May 29, 2013
You get a one month jump in housing prices and suddenly the economy is booming. Okay, that’s not quite fair, housing prices have been rising at a pretty rapid pace for a year now, but still does the Post really want to claim that the economy is “surprisingly robust?”
Let’s remember where we stand. The economy grew at a 2.5 percent annual rate in the first quarter. Given the economy’s trend rate of growth is between 2.2-2.5 percent, this means that we were at best making up lost ground at the rate of 0.3 percent annually. The Congressional Budget Office estimates that the economy is 6.0 percent below its potential. At the first quarter growth rate it will therefore take us at least twenty years to get back to potential GDP.
But it gets worse. Much of the growth in the first quarter was due to a jump in inventories. Final demand grew at just a 1.5 percent annual rate. Investment in new equipment is only slightly above year ago levels. Non-residential construction has been falling in recent months.
The second quarter does not look a whole lot better. Retail sales fell 0.5 percent in March. They only made up 0.1 percentage point of this drop in April. The April job growth numbers were not bad, but because of a sharp drop in the length of the average workweek, there was a drop in index of total hours that equaled the largest in the recovery.
In addition to the run-up in house prices, the optimism rests on rising stock prices and a jump in the latest consumer confidence numbers. Not surprisingly, most of the rise in the consumer confidence index was due to the expectations component. This component is highly erratic and has little relationship to consumption. The current conditions index also rose, but not by anywhere near as much and not to levels higher than it has been in the past.
The article concludes with a word of caution:
“For the economy to continue growing even as the sequestration and tax increases have their full effects, higher housing prices will need to translate into more home construction, higher stock prices will need to translate into companies making new investments, and consumers’ higher level of confidence will need to translate into spending more money.”
Actually, just about every part of this is wrong. Construction remains depressed because vacancy rates are still near record levels, albeit down somewhat from the peaks hit in 2009-2010. As long as there are so many vacant units that could be rented or sold, new construction will remain below normal levels.
Stock prices have very little relationship to investment. The investment share of GDP hit its post-war peak in the late 1970s when the ratio of stock prices to trend corporate earnings was at unusually low levels. The investment share fell sharply in the 1980s even as stock prices and PE ratios soared. The stock market actually has a much larger impact on consumption through the wealth effect than it does on investment, hence the late 1990s consumption boom.
Finally, consumption is actually quite high. The savings rate is under 4.0 percent, well below its post-war average. If anything we should be concerned that consumption is too high, meaning that baby boomers are not saving enough for retirement.
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