The initial estimate of United States third quarter GDP was released today. The economy grew at 2.5 percent, driven mostly by consumption growth of 2.4 percent and investment in equipment & software of 17.4 percent. Growth was slightly augmented by investment in structures and the improvement in net exports. The government sector’s impact on GDP was zero, and the one detractor from growth was due to a fall in inventory stocking.
The jump in consumption growth from second quarter’s rate, which was 0.7 percent, implied that the savings rate fell. The BEA measure of the savings rate fell a full percent, from 5.1 percent to 4.1 percent. The economic growth estimate of 2.5 percent, with the approximate job growth estimate of about one percent, implies that output per worker growth was positive again in third quarter. It was negative in the second quarter.
What does all this mean?
Turning to the output per worker first, this measure of gross labor productivity, which contracted in quarters 1 and 2, increased in third quarter. Increasing labor productivity is a key driver of per-capita income growth, and it is a feature of increased innovation in production. It appears likely now that the negative labor productivity of quarters 1 and 2 were just temporary, and that productivity is returning to trend. If true, economic growth will benefit.
I am pleased to see the investment in structures and equipment/software. Investment raises the productive capacity of the future economy, thereby providing greater choice for either investing or consuming in the future.
The rise in consumption and fall in savings worries me. While it benefits current growth, it is likely to prolong the balance sheet rebuilding that I feel is necessary to ensure healthy growth in the future.
The question of which way the savings rate will go is also one of the big macroeconomic forecasting challenges of the day. Some Economists argue that because of the Great Recession, households will see that they need to rebuild their balance sheet, in this case mostly by reducing liabilities. Some Economists argue that the baby boomer generation, still very influential on the economy, is culturally incapable of saving. Both arguments have merits, and it is a tough call.
From a forecasting perspective, it is hard for the econometrician to see the factors that might drive the decision wether or not to save. The relevant factors are likely to include: household structure (married or not, kids or not), age, employment history, wealth level, debt level, type of debt, education level, and skill level.
Our forecast for third quarter GDP, 0.6 percent, was really low, and much of the error stems from our consumption/savings forecast. Our forecast presumed a similar savings rate to second quarter, and thus a very slow consumption growth rate. Given that it is difficult for me as a forecaster to see the above-mentioned savings-decision factors, I am not sure if my forecast was based on what was more likely, or if it was simply what I hoped.
Most indicators of household debt indicate to me that debt levels are still too high. As a result I hold to my belief that long-run United States economic growth will rise if households save now, i.e. pay off their liabilities. However, I am not sure if or when this will happen.