Tepid Third-Quarter Growth Forecast Masks U.S. Consumer's Vigor

  • Inventories will be biggest drag on third-quarter GDP
  • Household spending, largest part of economy, seen holding up

Global economic malaise and an inventory correction probably caused the American economy to take a step back last quarter, clouding gains in consumer demand that may be a better indication of the expansion’s progress.

The dollar’s appreciation and tepid global markets weighed on American exports in the third quarter, and U.S. companies reined in stockpiles following a record accumulation in the first half of the year. The projected result: The world’s largest economy grew at a 1.6 percent annualized rate in the third quarter after a 3.9 percent pace in the prior three months, according to the Bloomberg survey median estimate before Thursday’s report.

While swings in inventories and trade can prove transitory, the underlying strength of the economy is better gauged by tracking the state of consumer spending, which accounts for almost 70 percent of gross domestic product. On that count, the prospects looked brighter as household purchases held up thanks to sustained job gains.

Not Slowing

“We will quite likely see a slowdown in headline growth, but it doesn’t mean the U.S. economy is slowing,” said Thomas Costerg, a senior economist at Standard Chartered Bank in New York, who projects third-quarter growth of 1 percent. “The U.S. economy is quite strong now -- if you look at personal consumption, especially. You have healthy private demand and I think that should continue.”

Consumer spending probably increased at a 3.3 percent annualized rate last quarter, little changed from the 3.6 percent gain in the previous three months, according to the Bloomberg survey. Over the past five years, purchases grew 2 percent on average.

The government’s first estimate of third-quarter GDP will come a day after Federal Reserve officials ended a two-day policy meeting Wednesday in which they decided to hold the benchmark interest rate near zero, where it’s been since 2008. Central bankers left open the possibility of tightening at their next meeting in December should the economy make progress toward reaching their employment and inflation goals.

FOMC Decision

Fed policy makers also eliminated a reference to global economic and financial developments restraining growth, signaling they are looking beyond short-term events and focusing instead on trends. They may take comfort in firm final sales to domestic purchasers, which is GDP minus inventories and trade. Economists at Morgan Stanley in New York projected a 3 percent increase in that category.

Consumer spending is part of the brighter picture and, given its weight in U.S. GDP, a solid reason to expect decent growth figures ahead. Consumption has grown faster than 3 percent for four of the past five quarters. Tom Porcelli, chief U.S. economist at RBC Capital Markets LLC in New York, sees a “fairly robust” 3.2 percent gain in the third quarter and another 3-percent-plus advance this quarter. 

The question is whether that domestic demand will persist. The most recent reports on retail sales and durable goods indicated consumer and business spending cooled in September, providing little momentum heading into the last three months of the year.

Still, a firm job market and the recent rebound in stocks will go a long way toward ensuring household demand is sustained, said Costerg.

Job Prospects

“People see the job prospects getting better, banks are loosening credit conditions, confidence is coming back, the stock market is doing OK -- all of that is conducive of quite a positive feedback loop,” he said. “The question is whether it’s sustainable, but I think that’s more of a question for late 2016 and early 2017. For now, we’re good.”

Inventory trimming will probably be the biggest detractor from third-quarter growth, reducing GDP by about 1.1 percentage points, according to Morgan Stanley’s forecast, which projected the economy grew at a 1.8 percent pace last quarter. 

A labor dispute at West Coast ports may have been one reason stockpiles swelled in the first half of 2015. As order backlogs began to ease, goods piled up. That prompted companies to cut orders last quarter to help clear warehouses. Stronger oil and gas production was also a culprit earlier in the year.

“Manufacturers got a bit ahead of themselves, especially in the car sector,” Costerg said. “At the same time, sales are strong, so it’s just a question of fine-tuning at the edges.”

Almost one in five customers of U.S. manufacturers, the biggest share in three years, say their inventories are too high, according to data from the Institute for Supply Management. The latest Census Bureau data show stockpiles would last 1.37 months at the current sales rate, matching the longest duration in six years.

While the third-quarter GDP data will show companies are making strides correcting for bloated inventories, the U.S. trade picture is more tenuous. First, the good news: A report Wednesday showed America’s merchandise trade deficit narrowed in September to a seven-month low as exports rebounded, prompting many economists to boost third-quarter growth estimates.

The bad news was that foreign demand remained weak. Sluggish economies overseas and a strong dollar meant exports were down 6.5 percent from September 2014. They are likely to remain soft, while steady domestic demand will boost imports, said Porcelli. 

“U.S. fundamentals remain pretty sound, particularly at the consumer level,” he said, while export data shows that “there’s no question that this global malaise is ongoing.”

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