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America’s economic growth slows to 0.7%

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THE news that America’s GDP growth slowed to 0.7% on an annualised basis in the first quarter of 2017 is no real surprise, for two reasons. First, although consumer and small business confidence have soared since Donald Trump won the presidential election, most measures of actual economic activity have failed to display the same vim (see article). Second, it is often the case that growth sags in the first quarter of the year, despite recent efforts by statisticians to purge the economic data of seasonality. Since 2010, excluding today’s release, first-quarter GDP growth has averaged just 1.1%, compared with 2.5% at other times in the year. Judged against that benchmark, the latest data are only a little disappointing.

The more interesting story is a shift in the composition of growth. Consumers have driven most of the economy’s spending growth since the end of 2015. But consumption has now slowed abruptly (see chart). For that, blame sales of durable goods. Falling motor vehicle sales alone have taken almost half a percentage point off the growth rate. Weak sales of durable goods would usually signal a hesitant consumer. That makes the contrast between what consumers are doing and what they are saying all the more puzzling. Perhaps politics is muddying the waters. The University of Michigan reports “…a very pessimistic economic outlook among Democrats and a very optimistic outlook among Republicans”. The economic costs of half the country despairing might outweigh the benefits of the other half rejoicing.

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Fortunately, firms have stepped in to take up some of the slack left by consumers. Non-residential fixed investment grew at a stonking 9.4% annualised rate, the highest since 2013.  That will please those who had begun to wonder if firms would ever start investing again (see article). It is tempting to argue that Mr Trump has unleashed animal spirits in boardrooms across the country. Investment growth might even portend an expansion in the capacity of the economy to supply growth, leading to higher trend growth in the years ahead, just as Mr Trump has promised. Yet over a third of the investment recovery reflects a rebound in the oil and gas industry, which, following a recovery of the oil price during 2016, is opening and re-opening rigs. Growth in other sorts of investment was more modest. There is no boom, for instance, in research and development spending.

Where next for the economy? Expect the second quarter to produce healthier data, as it usually does.  The crucial question is whether high confidence ever crystallises into a boom. It seems unlikely. The threadbare tax plan the administration released this week does not look like a first step towards the kind of comprehensive, bipartisan reform that could grease the wheels of the economy. It will need to change dramatically to attract any Democratic support in the Senate. If it does not, Republicans may choose instead to cut corporate tax rates temporarily, which they can do without Democrats. That would not do much for long-term investment incentives. Cutting taxes for individuals might encourage spending, but that would probably force the Federal Reserve to raise interest rates more quickly to see off inflation. Whatever the administration promises, the most likely outcome is that the economy remains hewed to its current trajectory of about 2% annual growth.

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