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Sharpest Consumption Drop Since 1980 Pushes GDP Negative

Thursday 30 October 2008

by: Dean Baker, t r u t h o u t | Perspective

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(Art: David G. Klein)

    A surge in defense spending added 0.86 percentage points to gross domestic product (GDP) growth.

    Consumption spending fell at a 3.1 percent annual rate in the third quarter, which was the main factor leading to a 0.3 percent decline in GDP. Inventory build-ups prevented an even larger decline; final demand fell at a 0.8 percent annual rate.

    The fall in consumption spending was the largest drop since an 8.6 percent decline in the second quarter of 1980. It was driven primarily by a drop of 14.1 percent in durable good purchases. Car sales fell at 25.6 percent annual rate in the quarter. Purchases of nondurable goods also fell sharply, declining at a 6.4 percent rate. Spending on services continued to increase, rising by 0.6 percent. Health care spending was the main factor behind this growth.

    Residential construction fell for the 11th straight quarter, falling at a 19.1 percent annual rate. This reduced GDP growth for the quarter by 0.72 percentage points. Residential construction is now equal to just 3.3 percent of GDP. It peaked at 6.3 percent of GDP in the fourth quarter of 2005.

    Nonresidential investment fell at a 1.0 percent rate, with a 7.9 percent increase in nonresidential structures largely offsetting a decline of 5.5 percent in equipment investment. Real investment in structures has increased by 40.3 percent since the fourth quarter of 2005. There has been somewhat of a bubble in this sector, which is bursting now. Office vacancy rates had been rising in many areas even before the recent downturn. There was also excess capacity in retail. While projects underway will be finished, excess supply coupled with tighter credit will lead to sharp declines in this sector over the next year.

    The government sector added 1.15 percentage points to growth, with an 18.1 percent increase in defense spending being the main factor. Real defense spending now stands 7.7 percent above its year ago level and 12.3 percent higher than its level of two years ago.

    The trade balance continued to improve in the quarter, adding 1.13 percentage points to GDP growth. Exports rose at a 7.5 percent annual rate, while imports fell at a 1.9 percent rate. However, this picture may be reversed in the quarters ahead, as foreign economies slide into recession and the rise in the dollar again makes US goods less competitive.

    This report should help eliminate any immediate concerns about inflation. The overall price index rose at a 2.8 percent annual rate, while the core index rose at just a 2.4 percent rate. The sharp drop in commodity prices makes it virtually certain that inflation will slow even more in future quarters.

    It is worth noting that net GDP actually stands 0.5 percent below its year ago level. This means the country had less to consume and invest based on the current quarter's output than it did based on the output from the third quarter of 2007.

    The saving rate was 1.3 percent in the quarter. This is down from 2.7 percent in the second quarter, but that number was inflated by tax rebates. (Some checks were mailed in the first weeks of July.) The saving rate was just 0.2 percent in the first quarter of 2008 and has not been above 1.3 percent since the fourth quarter of 2004. It is likely the saving rate is on its way back to more normal levels as people begin to adjust to the loss of $5 trillion in housing-bubble wealth. This is a necessary process, as families will need to increase their savings, however, it raises the prospect of serious shortfalls in demand over the next two years. If the saving rate were to return to its normal post-war level of approximately 8 percent, it would imply a fall in annual consumption of approximately $700 billion.

    The effect of falling consumption in the immediate future will be amplified by the reversal of the recent jump in defense spending, declines in nonresidential construction and a constant or rising trade deficit. The fourth quarter is almost certain to show a much sharper fall in GDP than the current quarter and the first quarter of 2009 could be even worse in the absence of an effective fiscal stimulus - even assuming that the financial situation stabilizes.

  

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Dean Baker is the Co-director of the Center for Economic and Policy Research. CEPR's Jobs Byte is published each month upon release of the Bureau of Labor Statistics' employment report.

Comments

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If tens of millions of

 Thu, 10/30/2008 - 22:48 — frank1569 (not verified)
If tens of millions of "consumers" actually grow up and start living responsibly within their means and stop buying tons of useless crap while taking better care of their health, our economy is totally screwed, eh?

Better move to Singapore and

 Fri, 10/31/2008 - 00:14 — Anonymous (not verified)
Better move to Singapore and get a job making Nike's.

If tens of millions of Thu,

 Fri, 10/31/2008 - 01:11 — Anonymous (not verified)
If tens of millions of Thu, 10/30/2008 - 22:48 — frank1569 (not verified) If tens of millions of "consumers" actually grow up and start living responsibly within their means and stop buying tons of useless crap while taking better care of their health, our economy is totally screwed, eh? I agree with you. Too may people buying useless junks which were later left in their closets, in their garage, etc. forgotten and for over-eating too many junk food which had no nutrition value for them. Same thing with money-losing, gas-guzzling stupid losers with over-sized SUV.

When something like 70% of

 Fri, 10/31/2008 - 14:52 — jpoverseas (not verified)
When something like 70% of the Economy is comprised of consumer spending, there’s gonna be hell to pay if people stop living beyond their means and buying useless crapola they don’t even want 3 seconds after they’ve bought it. First state and some city tax revenues will decrease so there’s even less money for schools and other useful as well as useless purposes. Then, pretty quickly, unemployment will increase since no one is buying the little that is still produced in the US and “the consumer” can buy less and less of the stuff produced elsewhere that Americans “market”, i.e., pass on after taking their cut. Then there will be less consumption since people have even less money. Many businesses will fail because they will not or cannot adapt to less volume. The spiral will continue. Eventually, we, or more likely our children and grandchildren, may waken from our dream of being spoiled rich kids and learn to live decently with much less stuff but more satisfying work with more social people in harmony with Mother. Since money needs no passport, the rich will continue to ride in style as they bounce from one bubble to another on the backs of black, brown, and yellow people (instead of the black, brown, yellow, white, and red backs that now constitute their conveyance). When the last bubble bursts and their money means nothing, these folks might, or might not, join the rest of us. Or, perhaps more likely, we spoiled kids will throw a nasty temper tantrum, wipe each other out with battle cries of “That’s mine”, and open a lot of good land to black, brown and yellow people who can already manage to live a decent life on an acre of two, especially with all the salvage we’ll leave them. But whatever happens, FRANK 1569 and ANONYMOUS 01:11 are right: we have got to consume much less than we are consuming now. The Economy ain’t gonna like it, but much better its wrath than the Mother’s.