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Reconciling the Contradictions of U.S. GDP Data

Mohamed A. El-Erian is a Bloomberg View columnist. He is the chief economic adviser at Allianz SE and chairman of the President’s Global Development Council, and he was chief executive and co-chief investment officer of Pimco. His books include “The Only Game in Town: Central Banks, Instability and Avoiding the Next Collapse.”
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The second-quarter U.S. gross domestic product data released Friday had something for everyone. Optimists could draw comfort from the robust growth in household consumption. Pessimists would worry about lagging business investment and mounting inventories. And if you are concerned about what is ahead for the world’s economic powerhouse, you would wonder how to reconcile these divergent trends.

Consumer household spending expanded by an impressive 4.2 percent in the second quarter of 2016, buoyed by (in order of importance) the solid job creation of recent years, easier credit availability, slightly stronger wage growth and higher financial and housing wealth. Yet even though consumption accounts for a significant part of the economy, such robust numbers weren't sufficient to offset a notable disappointment in the GDP headline number. Overall, economic growth came in at an annualized rate of 1.2 percent, well below consensus expectations of about 2 percent. This was even more disappointing given that the second-quarter data was expected to show a proper bounce back from even weaker first-quarter growth of 0.8 percent.

QuickTake GDP

The most important contributors to weak GDP, and the data components that should get lots of attention, are the indications of sluggish corporate behavior. Companies not only posted disappointing spending on new plant and equipment in the second quarter, there also was a notable increase in stockpiling, which can act as an overhang that can discourage future production.

Concern about tentative demand in the rest of the world is likely to have put a damper on U.S. companies’ business plans. Worries about unusually and persistently sluggish productivity may also have been a factor, but those measurements are far from robust. And some sectors, such as energy, were particularly hard hit by the decline in international prices for their products.

Two striking and persistent divergences in the U.S. economy played out yet again in the second quarter of this year: between corporate and household behavior, and between economic and financial risk-taking.

The household and business sectors are intimately linked, especially in an economy of the U.S.'s size. After all, American companies provide the majority of jobs for Americans; and American consumers are important buyers of the goods and services that these companies produce. Yet consumption is buoyant while investment is struggling, and this despite unusually low interest rates.  

Part of this inconsistency has to do with the deployment of companies' record profits produced by this symbiotic relationship. Instead of directing enough of these earnings back into economic activity and higher future potential, companies are sitting idle on bank deposits or using the cash for financial engineering, share repurchases and higher dividend payments.

This also is one of the reasons the U.S. stock market has been doing so well, reaching historical records this month. This points to a healthy appetite for financial risk that stands in stark contrast to companies’ more muted inclination to take business risks.

There is a limit to how long these divergences can persist, especially in the long term. Also, there is a risk that these trends could ultimately reconcile in unfortunate ways. These possible outcomes include household behavior that converges downward to match the less buoyant corporate approach, rather than the other way around; or lower financial risk-taking that threatens a disorderly selloff in markets, which, in turn, further dampens business investment (as opposed to a pick-up in investment that promotes high inclusive growth and validates artificially high asset prices).

One way to contain this risk is to address another reason for the disappointing second-quarter GDP growth: The contractionary role of government spending.

Instead of contributing to more effective demand management, reduced government outlays have placed an even greater burden on experimental monetary stimulus measures policies that are already overstretched. And rather than crowd in private investment, insufficient infrastructure spending is threatening the U.S.'s growth potential.

A properly designed pro-growth infrastructure program would have the benefits of offsetting the drag in current and future GDP growth. It can be financed efficiently at today’s unusually low interest rates. And it would contribute both to social well-being and private-sector productivity.

Such a program would play a role in reconciling inconsistencies that were highlighted by the GDP report and should be priority concerns for our politicians. And for these issues to be properly resolved, the infrastructure program would need to be part of a bigger effort that combines a comprehensive approach to demand management with a broad array of pro-growth structural reforms, lifting pockets of excessive indebtedness and improving regional and global policy coordination.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Mohamed A. El-Erian at melerian@bloomberg.net

To contact the editor responsible for this story:
Max Berley at mberley@bloomberg.net