GDP - A First Look

The "big three" economic statistical releases are employment, economic growth, and inflation, as measured by the labor report, gross domestic product (GDP), and the consumer price index (CPI), respectively. Having previously looked at the employment data (here, here, and here) as well as the inflation statistics (here, here, and here), it is now time to turn a discerning eye to the reporting of economic growth.

Economic growth, that is, that has been the envy of the rest of the Western world in recent years and the demure love child of Larry Kudlow over at NRO:

Will someone please explain why the Bush White House and the Republican Congress are not trumpeting this economic boom on a daily basis? Their polls are sagging, but the economy is soaring. This simply shouldn’t be.
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Real GDP has grown at 3 percent or better for ten straight quarters, averaging 4.1 percent at an annual rate for the best performance since the middle 1980s. Wall Street expects the good times to continue, with a consensus of economists predicting 4 percent growth for this year’s fourth quarter.

If past experience is a guide, today's post will do little more than scratch the surface - this is the first close look at this data, so it will really be a matter of familiarization, scoping out the territory, and assessing vulnerabilities. The good stuff will likely appear in the coming days or weeks.

Let's begin...

The Commerce Department reported yesterday that the preliminary estimate of real GDP for the third quarter of 2005 increased at a robust 4.3 percent annual rate. This is markedly higher than the 3.8 percent advance estimate announced last month - the final GDP number for the third quarter will be not be announced until December 21st.

The higher growth rate was attributed to increased consumer spending which rose at an annual rate of 4.2 percent, along with equipment and software spending which showed a 10.8 percent increase and residential expenditures at 8.4 percent. Offsetting these increases was the yawning trade gap with an annualized total of $621 billion.

The Treasury Department Comments

This chart was posted at the Treasury Department website - it looks impressive, rising about 15 percent in the last five years. When considering that both total credit market debt and the money supply have been increasing at multiples of this rate, it doesn't seem nearly that impressive.


Treasury Secretary Snow had these outstanding comments about the solid track on which the economy rides:

Economic growth was outstanding in the third quarter of this year. The government's estimate of the rate of growth increased to 4.3 percent, which is very good news for American workers and those seeking jobs. Additionally, it is good news for federal and state government budgets with economic growth inevitably leading to higher tax receipts.

Continued strong GDP growth, along with news of a rebound in consumer confidence in November and a robust start to the holiday shopping season are all compelling indications that the American economy is solidly on a track of healthy growth.
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The President's economic course of lower tax rates and the Federal Reserve Board's sound monetary policy are the foundation upon which the American people build a strong economy. We need to continue these pro-growth policies, and prevent harmful tax increases.

So, 4.3 percent - that's pretty good, especially when compared with other Western economies. One of the best charts in the back of The Economist magazine shows GDP and unemployment for the Western countries of the world. This puts current U.S. economic growth into perspective. The latest number beat all others in this list except for commodity rich nations down under and a few relatively small countries in northern Europe.


GDP - Definition and Calculation

So, what is GDP? And, how is it calculated? For that, to no one's surprise, Wikipedia is the first stop:

GDP is defined as the total value of final goods and services produced within a territory during a specified period.
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Whereas nominal GDP refers to the total amount of money spent on GDP, real GDP adjusts this value for the effects of inflation in order to estimate the actual quantity of goods and services making up GDP.
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The most common approach to measuring and understanding GDP is the expenditure method:

GDP = consumption + investment + exports − imports

Consumption and investment in this equation are the expenditure on final goods and services.

Hmmm... adjusted for the effects of inflation. Surely there is work to be done there.

Continuing further down the page, there appears a "Controversies" section containing eleven bulleted items - this is already intriguing before any of the controversies are divulged. It is not known how common a "Controversies" section is at Wikipedia, or one of this length and detail. The sixth bulleted item would surely be controversial to someone like Larry Kudlow:

GDP doesn't measure the sustainability of growth. A country may achieve a temporary high GDP by over-exploiting natural resources or by misallocating investment. Oil rich states can sustain high GDPs without industrializing, but this high level will not be sustainable past the point that the oil runs out. Economies experiencing a housing bubble or a low private saving rate tend to grow faster due to higher consumption, at the expense of reduced pensions in future.

So, apparently the message here is, "From a long-term perspective, GDP may be a misleading indicator".

If you follow the housing bubble link you get to a well-written page about today's real estate madness, replete with the Time Magazine cover from this summer, and at the very bottom of the page are links to two well-known housing bubble blogs - Ben Jones' The Housing Bubble 2 and James Bednar's Northern New Jersey Real Estate Bubble.

Before looking at the data release, there is one more topic of note at Wikipedia - two sets of tables showing GDP and PPP (Purchasing Power Parity) ranking of the world's economies. Note that China moves from position number seven to two and India moves from number twelve to four when switching from the standard GDP measure to the Purchasing Power Parity measure, which attempts to include exchange rates and other factors into the calculation.

The GDP Data

Looking at the main page for the data release at the Commerce Department it becomes clear that the government is there to please the data-hungry populace. Fourteen tables in html and pdf formats, but best of all, also available as Microsoft Excel files. This makes whipping up charts all the more convenient, but something which sadly will have to wait for another day.

After just a quick look through this data, there are a few areas that are already begging for attention - attention that will be provided in due time:

1. The PCE deflator is 3 percent (see Table 4) - this is the inflation measure that is somehow subtracted from nominal GDP growth to yield real GDP growth, which is, the most commonly used expression of changes to GDP. How is this 3 percent value calculated? Dunno. It is well established that changes to the CPI were pretty much off the chart during the third quarter. If you add up the monthly changes for July, August, and September (0.5, 0.5, and 1.2), you get 2.2 percent, which annualized is 8.8 percent - about three times the value used to account for inflation in the GDP measure. Something doesn't add up here (or subtract up, as the case may be).
   
   
2. Consumption and investment are broken into a number of different subcategories (see Table 3), the most interesting of which, at first glance, seem to be the private vs. government categories for consumption. Defense spending consumption increased at an annual rate of over 10 percent with this report - war gives GDP a nice boost, apparently. Also of note here are the subcategories within personal consumption - some of the biggest contributors to the total percent change were medical care and real estate expenditures (see Table 2), yet somehow it seems they may be underrepresented in the PCE deflator used to calculate real GDP - a case of getting something for nothing?
   
   
3. By definition, debt is not involved in calculating GDP - it is strictly a measure of final consumption. Given the convenience that this data is presented to inquisitive minds, it shouldn't be too difficult to get debt and consumption on the same chart to get a better feel for just how sustainable our housing bubble, low savings rate, high consumption, 4.3 percent growth really is.

GDP - we'll be back.