On Dour Reactions to America’s ‘Goldilocks’ Q3 GDP

US Q3 gross domestic product (GDP) data published Thursday and, as many economists we follow anticipated, growth quickened: The 4.9% annualised growth rate marked the fastest since Q4 2021—or Q3 2014, using prepandemic figures to avoid reopening skew.^[i] Some argue this is too hot, spurring more inflation (economy-wide price increases) and Federal Reserve rate hikes.^[ii] Others warn GDP’s summer surge will soon cool into a winter chill.^[iii] Neither, it seems, think it was so positive. But we think a look under the bonnet shows GDP’s main private-sector drivers growing fine, undercutting both reactions.

Those arguing the overheating case can find some solace beneath the headline GDP figure. Whilst US consumer spending’s 4.0% annualised growth was strong, that isn’t particularly unusual, in our view. Q1’s 3.8% was similarly robust, yet inflation has cooled all year.^[iv] Furthermore, Q3’s inflation uptick came alongside slowing core prices, which exclude food and energy.^[v] Remember: Inflation is largely about money supply—too much money chasing too few goods and services—and money supply is falling slightly.^[vi]

But there is more. Namely, we think the headline rate overstates actual growth trends. The main difference between Q1 and Q3 was inventory change, a frequent skew in recent quarters.^[vii] For example, Q2 2022’s much-ballyhooed -0.6% annualised headline GDP dip—the second straight—was entirely driven by a -2.1 percentage point (ppt) inventory detraction from headline growth.^[viii] Similarly, in Q1, inventories detracted -2.2 ppt, whereas they added 1.3 last quarter.^[ix] (Q2’s inventory change was zero, so it had no effect.)^[x] In Q3’s case, growth excluding inventory change was 3.6% annualised, slower than Q1’s 4.4%.^[xi]

Why strip them out? Because it isn’t clear from the report—and never has been, in our view—whether inventory gains are because of overstocking or businesses anticipating further demand growth. It could be interpreted positively or negatively. Based on recent US purchasing managers’ surveys, though, businesses’ current inventory levels don’t appear excessive to us, so we guess we would side with the positive camp now.^[xii]

As for arguments we have seen that America’s Q3 GDP report masks underlying weakness—from flat business investment, but also dwindling savings rates and personal income after inflation—we find these warnings are long-running and haven’t borne out. Yes, we do think business investment is often a swing factor for growth, but it also frequently dips negative without consequence.^[xiii] One quarter’s -0.1% annualised decline after seven straight quarters of growth doesn’t make a trend.^[xiv]

Meanwhile, we think US household finances are in much better shape than many commentators we follow realise, supporting further consumer spending. Coverage we read suggests Q3 will be consumers’ last hurrah amidst inflation, rising rates and pandemic savings’ depletion. But we have seen those arguments featured prominently in coverage for more than a year—whilst consumption has chugged along.^[xv] With disposable personal incomes rising faster than inflation since January, debt service near record lows—and delinquencies, too—American consumers don’t seem tapped out.^[xvi] Now, we think US GDP and consumption are likely to cool some from here. But alarm over it flipping into recession (prolonged economic contraction) seems like a stretch to us.

The funny thing about the reaction to America’s GDP report is this: Whilst many responses we read pondered whether the data were too hot or too cold, we think it is pretty easy to see them as just right. In March 1992, Salomon Brothers analyst David Shulman dubbed the US economy “Goldilocks” when it grew 4% annualised with 3.2% inflation.^[xvii] We observed that term become baked in the financial lexicon for nearly a decade, before the 2000 – 2002 Tech bust hit.[xviii] To us, Thursday’s US GDP report showed pretty much exactly that! But we didn’t see too many references to the just-right porridge. Now, we don’t think any economic data tell you exactly what is ahead—they are backward looking. But to us, the dour reaction does show the Pessimism of Disbelief is alive and well. All the easier for reality to beat expectations, in our view.