HIGHLIGHTS
- U.S. and Canada GDP growth figures disappoint
- Past estimates of U.S. growth take a hit - has the recession already begun?
The current state of the Canadian and U.S. economies was on display this week and the results were nothing to cheer about. In Canada analysts were caught off guard by a fall in economic activity in May, which brought the tally of monthly GDP declines to three out of the last four. And in the U.S. it wasn't just the advanced estimate of second quarter GDP growth that disappointed expectations but the Bureau of Economic Analysis' revisions of the last three years that painted a much more dour picture of the U.S. economy than previously thought. While U.S. payrolls performed slightly better than consensus with a drop of 51K jobs compared to expectations of -75K, the 0.2 percentage point rise in the unemployment rate to 5.7% erased any optimism that might have been drawn out of the report.
You call that a boost?
At first glance the reading on second quarter U.S. GDP growth of 1.9% might have been considered a positive for markets. Amidst skyrocketing energy costs, rapidly falling household wealth and rising unemployment, any number significantly into positive territory might be cause for celebration. But when you consider that it took place along side the dispersal of $71 billion in tax rebate checks, which led to an 11.3% annualized jump in real personal disposable income - the result is less impressive. And while the headline growth number fell just short of market expectations it was really the 1.5% turnout on personal consumption that left the most to be desired. Year-over-year PCE growth remained on a downward trend in spite of the stimulus checks, falling to its slowest pace since 1991.
In an earlier report we wrote that the deceleration in retail sales in June pointed to consumption growth underperforming our original forecast. This was confirmed in the numbers released this week. While it is a bit early to judge the full impact of the fiscal stimulus package as households may have held off spending their checks (pushing some of the impact of the stimulus into the third quarter) this is a risky horse to bet on. It is equally likely that some of the bounce in spending observed in the first quarter was in anticipation of the stimulus checks. Keep in mind that the fiscal stimulus package first started making headlines back in January, giving households adequate time to plan how they were going to spend their windfall. What's more, spending did see a jump in May, the month that the bulk of the stimulus checks went out, before decelerating considerably in June. What we do know is that income growth in the third quarter will likely be negative following the temporary bounce from the stimulus and few signs point to a surge in new spending in the third quarter.
Exports save the day but for how long?
The less-than-stellar contribution from consumer spending was overshadowed by the strong performance of exports. Exports grew by 9.3% and made up over 60% of the total growth in the quarter. With imports falling for the third straight quarter and four out of the last five, net-trade has been a life-line to U.S. economic growth. However, struggling imports are nothing to get excited about. Imports are now down 1.7% from a year ago. Since 1970 this has never taken place outside of a U.S. recession. Moreover, pinning hopes of continued U.S. growth on the export sector is becoming an increasingly shaky proposition. Signs of slowing global growth are popping up everywhere and it is only a matter of time before U.S. exports also feel the pinch.
The one positive note to come out of the GDP report was the $62 billion drawdown in business inventories, which although it was a negative to second quarter GDP growth is potentially a positive for growth next quarter. Even while we don't expect businesses facing a continued slowdown in sales to be rebuilding inventories, it is the change in the change in inventories that matters for GDP growth and businesses would have to drawdown inventories by even more than $62 billion in order to subtract from growth. It's not much, but we'll take it.
Revisions = Recession?
Any thoughts of "hey things aren't so bad after all" were soundly squashed by the BEA's revisions to GDP estimates. Each of the last three quarters were revised down resulting in a new first quarter GDP estimate that was 0.5% lower than originally published. The biggest revision (-0.7% annualized) to the final quarter of last year brought the quarterly growth rate into negative territory. While we have been critical of placing too much emphasis on the sign in front of growth numbers close to 0.0% the psychological impact of an actual decline in GDP was enough to cause markets to shudder and to bring back talk that the U.S. had already entered into recession. While we'll have to wait likely until next year before a formal announcement is made, as we've said before, if it walks like a duck and quacks like duck...
The real concern though was the downward revisions to consumer spending on services. Up until now, analysts were either touting the stabilizing impact of services spending - as it contains a number of non-discretionary items - or were becoming increasingly puzzled by the continued outperformance of the series through the perfect storm affecting household incomes and finances. However, this strength now looks to be a fiction, which upon receiving better data has all but been erased (remember there are three kinds of lies). Not only was services spending revised down by an average of 0.9% in the last four quarters, but it also looks to have become more volatile, bringing into question just how stabilizing an impact it actually is.
