Economic Commentary
Daniel Laufenberg, Ph.D.

Numerous economic data series are released between the publication dates of the Laufenberg Economic Quarterly (LEQ). These commentaries are designed to provide insight on the more recent data and their implications for the economic outlook.

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A slower start to 2011 than anticipated earlier
(April 14, 2011)

Based on the economic data reported over the last six weeks, it looks as if real gross domestic product (real GDP) will grow at a slower pace in the first quarter than shown in February’s forecast. Real GDP growth is now estimated to be 2.5 percent rather than the 3.9 percent reported earlier. A less robust consumer sector and a much weaker government sector account for the bulk of the downward revision.

In the February forecast, real personal consumption expenditures (real PCE) were expected to register a gain of 3.6 percent at an annual rate in the first quarter of 2011. They now are expected to advance only 2.6 percent. This markdown alone subtracts 0.7 of a percentage point from my estimate of first-quarter real GDP growth. Part of the story is due to the revisions to real consumer spending in November and December 2010, which took away some of upward momentum at the end of the fourth quarter. The other part of the consumer is that spending on consumer services has not improved as much as I had expected through the first two months of the year; that is, real consumer spending on services declined 0.1 percent in January and was flat in February. In fact, my estimate of real PCE spending growth of 2.6 percent in the first quarter assumes that service spending registers a mild gain in March.

Also in the February forecast, real government spending on goods and services was expected to increase a modest 0.5 percent in the first quarter. A sharp drop in state and local spending was going to be offset by still solid gains in federal spending. Based on more recent federal budget data, that does not seem to be the case. Federal spending also has started to wane, causing overall government spending to be much weaker than anticipated in February. As a result, the government sector most likely will detract nearly 0.7 of a percentage point from real GDP growth in the first quarter as well.

Moreover, it appears that the change in business inventories will contribute more and net exports will detract less from real GDP growth in the first quarter than forecasted in February. The offsets seem to be that residential investment, as well as business fixed investment, will contribute less to real GDP growth in the first quarter than originally estimated.

The bottom line is that the economy is unlikely to be as robust in the first quarter as anticipated in the February forecast. Nevertheless, there is no reason for me to expect that this disappointment will persist over the remainder of the year. Instead, I remain confident that the U.S. economy still will register a very solid gain for all of 2011. This means that the forecast over the remaining three quarters of 2011 is little changed. I still expect real GDP to register a very solid gain in the second quarter—about 4.0 percent at an annual rate—and an average gain of about 3.5 percent for the second half of the year. As usual, consumer spending will lead the way, reflecting a pronounced improvement in service spending.

And with more spending on services, more service-producing jobs will be created. Recall that 83 percent of all private sector jobs in the U.S. are in service-producing industries. Therefore, if jobs are to be created, more spending on services either by consumers or businesses is needed. I contend that it will be consumer spending that drives this outcome.

In the meantime, consumer price inflation will be relatively benign on average. That does not exclude the occasional spurt in overall consumer prices due to higher food and energy prices. It just means that such spurts will be short-lived and in some cases even reversed. For example, if gasoline prices go up 20 percent in one month, this is a very scary statistic if they continue to go up 20 percent every month—that would translate into a 240 percent increase a year. However, that is not how it works. At this stage of the business cycle, sharp increases in food or energy prices are seldom sustained for a whole year, which means that the longer-term effects on inflation and the economy are far less than the short-term price jump alone might suggest. That being said, it now looks as if the average price of crude oil for all of 2011 will be higher than shown in the February forecast. However, it will not be as high as the recent peak price would suggest. Indeed, crude oil prices have already retreated from their highs of the year.

Obviously, higher inflation denies consumers purchasing power to the extent gains in wages and salaries do not keep pace. However, most of the damage to purchasing power took place in the first quarter. Over the remainder of the year, I expect overall inflation to be less of a problem for consumers. As such, the now higher average price of oil assumed this year, and the corresponding slightly higher overall inflation rate, is expected to detract about 0.4 of a percentage point from real GDP growth over the four quarters of 2011. In other words, my estimate of real GDP growth for all of 2011 is now 3.5 percent, which is down a bit from the 3.9 percent advance shown in the February forecast. In other words, higher crude oil prices than expected a few months ago will slow the pace of the economic expansion a bit in the near term but they are not expected to reach an average level for all of 2011 that will derail the expansion.

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For the current economic forecast, as well as other analysis and commentary, please visit the Stonebridge Capital Advisors website.

Dlaufenberg@stonebridgecap.com

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The views expressed here reflect the views of Daniel Laufenberg as of the date referenced. These views may change as economic fundamentals and market conditions change. This commentary is provided as a general source of information only and is not intended to provide investment advice for individual investor circumstances. Past performance does not guarantee future results.


2011 Commentary

Living in interesting times
-- September 8, 2011

A not so pleasant surprise!
-- September 2, 2011

Surprise!
-- August 16, 2011

Debt ceiling politics
-- July 25, 2011

Q2 growth: Another disappointment likely
-- July 14, 2011

Interpreting the ISM manufacturing index and the employment situation report for May
-- June 4, 2011

A slower start to 2011 than anticipated earlier
-- April 14, 2011

Is the dollar's status as the reserve currency at risk?
-- March 21, 2011

More trouble in the Middle East
-- February 26, 2011

Searching for the next debt crisis
-- January 13, 2011

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