The Magic of 3 Percent GDP Growth

Photograph by Daniel Acker/Bloomberg

For a short month, there was a lot of good economic news packed into February: First, there were the 239,000 jobs added, well above consensus. Then we got a killer retail sales number that recast perceptions of a thrifty U.S. consumer strapped by the payroll tax hike. Businesses restocked their shelves faster than expected. Manufacturing sprang back to life after looking as if it was entering a recession late last year. And don’t forget the housing boom. More building permits were issued in February than in any month in nearly five years.

All this nice data has economists falling over themselves to revise their first-quarter growth estimates. Michael Feroli, chief U.S. economist at JPMorgan Chase, pushed his first-quarter forecast from 1.5 percent to 2.3 percent. The guys at Goldman Sachs, led by chief economist Jan Hatzius, two-time winner of the award for the world’s most accurate economic forecaster, now think the U.S. will grow by 2.9 percent this quarter.

One of the biggest revisions came from Joseph LaVorgna, chief U.S. economist at Deutsche Bank, who doubled his estimate from 1.5 percent to 3 percent last week after seeing February’s strong retail numbers. He now thinks the economy will grow at 3 percent for the entire year. “Three percent’s the magic number,” says LaVorgna. “If we get 3 percent GDP growth, unemployment falls by a percentage point.”

Three percent growth is a rarity these days. Since the recovery began in June 2009, the U.S. has seen just three quarters where growth was 3 percent or higher: the fourth quarter of 2009, the fourth quarter of 2011, and the third quarter of 2012. Three percent growth is also a game-changer of sorts in that it gives the economy enough momentum to escape the gravitational pull of inflation and population growth, and finally approach the coveted “virtuous cycle” of growth-creating growth.

Jim O’Sullivan, chief U.S. economist at High Frequency Economics, has been sitting on a 3 percent forecast for more than a month, and now worries he may be too low. “If anything, the February numbers are adding up to stronger than 3 percent,” says O’Sullivan.

Some of this growth appears to be pent-up demand from the huge slowdown we saw in the fourth quarter of last year, when the economy slowed to 0.1 percent growth as businesses and consumers all sat on their hands waiting for clarity out of the fiscal cliff showdown. After a huge inventory buildup in the third quarter of last year, businesses significantly slowed their purchases over the last three months of 2012. By the end of the holiday season, there were a lot of bare shelves out there.

Another driver is the strong increases we’ve seen in wages to start the year. Aggregate production worker income (a proxy for wage growth) jumped 1.1 percent in February, the biggest month-to-month increase since 2007. That’s gone a long way toward blunting the impact of the payroll tax increase. “Workers have some more ammunition to spend, which is a big plus so far,” says Jacob Oubina, senior U.S. economist at RBC Capital Markets.

One of the more interesting theories behind the sudden burst of positive numbers comes from Maury Harris, chief economist for the Americas at UBS, who’s been sitting on a 3 percent GDP growth forecast for the first quarter since January. Harris posits that since most business decision-makers and investors in the U.S. are Republicans, a big chunk of high-level economic actors in the U.S. have spent much of the last four months being angry about another four years of President Obama, whose economic policies they see as destructive. “As a group, they have acted with disappointment to his reelection and were hesitant to spend because of the economic disaster they were certain was just around the corner,” says Harris. Only in the last several weeks have they had to face reality and started to come off the sidelines. “They’ve had to get over their anger and realize that the rest of the world was passing them by.”

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