Economic Update:  GDP Report Shows Slow Growth

06.25.2010

Final numbers for GDP 1st quarter came in at a 2.7% annual rate.  This was under the previous estimate of 3%.   How does this compare to previous periods prior to the Great Recession?   Prior to the 4th quarter of 2007 for example, GDP grew at annual rates of 1.2%, 3.2%, and 3.6% over the three preceding quarters.   Growth in GDP less than 3% will continue to exert pressures on an already fragile labor market.  Consistent growth over 3% will be necessary to see significant reductions in the unemployment rate. Today’s report suggests that national labor market strains will continue.

Figure 1 plots GDP growth and quarterly unemployment rates for the U.S. and Louisville Metro.  As the graph shows, we tend to see gradual declines in unemployment rates when growth consistently exceeds 3% (marked by the brown circle and arrow).   Where GDP growth dips below 3% consistently (marked by the yellow circles and arrow), we see the unemployment rate trending upward.  The most recent large declines in GDP were associated with the large run-ups in unemployment rates.

Figure 1

Under the current scenario, the latest GDP reading is consistent with the U shape recovery we have been discussing.  I continue to believe that the unemployment rate has peaked, and we will continue to see gradual declines.  However, the slow growth that we are currently experiencing will continue to result in somewhat elevated unemployment rates, and consequently it will take some time for rates to drop significantly under 10%.

We are seeing job creation, and I continue to remain confident that positive year over year job changes for Louisville Metro will occur during the 2nd half of this year.   Once we observe consistently positive year over year job changes, the region’s unemployment rate will decline further.   The extent o f that decline will rest with the robustness of regional job creation.  The Bureau of Labor Statistics will release the Metropolitan Report on Employment next week, and we’ll update in the One Weekly.

Productivity and Employment

Another issue on the connection between GDP and unemployment involves productivity.  During recessions, organizations are forced to find ways to increase productivity.   As demand resumes, new production processes and investment in equipment allow companies to meet the increase in demand at payrolls that are lower than pre-recessionary levels.  During the last half of 2009 for example, GDP growth averaged 3.9%, but the nation shed approximately 1 million jobs.  So even though the market value of U.S. goods and services was increasing, employment was going down.   This was reflective of the significant increases in productivity. 

The latest reading on GDP shows another increase in equipment and software, and we have now observed 3 consecutive increases.   The average increase in equipment and software over the past 3 quarters is 11%, and the last time we observed similar increases in equipment and software was 2004.  Prior to 2004, we have to go back to the late 90s for consistent double digit growth in equipment and software.  At that time, we were seeing significant increases in software due to Y2K and the subsequent tech bubble.   I attribute current increases in software and equipment to investments in productivity.   Companies are re-inventing processes and where possible, relying on equipment and technology to increase productivity and ultimately increase profitability.   

Housing and GDP

Today’s report indicated a decline residential investment for the 1st quarter.  Even though the $8,000 tax credit was still in place during the first quarter, residential investment declined.  This does not point to any optimism in the housing recovery.  We now know that new homes sales declined significantly in May.  We will likely see further erosion from GDP during the 2nd quarter of 2010 as a result of continued weakness in housing.   Any excessive supply of homes on the market will continue to suppress new construction, and this will show up in the GDP numbers for the 2nd quarter.

Source:  www.barrons.com

Double Dip?

A possible double dip recession is gaining more steam in the media and with other economic pundits.  Despite this recent support for a double dip, I don’t think we will see a double dip recession.  We will simply observe slow growth, and today’s GDP report is an example of such growth.    The Fed echoed this slower growth with their FOMC announcement this past week:

“Financial conditions have become less supportive of economic growth on balance, largely reflecting developments abroad. Bank lending has continued to contract in recent months. Nonetheless, the Committee anticipates a gradual return to higher levels of resource utilization in a context of price stability, although the pace of economic recovery is likely to be moderate for a time.”

Source:  www.federalreserve.gov

Suggestions

If you have any suggestions on future columns or research about specific industries or other economic data, please send me an email at udufrene@ius.edu.

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Uric Dufrene.

Uric Dufrene, Ph.D. holds the Sanders Chair in Business in theSchool of Business at Indiana University Southeast. He conducts research on local and regional economic trends, and teaches corporate finance at the undergraduate and graduate levels. He previously served as dean of the School of Business.