U.S. Emerges from Recession with 3.5% GDP Growth in Q3

Out of the Trough

GDP grew 3.5% in the second quarter after declining for four torrid quarters in a row. As far as the "recession" goes, the GDP rise underscores that the recession probably ended in June. For the labour market, however, the recession has some way to run.

The Good News

• The economy is growing again, and across most major categories of spending.
• Growth was not solely driven by the inventory cycle. Real final sales rose 2.5%, compared with a 0.7% increase in the second quarter.
• Inventories added 0.9 of a percentage point to growth, simply because they were falling less steeply in the second quarter; nevertheless, they were still falling fast. That means there is plenty of support still to come from the inventory cycle in coming quarters.
• Consumer spending, business equipment and software spending, residential fixed investment, and exports all returned to growth in the third quarter. Consumer spending rose 3.4%, after falling 0.9% in the third quarter. Spending on motor vehicles and parts rose at a 56.3% annualised rate, due to "cash-for-clunkers" incentives, but that was not the whole story. Motor vehicles contributed less than half of the overall consumer spending increase. There were widespread improvements across all major consumption categories. Overall, consumer spending growth will slow in the fourth quarter, but not go into reverse.
• Exports returned to growth (up 14.7%), as did imports (up 16.4%). That is a good sign of a revival in world trade activity, even though trade was overall a 0.5-of-a-percentage-point drag on growth. We should expect trade to remain a drag in coming quarters, as the swing in the inventory cycle will pull in more imports.
• Inflation was very low. The GDP price index rose just 0.8%.

Some Caveats

• Growth was still heavily dependent on the federal government. Federal spending added 0.6 of a percentage point to growth. Some of that reflected stimulus spending, although most of the increase was in defence and is probably not stimulus related.
• The surge in residential investment reflects increased construction and sales of single-family homes (sales generate GDP via brokers' commissions). There will be a temporary setback, at least, given the scheduled expiry of the new homebuyer tax credit at the end of November. Even if the credit is extended, as seems likely, its impact will fade.
• Spending on non-residential structures continued to decline, and still has a long way to fall.
• The increase in business equipment spending was very tentative (just 1.1% at an annual rate), and fell short of our expectations.
• Growth was heavily influenced by a surge in vehicle output. If we look at GDP from the production side, the contribution of vehicles becomes very clear. Real GDP excluding motor vehicle output rose 1.9%, meaning that rising motor vehicle production added 1.6 percentage points to GDP. We will not see similar contributions from vehicles in future—but this is not just a cash-for-clunkers effect that will reverse in the fourth quarter. Most of the increase in vehicle output would have happened even without cash for clunkers, since the level of production had fallen so far that inventories were being depleted rapidly in any case. On average, vehicle output will be higher in the fourth quarter than the third, so vehicles will again add to GDP.

Outlook and Implications