The revised real GDP numbers for Q4 2010 were a disappointment for most economists who foresaw the third and fourth quarters to be much higher. The BEA’s advance report last month said GDP was up 3.2%. The new numbers show it was only up 2.8%. As I anticipated in my article on the advance report, I expected the numbers to be revised downward and they were. These facts fit into my thesis that we are headed into stagflation.
First, the details. The consensus Q4 estimate of economists was that GDP would be +3.4%. From the BLS release:
The increase in real GDP in the fourth quarter primarily reflected positive contributions from personal consumption expenditures (PCE), exports, and nonresidential fixed investment that were partly offset by negative contributions from private inventory investment [see this on durable goods orders] and state and local government spending [this has to be a positive].
Imports decreased which are a subtraction in the calculation of GDP. The small fourth-quarter acceleration in real GDP primarily reflected a sharp downturn in imports, an acceleration in PCE, an upturn in residential fixed investment, and an acceleration in exports that were mostly offset by downturns in private inventory investment and in federal government spending, a deceleration in nonresidential fixed investment, and a downturn in state and local government spending.
Final sales of computers added 0.30 percentage point to the fourth-quarter change in real GDP after adding 0.29 percentage point to the third-quarter change. Motor vehicle output subtracted 0.31 percentage point from the fourth-quarter change in real GDP after adding 0.49 percentage point to the third-quarter change.
For the entire year of 2010:
Real GDP increased 2.8 percent in 2010 (that is, from the 2009 annual level to the 2010 annual level), in contrast to a decrease of 2.6 percent in 2009. The increase in real GDP in 2010 primarily reflected positive contributions from private inventory investment, exports, PCE, nonresidential fixed investment, and federal government spending. Imports, which are a subtraction in the calculation of GDP, decreased [-12.4%]. The upturn in real GDP primarily reflected upturns in exports, in nonresidential fixed investment, in PCE, and in private inventory investment and a smaller decrease in residential fixed investment that were partly offset by an upturn in imports.
Prices as measured by the GDP Price Index continued their climb:
The price index for gross domestic purchases, which measures prices paid by U.S. residents, increased 2.1 percent in the fourth quarter, the same increase as in the advance estimate; this index increased 0.7 percent in the third quarter. Excluding food and energy prices, the price index for gross domestic purchases increased 1.2 percent in the fourth quarter, compared with an increase of 0.4 percent in the third.
The price index for gross domestic purchases increased 1.3 percent in 2010, in contrast to a decrease of 0.2 percent in 2009. Current-dollar GDP increased 3.8 percent, or $538.8 billion, in 2010. In contrast, current-dollar GDP decreased 1.7 percent, or $250.1 billion, in 2009.
Just looking at spending measures, you can see the impact of the drop in imports. While real person consumption expenditures (domestic goods only) were up 4.1% in Q4 (versus 2.4% in Q3), real gross domestic purchases — purchases by U.S. residents of goods and services wherever produced — decreased 0.6% in Q4, in contrast to an increase of 4.2% in Q3.
If you need charts to see the stagflationary trend, here:
These charts show a flattening of output and a steady increase in prices. One might ask, with all of the monetary and fiscal stimulus efforts by the Fed and the Administration, why is output flattening out while prices are increasing? The quick answer is that their policies have failed, notwithstanding their protests to the contrary (“Yeah, but things would have been much worse … blah, blah, blah.”).
Is this a trend? I believe so. As I said in my article on the first release:
The bottom line is that we are seeing monetary inflation and it is impacting prices. Real savings is still in short supply and that is inhibiting growth. Spending will not revive the economy, but an inflated money supply will give the impression of economic improvement, but it will be an ephemera. It will further negatively impact real savings. I would expect weaker GDP numbers in Q1 2011 (wait until the revised Q4 come out to see if I’m right). Unemployment will remain high. This is a recipe for stagflation.
There is a new wrinkle in this forecast: oil.
As David Rosenberg said yesterday, rising oil prices reflect a “geopolitical risk premium” which is why bonds jumped this week:
Rosenberg pointed out what is going through the minds of oil traders:
It is estimated that as much as 1 mbd of output has been taken out of the system from the Libya crisis and the outsized move in the oil price is testament to the view of just how tight the global supply-demand backdrop has been. Imagine where the price would be if it weren’t for the spare capacity out of Saudi Arabia. Analysts at Nomura are saying $220 a barrel is achievable if more production is halted in Libya and Algeria. …
Saudi Arabia has the capacity to fill the void left by Libya, but that misses the point. The risk of further unrest is rising, especially with sectarian issues in full force in Bahrain. This means that oil prices at a minimum will retain a geopolitical risk premium — most oil experts now peg this at $10-$15 a barrel. If countries start to stockpile more crude in light of current events, one can expect the oil price premium to rise even further even if the situation calms down overseas. So no matter what, barring a sudden downturn in demand, and the one thing about oil (food too) is that demand is relatively inelastic over the near term, the risk is that we will see further increases in the price of crude even from current lofty levels.
Today on Bloomberg TV, Rosenberg said he sees rising oil and food prices taking 1% off GDP. He said that 2 of the 3 times that oil and food went up together resulted in a recession. It didn’t happen in 1996, he says, because of the forces of the tech boom.
It all depends, as they say. The issue is: how long will political roiling in the Middle East continue? ¿Quien sabe? My point is that we will see stagflation regardless of oil. As I pointed out in “A Note on Inflation: It’s Here,” the forces of inflation are already in motion and its effects are starting to show up, one of which is price inflation.
Again, we need to be mindful of what is “inflation:” it is always an increase in money supply. One of the effects of inflation is price increases. Other effects, even more serious, include the destruction of real capital (that is, capital saved from production or labor, not from printing fiat money). The destruction of real capital accompanying inflation is the only explanation for stagflation.
The result of an oil shock will add to our economic woes, compounding the recessionary side of stagflation.
There has been a lot of buzz about stagflation in the mainstream media lately. Most economists pooh-pooh the idea. The reason is that they don’t understand inflation, mostly confusing price increases as a cause of something bad rather than an effect of something bad.
Mr. Rosenberg is one of those who make this mistake. He points to low wages and low capacity utilization as the reason why we can’t have stagflation. Unfortunately that wasn’t the case in the late ’70s and early ’80s. (See this chart showing low cap/u and high inflation at the same time.) Other economists like this fellow have entirely no understanding of the issue:
“The old way of thinking used to be that you’d have a jump in crude-oil prices, leading to an increase in inflationary expectations, and that would push the long end of the yield curve higher,” said Howard Simons, strategist at Bianco Research near Chicago. “Nice theory, but it hasn’t worked over the last 10 or so years.”
The thing I want to leave you with is Fed Vice-Chair Janet Yellen. DoctoRx brought this to my attention this morning when Ms. Yellen gave a speech on improving the Fed’s communications and thus our expectations of what the Fed will do. This is the Blah, Blah Theory of economics. The bottom line is that she and the Fed believe they can “jaw” their way to a better economy. By telling us that they are going to continue to be “accommodative” (i.e., “print” money) we will believe them and lend and buy and things will magically improve.
Don’t believe a word she says. This is the arrogance of a central planner talking, believing that she and her co-workers control the economy. Pull a lever here and there, and voila! things are all better. The econometrician’s dream.
I can tell you with some certainty that if things get worse, and if unemployment stays high, which is what I believe is happening, they will panic and pull out all the stops.