A bunch of notable points from this morning’s advanced GDP report for 2017Q3. The economy’s growing a good clip (though not at the 3% headline number), with no price pressures in sight. Consumer spending is solid, boosted by job and earnings growth as well as, I suspect, a wealth effect from the stock market (stock market gains are not in GDP, but if people feel wealthier, they spend a little bit more). The hurricanes didn’t faze the data flow (note: Puerto Rico is not counted in national GDP), and a few noisy factors, especially an inventory bump, helped boost the number (I smooth out the noise below).
Yes, the White House is going to brag on this report, as pretty much any White House would. But what they should see here is yet another great reason to not screw around with the Fed chair. Leave Yellen where she is, Trump, and go tweet about your awesome golf skills, or something.
Also, why, why, why—if the economy is percolating along at a solid, steady clip, do we need big-ass, wasteful tax cut? That’s a rhetorical question, but other than “because we won and that’s what our donors want!,” I’ve not heard anything like a decent answer to that question.
Look at the yearly, not annualized quarterly rates
First, readers know I’m all about discounting the annualized quarterly growth rates, which as you see below are choppy. So, while the White House will crow about the topline 3% number (the real, annualized growth from q2 to q3), I emphasize the 2.3% year-over-year growth rate. The figure shows both measures and the important bit is the way the yearly rate smooths out the bips/bops of the annualized quarterly one.
Punchline: the underlying, trend growth rate of real GDP is around 2%, though slightly north of that, and the last six quarters do show a nice, steady acceleration of the yearly growth rate (I’ll get back to the price column of the table below):
We’re realizing our diminished potential
The Congressional Budget Office estimates potential GDP, i.e., what the level of the economy’s output should be at full utilization of our stock of labor and capital, given our productivity (the latter being how efficiently were transforming said inputs into outputs). As of 2017q3, nominal GDP is back to potential, so by this measure, we’re at full employment (see figure; this is the first quarter in the expansion that both real and nominal GDP beat CBO’s potential). You’d get the same result from looking at the 4.2% unemployment rate and various estimates of the lowest rate believed to be consistent with stable prices.
That “believed to be” is important. As I’ll get to in a moment, actual inflation is inconsistent with these conclusions. If things were all that tight, we should be seeing faster price growth, which we’re not…at least not yet.
But there’s a more profound point in play here. The last bar in the figure is CBO’s 2007 forecast of potential GDP for this last quarter, and it’s about $2 trillion above its most recent potential estimate. That’s decline represents an income loss of over $6,000 per person.
What the heck happened? I’m working on a longer piece that tries to answer that question, but some economists, including myself, view part of that loss to stem from “hysteresis,” the lasting, structural damage done to the economy’s inputs due to long periods of persistent weakness. Think of somebody sitting out the recovery because there’s not enough opportunity for work (labor demand is too weak), and their skills, attitude, etc. atrophies such that they’re eventually no longer part of the labor force (here’s an NYT piece w/some evidence).
The Phillips Curve is the correlation between unemployment or potential GDP and inflation and man, is that correlation low. As you see in the second column of that little table above, core inflation is decelerating as real GDP accelerates.
Barrels of digital ink have been spilled trying to understand why Phil’s so phlat but let me save you weeks of your life by cutting to the chase: nobody knows.
I can tell that you that the curve has been flat for a while, at least at the national level (you can find some correlations in cities), such that claims that it’s temporarily out of commission due to some cherry-picked factor don’t seem very convincing. If we were to shave with Occam’s razor, we’d have to recognize that the simplest explanation is that we may well not be at full employment, and CBO’s potential estimate is too low, for which there’s actually some compelling evidence (all to be explored in my forthcoming paper).
It’s just one, advanced (meaning it will be revised) GDP report, but as a veteran GDP-report whisperer, let me tell you what this one is saying: reappoint Yellen and Fed, wherein she must continue to apply great patience in normalizing rates.