By: Tim Hayes Financial Advisor - posted in: Economy, Markets, and Interest Rates - Last updated Nov 27, 2018

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Stumbling Growth: Was the Negative 2.9% First Quarter GDP Really Just a Fluke?

by | Economy, Markets, and Interest Rates

For twenty-odd years, investment spending by companies has lagged, which has caused economic growth (GDP) to become more dependent on consumer spending. However, consumers are now showing signs of financial stress. So, unless investment spending picks up, a recession is likely.

Contributions to GDP over the past 50 years, by component

Average annual share of GDP %Consumer expenditureInvestmentNet ExportsGovernment SpendingTotal GDP
1961-7061.8%20.5%0.6%17.1%100%
1971-8062.5%20.6%-0.3%17.2%100%
1981-9064.6%20.3%-1.9%17%100%
1990-200067.3%18.9%-1.5%15.3%100%
2001-1070%18.6%-4.5%15.9%100%
Source: Organization for Economic Co-operation and Development

Investment

Companies can spend money on manufacturing plants, equipment and products, buy another company, pay down debt, or buy back their own stock. Only spending on plants, equipment and products transmits directly into economic growth.

However, for the past five to ten years, stock buybacks have been the preferred spending method. Stock buybacks cut the amount of outstanding stock that boasts the earnings per share, thus causing companies to seem more profitable.

Today, many executive salaries are paid in stock, and their level of stock compensation depends on earnings per share. In 2013, the corporations in the Standard & Poor’s 500 index spent $477 billion on stock buybacks.I Moreover, those companies bought back that stock after the stock market had increased over 100%.

Corporations can’t stop gobbling up their own stock

Many economists believe that, if consumption and government spending drop, corporate investment will automatically rise. However, sometimes the world is messier than an economist’s models.

Government Spending

The national deficit, as a percentage of American GDP, peaked at 9.8% in 2009. By April of 2014, the CBO projected the debt would amount to 2.8% of GDP.II The deficit usually falls during an economic recovery, but it has fallen exceptionally fast during the current rebound

Higher taxes and fewer benefits cause deficits to fall faster; however, both cause consumers to have less money to spend, which leads to lower consumption. This increases the odds that the negative first quarter GDP was not a fluke.

Exports/Imports

In the first quarter of 2014, the trade imbalance shaved 1.53 percentage points off of the GDP. The April and May numbers were only slightly better. Europe is a basket case where some countries are experiencing 27% unemployment, so it seems unlikely that exports to Europe will be increasing any time soon.

Trade Gap in U.S. Shrinks More Than Forecast on Record Exports

Eurostat: Unemployment in Greece at 26.4% in July

Also, Europe is experiencing its own version of austerity—which is an interesting theory. Some economists believe that if the size of government is cut, people will start spending more because they will realize that smaller government means fewer taxes in the future.

We’ll see about that.

Consumption

The U.S. has become dependent on consumer spending for economic growth. Debt has fueled much of that spending. In fact, from 2000 to 2007 the overall amount of American household debt doubled from $7 trillion to $14 trillion. In April and May of 2014, real consumer spending turned negative. Falling consumer spending increases the odds that the negative first quarter GDP was not a fluke.

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