4th Quarter GDP Shows Economy Heading Upward
Howard Richman, 1/29/2010

Real GDP grew at an annual rate of 5.9% according to the January 29 press release from the Bureau of Economic Analysis:

Real gross domestic product -- the output of goods and services produced by labor and property located in the United States -- increased at an annual rate of 5.7 percent in the fourth quarter of 2009, (that is, from the third quarter to the fourth quarter), according to the "advance" estimate released by the Bureau of Economic Analysis. In the third quarter, real GDP increased 2.2 percent.

The Bureau emphasized that the fourth-quarter advance estimate released today is based on source data that are incomplete or subject to further revision by the source agency (see the box on page 4). The "second" estimate for the fourth quarter, based on more complete data, will be released on February 26, 2010.

The increase in real GDP in the fourth quarter primarily reflected positive contributions from private inventory investment, exports, and personal consumption expenditures (PCE). Imports, which are a subtraction in the calculation of GDP, increased.

Back in November, most predictors expected that GDP would grow at less than a 3% rate, according to a November 16  survey published by the Federal Reserve Bank of Philadelphia:

The U.S. economy will grow over each of the next five quarters, according to 41 forecasters surveyed by the Federal Reserve Bank of Philadelphia. The forecasters see real GDP growing at an annual rate of 2.7 percent this quarter. On an annual-average over annual-average basis, forecasters see real GDP falling 2.5 percent in 2009 before rebounding in each of the following three years. Real GDP will grow 2.4 percent in 2010, 3.1 percent in 2011, and 3.3 percent in 2012. As the table below shows, these estimates are a bit higher than those the forecasters projected in last quarter's survey.

I was the worst predictor. In a November 23 Seeking Alpha commentary, I predicted that GDP would shrink during the fourth quarter. I gave the following reasons:

1. Trade. The widely reported statistic that real GDP rose by 3.5% during the fourth quarter was obtained by multiplying the actual increase of 0.87% by four (by assuming that the same rate of increase would continue for the next four quarters). And that was before the September trade deficit data came in much worse than expected. It will be revised downward when the final estimates are reported.
2. Housing Starts. During the third quarter, first time home buyers moved forward purchases planned for future quarters because they thought that the tax subsidies for first time home buyers would expire. The 0.87% increase in GDP during the third quarter was led by a 5.4% rise in fixed investment in residential structures. But housing starts declined by an "unexpected" 10.8% from September to October. As a result, there will be a decrease in fixed investment in residential structures during the fourth quarter.
3. Exchange Rates. There is no prospect for further exchange rate fall for the dollar. The dollar-euro exchange rate has stabilized at below $1.50 per euro. The dollar-yen exchange rate has stabilized at above 88 yen per dollar. President Obama just came back from an Asian trip during which he failed to persuade Chinese leaders to stop pegging the dollar-yuan exchange rate. Nonresidential fixed investment in the American economy fell by 0.64% during the third quarter. It has now fallen for five straight quarters and is likely to fall during the fourth quarter of 2009.

How did my specific predictions do?

1. Trade. Indeed, as I predicted, the third quarter statistics were revised downward, largely due to a revision of the trade numbers. That's one of the main reasons that the 3rd Q GDP declined from 3.5% in the initial estimate to 2.2% in the final estimate.

2. Residential Fixed Investment. I predicted that residential investment would fall during the fourth quarter, but it actually increased, albeit at a slower rate than the third quarter. The initial estimate of the third quarter growth was 5.4%, which was eventually revised down to 4.4%. The initial estimate of the fourth quarter growth rate in this statistic was 1.4%. The residential construction surge that began during the third quarter is continuing, but at a much slower rate.

3, Exchange Rates. I was correct that the dollar would not continue to fall against other currencies. The dollar-euro exchange rate has indeed stabilized at below $1.50 per euro, the latest is $1.40 per euro. . The dollar-yen exchange rate has indeed stabilized at above 88 yen per dollar. It is now 90.3 yen per dollar. But despite the lack of improvement in the exchange rate, business fixed investment increased at an annual rate of 0.7% during the fourth quarter, the first increase in many quarters, as shown in the graph below:

A large part of the GDP surge was due to an increase in automobile inventories by car dealers. Car dealers apparently waited until the 2010 models were available during the fourth quarter before they replenished inventory following the sales surge caused by cash for clunkers. This surge will not be sustained.

But don't expect falling GDP this year. The economy has turned the corner. Fixed investment started heading up. The rise in residential fixed investment (1.4% annual rate during the fourth quarter) and in business fixed investment in structures and tools (0.7% annual rate during the fourth quarter) bodes well for the future.

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