US GDP report puts nail in the coffin for the recession story

The latest US GDP report was just released showing the US economy expanded at a 2.1% annualized rate in the second quarter of 2019. This was marginally better than expectations for a 1.8% increase, and significantly above the Atlanta Fed’s GDPNow indicator that was showing 1.3%.

The numbers are good

While these numbers may be revised down somewhat in future releases, they are still much higher than one would expect in an economy where the yield curve is partially inverted and the Fed is expected to cut interest rates later in the month. And the consumer numbers were particularly good, with consumer spending rising at a 4.3% annualized pace in the quarter.

I like the real final sales figure that excludes trade and inventory to get a read of the core message the data is sending. And final sales to domestic purchasers rose at a 3.5% annualized pace in the quarter. That’s pretty robust.

Recession and big Fed cuts are off the table for now

What the data are showing is consistent with what I have been saying for weeks now. There is no chance of recession in the near-term. The fade in manufacturing and investment is being more than offset by consumer and government spending. Government spending actually increased at an annualized 5% rate in the quarter. And so the question is: how long can this go on? Which part of the economy gets pulled away from its path: the consumption part that is doing well or the investment part that is doing poorly?

Since consumption dominates the US economy, in the face of very limited credit stress on the business side, I think we are likely to see investment get pulled upwards as businesses realize the trade wars cannot bring the US economy down. Unpacking that, what I’m saying is there is no downward catalyst for further supply side weakness except trade. And so, as long as US consumers continue to spend, we shouldn’t expect the slowdown in business investment to become so pronounced it spills over into a precipitous decline in consumption.

Again, there is no recession in the US. You can take that off the table now. The US is not in a recession, nor is it close to one, no matter how many revisions you get. We have just seen 3.1% and 2.1% annualized growth in the last two quarters. There’s zero chance that the National Bureau of Economic Research would call this “a period of falling economic activity spread across the economy, lasting more than a few months.” Zero

What’s more, is, as I said above, there is little chance that consumption growth will weaken so much in the near-term that a recession can happen in 2019. And so the question now is what that means for Fed policy and interest rates.

My view here is that the Fed will cut less than the market expects. The one rate cut at the end of this month is basically an insurance policy. And if it happens, it will likely get a dissent from the likes of Cleveland Fed President Loretta Mester, who was already against cutting. Going forward, though, I expect more voting FOMC members will view the economy as too robust to cut. They will simply advocate the Fed pause.

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