Harden up, the soft US GDP result is not so bad

Cold weather may have caused US GDP to miss its modest targets for growth, but positive momentum in the labour market means that the Fed is unlikely to deviate from its taper course.

A soft first quarter outcome might concern readers, but with cold weather providing only a temporary economic hiccup, it was never going to stop the Federal Reserve from cutting its asset purchases by a further US$10 billion overnight.

The Fed will now add to its holdings of mortgage-backed securities by US$20bn per month (from US$25bn) and also purchase US$25bn of longer-term Treasury securities (from US$30bn). With the economy regaining momentum, following a weather-interrupted start to the year, the Fed is likely to continue its taper when it next meets in June.

Measures of employment and retail spending rebounded in February and March and are likely to maintain that momentum into the June quarter, providing an optimistic outlook for the US economy. Any losses from earlier in the year are likely to be recouped over the June quarter which is why the Fed is not troubled by soft real GDP growth to begin 2014.

Real GDP was largely unchanged in the March quarter, missing expectations of modest growth, to be 2.3 per cent higher over the year. It was the slowest quarterly outcome since December 2012.


Graph for Harden up, the soft US GDP result is not so bad

But though some market participants will be disappointed, real GDP was always going to be a write-off in the March quarter. An unchanged outcome versus expectations for growth of 0.3 per cent is really no big deal.

Household spending was the major driver of growth in the March quarter; indeed the only driver of growth. Business investment and government spending provided a drag on the economy, while businesses let inventories dwindle.


Graph for Harden up, the soft US GDP result is not so bad

Residential investment declined by 1.5 per cent in the March quarter and has lost momentum over the past six months. Non-residential investment has fared better in recent years. Both residential and non-residential investment should grow at a solid pace over the next few years.

Federal government spending rose modestly but this was more than offset by a fall in spending by state and local governments. Federal spending is around 12 per cent below its peak in the September quarter 2010.


Graph for Harden up, the soft US GDP result is not so bad

It is easy to see why economists are bullish about the economic outlook for the rest of 2014. Construction projects, delayed by poor weather, will resume and businesses will look to rebuild their inventories. As the effects of budget cuts fade, government spending will also begin to contribute to growth for the first time since 2010.

Though the result is disappointing, it doesn’t change much for the US recovery or the Fed’s taper, for that matter. The economy is likely to bounce back in the June quarter and there is ample evidence in labour market and spending data that poor weather has had only a temporary effect on the economy.

The Fed’s taper will continue to be determined by conditions in the labour market and it has made it clear that it will take a significant and persistent change in momentum to shift its course. I would be surprised if there was any delay to its taper at upcoming meetings and fully expect them to completely wind back their asset purchases during 2014.

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