Surge in Inventories Buoys Year-End Growth

Real GDP growth surged at a 6.9% annual rate in the fourth quarter, buoyed by a surge in inventories. The rebuilding in inventories alone accounted for 4.8% of the 6.9% gain during the quarter. Much of the remainder could be attributed to a rebound in consumer spending - it added 2.25% to growth - following a lull over the summer. Spending on services drove those gains and many goods remained in short supply. The housing market contracted slightly in response to shortages. The result left prices skyrocketing. Government spending fell at all levels as pandemic-related enhancements to unemployment insurance lapsed and state and local governments were slow to spend windfall revenue gains and transfers from the last round of pandemic aid. Rules governing the transfers were murky. The trade deficit widened slightly with imports picking up slightly faster than exports. Many of those imports were used to replenish store shelves.

Growth for all of 2021 averaged 5.7%, the fastest pace since 1984. Consumers spent aggressively on everything they could to ease the monotony of quarantines, upgrade their homes and dip their toes back into traveling. Businesses invested, albeit heavily in the technology to support the shift from in-person to online activities, including working from home.

Government spending eked out a small gain, with aggressive stimulus at the federal level mostly offsetting a cut in spending at the state and local level. The persistence of online as opposed to in-person school actually saved many school districts money that has yet to show up in spending at the state and local levels. Indeed, the shortfall in spending by state and local governments has been a bit of a mystery, given the surge in tax revenues that they have seen and transfers in the last round of pandemic related stimulus approved by Congress last March. This is an area we could see significant growth in 2022, even as federal funding dries up.

The trade deficit widened fairly sharply in 2021, as growth in the U.S. outpaced that of many of our trading partners and imports surged. Indeed, at least a portion of the supply chain problems that many producers endured during the year may be traced to the surge in demand, especially for big-ticket consumer durables. The ports were swamped with a surge in shipments, which revealed how inefficient our ports are relative to newer ports in Asia.

A recent report by the Commerce Department revealed how dire the shortage of computer chips remains. It revealed that U.S. manufacturers' median chip inventories have plummeted from a 40 days’ supply to less than five days in the fall of 2021. That means any hiccup, from an outbreak to an extreme weather event, could idle production. Vehicle producers in the U.S. have already had to shut some plants temporarily in January, as chip shortages worsened. Those losses, combined with the large disruptions due to both demand and supply from the Omicron variant, suggest a slow start to 2022. Our forecast is for real GDP to come to a near halt, with an annualized growth rate of little more than 1% in the first quarter of 2022. That is less than half the pace we saw during the Delta wave last summer.

Separately, the Commerce Department released data for durable goods orders in December. The preliminary report for the month showed a 0.9% drop following a sharp upward revision to 3.2% in November; a swing in aircraft orders was the primary reason for the volatility.

Core durable goods orders, which strip out the volatile aircraft and defense components and are a better indicator of business investment plans, were actually flat after rising 0.3% in November. Orders for motor vehicles and parts, primary and fabricated metals lead overall gains.

Core shipments were stronger, rising 1.3% and suggest that real GDP could be revised up for the quarter. Rental companies scrambled to replenish inventories that were depleted during the pandemic. Business investment outside of tech and motor vehicles has not been stellar. Chip shortages have limited access to new machinery.

Finally, initial unemployment claims fell to 260,000 for the week ending January 22 but remained well above the lows hit in December. Initial claims for the previous week were revised up slightly to 290,000. This ups the ante on a very weak employment report for the month of January and likely understates the weakness for the month as a record number of people sickened from Omicron or were caring for others who were sick, according to the Household Pulse survey at the start of the month.

Bottom Line
Last year ended on a high note as inventories were finally replenished. Those gains were not enough to stem shortages and derail inflation. Growth is poised to slow fairly dramatically again in the first quarter. The Federal Reserve is finished riding the rollercoaster on growth and ready to raise rates, which it seems committed to starting in March.

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