pre-pandemic, if you ask most consumers.
That makes me think of the guy in front of me at the grocery store the other day. The cashier gives him the total bill and he says, “and for what??” I think he was dismayed at paying $137 for two bags of groceries. I know I am a freak of nature when I have to stop myself from starting a discussion about the cumulative effects of inflation and how food inflation has been particularly bad. My son was with me and gave me the “you-don’t-need-to-say-anything” look all parents know well. I did refrain, by the way.
Interest rates just increased 0.25% as expected to 5.5% — the highest rate in 22 years. The stellar Q2 GDP report puts the Fed in an interesting position. On the one hand, they have a higher probability of touting a soft landing — taming inflation without triggering a spike in unemployment (which is due more to demographics) or a recession. On the other hand, further decreases in inflation may prove difficult the way consumers are spending. Recent increases in petroleum prices, which are largely out of the Fed’s control, may also hinder further improvements in inflation.
Although housing is certainly not at the level it was during the pandemic, the overarching theme of nationwide and local supply shortages continues to sustain building levels. New and existing home sales and building permits remain strong. The mitigating forces of higher interest rates can be seen in the now single-digit increases in median home prices — a welcome change although prices are still about 40% higher than they were pre-pandemic.
Commercial real estate vacancy rates notably increased from 2023 Q1 to 2023 Q2. Office vacancy rates increased from 10.0% to 10.9% quarter-over-quarter, medical office increased from 8.2% to 9.3%, retail vacancies increased from 4.4% to 4.8%, and industrial rates slightly decreased.
For all categories, lease rates per square foot increased modestly. I’ve often addressed the concerns around office space. A recent Bloomberg article sites that the amount of office space in the U.S. is declining for the first time in history with lower levels of construction and almost 15 million square feet being demolished or converted to other uses including 45,000 apartment conversions.
I was recently in Los Angeles in blistering heat and kept counting my blessings for living where we do. Robust economic growth since 2014, incredible topography and still small enough so that people actually look at each other and talk when they are out and about. I like our “Smallerado Springs.”
