The Commerce Department rounded up more economic reports than usual for a data dump on the Wednesday ahead of the Thanksgiving holiday. Recovery is showing signs of weakening as we move from summer into fall. Cooler temperatures, which shuttered outdoor venues, a drop in unemployment benefits and a jump in COVID cases put a damper on spending and confidence. Consumer confidence about the future plummeted in both October and November; the willingness to make big-ticket purchases of goods, which had driven the rebound in spending, was hardest hit.
Third Quarter GDP Robust
Real GDP held at the record breaking, 33.1% (annualized) pace in the third quarter. Upward revisions to business investment and single-family housing construction were offset by downward revisions to state and local government spending, inventory rebuilding and consumer spending. The trade deficit widened, with upward revisions to both exports and imports.
The U.S. rebounded at a faster rate over the summer than many of its trading partners, although much of that strength was due to the initial jump in activity following lockdowns in May and June. That boosted the level of spending going into the third quarter and buoyed third quarter averages. Consumer spending actually slowed during the summer as the $600 per week supplements, unemployment benefits and stimulus checks lapsed.
Fourth Quarter GDP Looks Weak, First Quarter Contraction Likely
Incoming data on the current quarter is mixed but still in the black. The strongest data showed up in the report on durable goods orders and shipments. Durable goods orders rose 1.3% in October after being revised up for the month of September. A jump in both nondefense and defense aircraft added to those gains. Nondefense aircraft orders are still off sharply from a year ago and even negligible relative to the level prior to the crisis and Boeing’s 737 problems.
Core durable goods orders, which strip out aircraft and defense, rose 0.7% from September, about even with year-ago levels. Core durable goods shipments increased 2.3% during the month but are still down 1% from a year ago. The gains in business investment are being driven by investment in computers and communications equipment, which have enabled more people to work from home. More traditional investments in plant and equipment remain weak, reflecting the uncertainty over the outlook.
The data on incomes and consumer spending were much less encouraging. Disposable incomes dropped 0.8% in October after adjusting for inflation. A loss in the extra $300 per week benefits paid out of FEMA funds and a sharp decline in temporary workers on the 2020 Census offset wage and salary gains for the month. Consumer spending rose 0.5% after adjusting for inflation, the weakest pace since spending cratered during March and April. Spending at restaurants and bars contracted during the month, while consumers continued to catch up on medical appointments delayed by lockdowns. There was also an increase in spending on transportation and recreational services. The saving rate fell a full percentage point to 13.6% in October, as unemployed workers continued to exhaust what they had after unemployment insurance and other pandemic benefits dried up.
The trade deficit in goods for October continued to widen, with imports overshadowing exports. Imports of vehicles and consumer goods were particularly strong in October, as vehicle dealers and retailers continued to restock in the wake of lockdowns. We expect to see inventories rebuild in the fourth quarter, despite a shortage of shipping containers coming out of China. That is where the bulk of shipping containers are manufactured and one of the few categories that has not recovered in the wake of Chinese lockdowns that started in January.
Exports were weak across the board. Those figures are not likely to improve much in November, as much of Europe has now been forced into some form of lockdowns to contain the rapid spread of COVID.
On net, real GDP growth is still poised to rise in the fourth quarter but at a negligible pace. Our forecast now shows growth rising at about a 1.5% annualized pace. That figure assumes a slight contraction in consumer spending which is offset by a rise in business investment and inventories. Spending at the state and local levels is also poised to contract as revenues lost to the COVID crisis trigger more belt-tightening and more schools are closed in response to the surge in cases.
Much depends upon the surge in cases following Thanksgiving. Sadly, it looks like too many opted to travel instead of staying home, which could exacerbate the pace of infections as we move into December. The surge is not expected to crest until we get into January. Real GDP now looks poised to contract again in the first quarter.
The degree to which spending eventually rebounds depends upon a host of issues from additional fiscal aid, which now looks like it will be much smaller than initially hoped, to the uptake and complex logistics of distributing a vaccine. The surge in saving by high-wage households will no doubt unleash pent-up demand, but a rising tide does not lift all boats. The wounds inflicted by COVID could deepen if more is not done to blunt the blow to employment and incomes.
The overall and core PCE (Personal Consumption and Expenditures) deflator both flatlined in October. A drop in prices at the gas pump helped to push overall inflation lower. Food prices also moderated but remained elevated relative to a year ago. This is especially hard on households that have liquidated their saving now that supplement and stimulus checks have lapsed. The overall PCE and core PCE deflators slowed to 1.2% and 1.4% on a year-over-year basis, respectively. That is the lowest pace since July and well below the 2% target of the Federal Reserve.
The Fed has now adopted an average inflation target, which means we would need to see inflation move above the 2% target for a period of time before the Fed considers raising rates. That is not likely to occur anytime soon. Indeed, it looks as though short-term interest rates will remain close to zero until the mid-2020s. It is notable that the New York Federal Reserve President John Williams did not rule out negative interest rates in an interview with The Wall Street Journal yesterday. The Fed has grown more concerned about the pace of the recovery in the absence of more fiscal stimulus.
Unemployment Claims Rise
Claims for both traditional unemployment insurance and special pandemic unemployment insurance totaled 1.1 million the week ending November 21. That marks the second week of increases in a row, which means the labor market is now moving in the wrong direction. Gains were largest in states worst affected by surging COVID cases, hospitalizations and renewed curbs on indoor dining and schools. Illinois, Indiana, Iowa, Kansas, Michigan, Minnesota, Wisconsin and North Dakota all posted outsized gains.
Most states provide 26 weeks of regular benefits. We are now 37 weeks into the crisis, which means many workers are exhausting unemployment benefits. The data for recent weeks suggest that some 1.5 million workers have exhausted all of their unemployment benefits, including those available for emergency purposes due to the pandemic. Hence, the long lines at food banks and the growing ranks of those who cannot feed their families as we enter their height of the holiday season.
The situation will no doubt get worse if Congress fails to act to provide additional aid before year-end. Even then, those most in need are not likely to get a government check until late December or early January - an eternity for the millions upon millions who are suffering from the pandemic.
The economy is weakening after surging over the summer. We expect the loss in momentum to show up as a sharp slowdown in growth for the fourth quarter, then a contraction in the first quarter of 2021. Any boost in activity we see from travel over the Thanksgiving holiday is expected to trigger an even larger pullback due to the surge in hospitalizations in December.
Copyright © 2020 Diane Swonk – All rights reserved. The information provided herein is believed to be obtained from sources deemed to be accurate, timely and reliable. However, no assurance is given in that respect. The reader should not rely on this information in making economic, financial, investment or any other decisions. This communication does not constitute an offer or solicitation, or solicitation of any offer to buy or sell any security, investment or other product. Likewise, this communication serves to provide certain opinions on current market conditions, economic policy or trends and is not a recommendation to engage in, or refrain from engaging, in a particular course of action.