How is the Fed Going to Explain Its Giant Miss?

Mar. 15, 2019
by Bob Adelmann

The Atlanta Federal Reserve bank is likely to cover its “miss” with this explanation of its GDPNow model:

GDPNow is not an official forecast of the Atlanta Fed. Rather, it is best viewed as a running estimate of real GDP growth based on available data for the current measured quarter. There are no subjective adjustments made to GDPNow—the estimate is based solely on the mathematical results of the model.

In other words, if we’re wrong don’t blame us. Blame the math behind the model.

They’re going to need this to cover for their miss:

The GDPNow model estimate for real GDP growth (seasonally adjusted annual rate) in the first quarter of 2019 is 0.4 percent on March 13, up from 0.2 percent on March 11.

Their report includes the average of the top 10 and bottom 10 forecasts from so-called professionals whose business is watching the economy. They range from 0.7 percent growth in the first quarter of the year to 2.4 percent.

None of them comes close to what’s happening in the real economy. For instance the durable goods and business investment reports from the Commerce Department for February jumped 0.4% and 0.8% respectively compared to January. Assuming those indicators remain unchanged for the next 11 months, sales of durable goods for the year would increase by nearly five percent while business investment for the year would increase by almost 10 percent.

Those reports don’t exist in a vacuum. Inflation remains low and is trending even lower, keeping retail prices steady and in many cases declining. The CPI (Consumer Price Index) is just 1.5 percent year-over-year while the PPI (Producer Price Index – what businesses pay for their raw materials) rose a scant 0.1 percent in February.

Just these indicators alone are persuading the Federal Reserve to maintain its “hands-off” policy, which is having a positive impact on interest rates. The key indicator is the yield on the Treasury’s 10-year bond, which has dropped from nearly 3.25 percent to just over 2.6 percent in the last four and a half months.


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This bodes well for the housing market, which is showing a nice rebound thanks to 30-year mortgage interest rates declining to levels not seen in a year.

The economy has added more than 1.3 million manufacturing jobs since January 2010, the unemployment rate remains near record lows, there are more job openings than people looking for work, and the economy’s total gross output continues its record-setting pace.

In fact, the economy is vastly stronger and more productive than most people realize. The standard measure is GDP (Gross Domestic Product), which is approaching $21 trillion a year according to the Bureau of Economic Analysis (BEA). An alternative measure, also reported by the BEA but ignored by most forecasters, is the “gross output” (GO) indicator, developed years ago by economist Mark Skousen. The GO for the U.S. economy (which includes business and supply chain spending) is closer to $45 trillion.

What’s more, GO is increasing much faster than GDP, growing at an annualized 4.6% rate in the third quarter of 2018. Business-to-business (B2B) spending rose even faster, by 5.8%.

Then there’s the Purchasing Managers Index (PMI) published by the Institute of Supply Management (ISM). Its Chicago index, released two weeks ago, surged eight full percentage points in February, the largest monthly rise in two years. Its “new orders” component jumped by 15 points.

That explains why job growth remains so strong. Averaging 186,000 new jobs every month (an average over the last three months), the economy has added five million jobs just since January 2017, the beginning of the Trump administration. It also explains why wage growth is surprising forecasters as well: business owners have increased wages by more than three percent a year. They have also invested heavily in more productive business systems, resulting in productivity growth per employee hour at the highest level since 2010.

It gets better. New home housing starts leapt nearly 19 percent in January, with single-family homes jumping even higher, 25 percent, compared to December.

Stock market investors are ignoring the economic forecasters and the GDPNow report from the Fed, and are enjoying the ride. All three major indexes (the Dow, the S&P 500 Index, and the NASDAQ) are up double-digits for the year and are closing in on the all-time highs notched late last year. Specifically, the Dow Jones Industrial Average has rewarded investors with almost a 4,000-point gain just since Christmas Eve 2018, and is less than 1,000 points away from its all-time high.

The Atlanta Fed has a little over a week (its next release of its GDPNow estimate is Friday, March 22) to get it right.

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Sources:

The Wall Street Journal: U.S. Durable Goods Orders Rose in January

The Wall Street Journal: U.S. Producer Prices Remained Tame in February

The Wall Street Journal: U.S. Workers Gain From Rising Wages, Low Inflation

The Wall Street Journal: Investors Embrace Riskier Sectors as Stocks Extend Rebound           

The Balance: How Is the US Economy Doing?

MarketWatch: 30-Year fixed rate mortgage average in the United States

The McAlvany Intelligence Advisor: The Real U.S. Economy Produces $45 Trillion, Not $20 Trillion as Reported

Investing.com: PCE (Personal Consumption Expenditures) = 1.9% (March 1, 2019)

The Atlanta Fed: GDPNow at 0.4% for First Quarter of 2019

The St. Louis Fed: FRED: All Employees – Manufacturing

The Bureau of Economic Analysis: Gross Domestic Product, Fourth Quarter and Annual 2018 (Initial Estimate): $20.89 trillion

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