Three out of four ain't good
As if we needed any further evidence that the slowdown in the United States is continuing to weigh on economic growth in Canada, May's GDP by industry reading went ahead and provided it anyway. Economic activity contracted by 0.1% (-1.3% annualized) in the month, led by a fall in oil and gas extraction. While manufacturing production eked out a small gain in the month it remains the biggest laggard on a trend basis - down 5.5% from a year ago. The services side of the equation has so far been keeping growth in positive territory but it too was flat in the month and is showing clear signs of decelerating. All told, the Canadian economy is well into excess supply territory and looks to be walking a fine line between expansion and contraction. We continue to expect a modest positive number on GDP growth for the second quarter, which will avoid the recession title. But recession or not, annual growth is expected to come in around 1% for 2008, the slowest pace since 1992 - and hardly something to crow about.
UPCOMING KEY ECONOMIC RELEASES
U.S. Personal Income and Spending - June
Release Date: August 4/08 May Result: income +1.9% M/M, spending +0.8% M/M; core PCE deflator +0.1% M/M, +2.1% Y/Y TD Forecast: income +0.1% M/M; spending +0.3% M/M; core PCE deflator +0.3% M/M, 2.3% Y/Y Consensus: income -0.2% M/M; spending 0.5% M/M; core PCE deflator 0.2% M/M, 2.2% Y/Y
After the lofty rebate cheques driven advance seen in U.S. personal income and spending in May, we expect both indicators to fall back to more sustainable levels in June. However, we think that in June there will be a last gasp boost to income from the remainder of the stimulus cheques. With the support of the fiscal stimulus package largely in the rear-view mirror, the road ahead for U.S. consumers is likely to remain difficult, as they contend with the headwinds of a deteriorating labour market, high energy prices, wealth reduction from the prolonged correction in the housing market, and tighter credit conditions. As a result personal income and spending are likely to be subdued as U.S. consumers continue to grapple with the difficult economic environment. In terms of inflation, core PCE prices are expected to increase at a rather robust pace of 0.3% M/M, raising the annual core PCE inflation rate to 2.3% Y/Y, which will be its fastest pace of annual growth in over a year.
U.S. FOMC Interest Rate Decision
Release Date: August 5/08 Current Rate: 2.00% TD Forecast: 2.00% Consensus: 2.00%
We expect the Fed to keep the fed funds rate unchanged at 2% when the FOMC meets on August 5. The language of the accompanying statement will likely by less hawkish than in the last communiqué, as the Fed attempts to temper the growing market expectations for higher rates by the end of the year. The Bank's economic assessment is expected to change little, since the recent economic data have continued to be weaker and credit conditions remain tight. Similarly, we are unlikely to see any profound shifts in the language on inflation, even with the retreat in crude oil prices (and to a lesser extent fuel prices at the pump) in the past month. In term of dissent, recent remarks by Philadelphia Fed President Plosser suggest that he is likely to join Dallas Fed President Fisher in advocating for a tighter monetary policy stance, thereby increasing the risks of a joint dissent. Looking ahead, we believe that the tension between curtailing the elevated level of consumer price inflation and resuscitating the ailing U.S. economy will likely force the Fed to remain on hold in the near to medium term.
Canadian Employment - July
Release Date: August 8/08 June Result: -5.0K; unemployment rate 6.2% TD Forecast: +10K; unemployment rate 6.2% Consensus: +5K; unemployment rate 6.2%
After a surprising drop in the number of people employed in June, we expect the Canadian labour market to rebound modestly in July and add 10K jobs to the employment ranks. The unemployment rate is likely to remain unchanged at 6.2%. On the whole, despite the expected turnaround in the Canadian labour market in July, the sluggish pace of Canadian economic activity will continue to limit the extent of any employment gains going forward. Indeed, we believe that the new normal for job growth in Canadian in the coming months will likely remain in the 0- 20K range per month, which is well below the long-term norm of over 20K.
The information contained in this report has been prepared for the information of our customers by TD Bank Financial Group. The information has been drawn from sources believed to be reliable, but the accuracy or completeness of the information is not guaranteed, nor in providing it does TD Bank Financial Group assume any responsibility or liability.
