US Gross Domestic Product figures released by the Commerce Department last week suggested an economy returning strongly to growth. Expanding at the fastest rate in six years the economy surged by 5.7% in the fourth quarter beating many analysts prediction of 4.6%. However a closer look at the figures suggests the results are not quite as bullish as they seem.
First, where did the growth come from? Encouragingly a significant boost came from businesses investing in equipment and software, after living with a capex freeze for the last 12 months it would seem business is beginning to invest again. After rising at an annualized rate of 13.3% in Q4, investment contributed 0.8% points to overall growth according to an article in the NY Times. Consumer spending also increased at an annualized rate of 2% and because consumer spending contributes the largest proportion of GDP that rise was enough to raise overall GDP by 1.4%. Exports continued to benefit from the weaker dollar and imports continued to be restricted such that the 18.1% increase in exports netted out to a 0.5% increase in GDP.
On the downside it will come as no surprise that commercial real estate was negative as investment in commercial property fell at a rate of 15.4%. In addition, government spending actually reduced GDP as a 0.3% decrease in state spending and a 3.5% reduction in defense spending dragged down an 8.1% increase in non defense federal spending.
The real 800lb gorilla though is the change in inventory. Firms reduced inventory by “just $33.5bn in the fourth quarter compared to $139bn in the third quarter. That simple slowing in inventory reduction contributed a massive 3.4% of the overall 5.7% rise in GDP.
Which raises some serious questions about the strength of the underlying recovery and the possibility that the first and second quarters of 2010 will continue to grow at anything like this level. Several metrics suggest what we are seeing is a gradual return of manufacturers to buying for current demand rather than either a sustained restocking program or more importantly a rise in end-user demand. What we have seen is the tipping point where metals consumers like steel producer Nucor has worked scrap and pig iron stocks down to near zero and is now coming out into the market to buy raw material again, but not because their customer demands have increased. Capacity is still running at just 60-65% and end-user demand remains weak and is not showing much if any upward trend. Unemployment although traditionally a trailing indicator coming out of recession is a key metric in terms of a return of consumer confidence. Only when consumers feel secure in their jobs will they begin spending again. The nation shed 85,000 jobs in December and increasingly jobs that are created are part time reducing spending power.
An article by Steven Mufson in the Washington Post quotes James Young, chief executive of Union Pacific railroad. A year ago UP was scouring the country for places to park idle freight cars, about 60,000 of them Mr Young said. Today they still have 44,000 of them idle and 1,700 locomotives; with freight car loadings nearly 20% off the peak of two years ago. Clearly 44,000 idle cars is better than 60,000 but it suggests we have a long way to go, demand is not showing any evidence of coming back yet.
Electricity consumption has been falling consistently for 15 straight months according to the US Energy Information Administration suggesting industry is not significantly more active now than in previous months or this time last year.
While any good news is, well good news, metal producers and processors should not get carried away by the latest GDP figures. The fact remains end-user demand is showing only the first tentative signs of improving and the GDP figures are more a reflection of inventories hitting rock bottom than they are a return to growth. If the end-user market were to come steaming back then the lack of material in the supply chain would cause prices to spike and lead-times to extend sharply but the reality is with unemployment stubbornly high and the consumer focused stimulus measures coming to an end that is unlikely to happen. The year ahead is looking a lot more positive than this time last year but it will be a slow and volatile recovery.