US growth estimates for 2015 decline, and rightly so
Growth estimates for the full year are now diving to under 3% due to weakness in early Q2 data. Meanwhile the Federal Reserve is having difficulty deciphering what this means for interest rate policy. For now, however, policy divergence, remains the guiding storyline.
I am in the middle of some numbers crunching on data trends for output and personal consumption. At the most basic level, the trends are good. For example, if you look at the rolling 12-month GDP figures, through Q1 2015, the increase in real GDP in the US was 2.99% vs. 2.38% through Q4 2014, 2.70% through Q3 2014, 2.59% through Q2 2014 and 1.89% in the year ago period Q1 2014. 3% trend growth is a good number for an economy that many believe is beset by secular stagnation.
When you look at the same figures for personal consumption expenditures, they yield the same upbeat tone. PCE up 3.03% through last quarter, 2.85% through Q4, 2.67% through Q3, 2.37% through Q2 and 2.13% through Q1 2014. I look at PCE numbers as reflective of the underlying trend since consumption is the vast majority of GDP. And these figures show consumption growth increasing every quarter for the past four on a rolling 12-month basis.
If you add in record-low jobless claims numbers and 200,000+ additions to non-farm payrolls for well over a year, you can see the optimism from some circles. The US economy had clearly accelerated at some point in the last twelve months. The problem is the recent deceleration. Economists are now projecting 2.4% growth in 2015, down from 3.2% that was projected at the end of Q1. Much of this comes from the fact that Q2 data have been weak. The Atlanta Fed’s nowcast is trending at 0.9% so far, for example.
Clearly two consecutive quarters of weaker consumption growth would be what should make forecasters concerned. And we haven’t seen that yet. Q4 2014 PCE growth was 4.4%, while Q1 was a weak 1.9% and the Atlanta Fed is projecting 2.6% for Q2. So it isn’t clear to me where the economy is. I think it has weakened and that bond yields will follow that weakness. But we could yet see a revival in consumption that keeps the economy moving along into 2016. The key will be the evolution of the oil market.
Investors are fixated on oil production levels, numbers somewhat manufactured in the US by the EIA. Drilling rig count has declined rapidly, and so people are looking for the payoff for when oil flow declines because they see the excess supply as being a US phenomenon due to increased production from tight oil formations. The truth of course is that, now that oil prices have fallen, companies have to produce more to maintain revenue against their fixed costs and that means that it is not just the US where excess supply is coming online. We are seeing it in Canada, Russia, Saudi Arabia and everywhere else in between. In the second half of the year, this scenario is going to come to a head – and the direction it takes will have a meaningful impact on the course of US GDP growth because we are going to see market death for a number of competitors or a real stabilization in prices.
The Fed has a quandary then. Its bias is toward tightening and it is looking for an excuse to raise rates at least once, if only to test its tools for dealing with raising rates with so many excess reserves in the system. But, as a testament to the Fed’s data-based approach and the lack of forward guidance, even the dovish Charles Evans of Chicago is saying that “I think we are going to go meeting-by-meeting to make that decision” on a rate hike. He says that if Q1 bad data were temporary and inflation were poised to go up “you could imagine a case being made for a rate increase in June”. This is what a man who wants rate hikes only starting in 2016 at the soonest is saying. That tells you that the bias is toward raising rates then.
For now, then, policy divergence is still the storyline, with the US in a tightening mode and every other major central bank neutral to loosening. The Atlanta Fed GDPNow model was yielding a 2.3% annualized GDP growth forecast at this time last quarter before cold weather and poor data caused the forecast to plunge to 0.1%. That means the 0.9% number is relatively meaningless in terms of what eventually happens in Q2. It is just telling us that the data thus far have been weak and that the Fed should use these data to gauge whether to raise rates.
I am still in the camp that says the decline in oil prices has shifted income to those with a greater marginal propensity to consume. And so I expect personal consumption to revive from its 1.9% annualized figure from Q1. I don’t expect things to revive as they did in 2014, however. The pace of growth has weakened, rolling 12-month GDP and consumption growth figures will begin to decline, and long-term bond yields will come to reflect this weakness whether or not the Fed raises rates.