Why the U.S. economy is weaker than it looks

Fresh data seem to suggest the U.S. economy is revving up, with growth rising at its fastest pace in two years. Yet a deeper look at the numbers reveals that strength may be overstated. Worse, that could spur the Federal Reserve to raise interest rates too soon.  

Between July and September, the nation’s gross domestic product rose an annualized 2.9 percent, far exceeding economists’ forecast and a big jump from the tepid pace seen earlier in the year. On the surface this is great news. Expectations have been strong for a second-half bounce-back. And Wall Street has been ready for some good news, given the ongoing corporate earnings recession, fears over a Fed rate hike and frayed nerves heading into election day.

So why isn’t that headline GDP number as good as it looks? For one, consumers seem to be pulling back on spending, with consumption up just 2.1 percent, versus a 4.3 percent gain in the second quarter and less than the 2.6 percent that was expected. Also, the sudden boost in growth was driven by an unusual surge in agricultural exports (mostly soybeans, actually) and inventory accumulation, which often turns out to be a temporary boost, especially if consumers are cautious heading into the holiday shopping season).

Capital Economics estimates that a full 0.9 percent of the GDP gain in the third quarter was driven by the one-off surge in soybean exports alone -- a gain the research firm expects be reversed in the final three months of the year. 

“[L]ast quarter’s double-digit gain in exports is unlikely to be repeated, and it is worth noting that underlying private demand remains soft,” Deutsche Bank analysts said in a note. “For these reasons, future economic gains are likely to remain extremely modest.”

Outside of exports and inventories, meanwhile, the news for the economy was less encouraging. Consumption disappointed, residential investment dropped 6.2 percent, and equipment investment fell 2.7 percent. Overall, the growth rate of final sales to domestic purchasers -- a measure commonly seen as a “check” on the health of the GDP growth number -- actually slowed to 1.4 percent, from 2.4 percent in the second quarter.

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Paul Ashworth, chief U.S. economist at Capital Economics, noted that “a reasonable cause could be made that this is actually a disappointing GDP report.” David Rosenberg of wealth management firm Gluskin Sheff added that stripping the transitory effects of inventories and exports from the latest figures pares GDP for the quarter back to only 1.4 percent, the same pace of growth as in the second quarter. 

Other analysts are already forecasting stormy weather heading into the critical holiday shopping period. Macroeconomic Advisers estimates that the economy will grow at an annualized rate of just 1.5 percent in the fourth quarter. The upshot: For the first time since 2013, economic growth this year is likely to fall shy of 2 percent. 

By that measure, and with many economists -- including the Fed -- projecting tepid growth for years to come, the recovery is running out of steam.

Despite that long-term slowdown, the jump in third-quarter growth, along with some positive momentum in other gauges of the economy, may be enough to persuade the central bank to resume hiking interest rates. 

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