Wednesday, 20 of June of 2018

Economics. Explained.  

Gathering Momentum

July 7, 2017

GDP growth in the second quarter now seems likely to be 3.0% rather the 2.5% pace we had been projecting earlier.  This upward revision came about because of a strong employment report for June combined with upward revisions to the data for April and May.  Thus, the economy appears to have rebounded nicely from its anemic 1.4% first quarter pace.  Growth of this magnitude is sure to keep the Fed on track for another rate hike later this year, and the initial reduction in its holdings of U.S. Treasury and mortgage-backed securities in December.

For an economist, the single most important economic report for any given month is the employment report.  Not only do we discover the number of new jobs created each month, we learn how long people worked and how much they were paid.  This allows us to make reasonable estimates of GDP growth for the quarter, the monthly changes in industrial production and personal income, and refine our estimates of a host of other economic indicators.

As employment reports go, the June report was a barn-burner.  First of all employment for June climbed by 222 thousand.  Upward revisions to April and May data added another 47 jobs.  In the past three months employment has risen a solid 194 thousand.  Compare that to an average increase last year of 187 thousand.   At the very least employment gains are holding steady which is difficult to achieve given the apparent tightness in the labor market.

To satisfy demand for any given month employers always have the option of hiring additional workers or working existing employees slightly longer hours.  And, indeed, it appears that they used both options in June.  The workweek rose 0.1 hour to 34.5 hours.  That may not sound like much, but a 0.1 hour increase in the workweek represents a gain of 0.3%.  A 0.3% increase in private sector employment works out to 360 thousand.  In other words, if employers had been able to find the requisite number of bodies, employment in June would have increase by 582 thousand rather than the reported increase of 222 thousand.  That certainly creates a far more robust impression of strength in the labor market in June.  Keep in mind that the workweek for April revised upwards by 0.1 hour which has a similar effect and further enhances the outlook for GDP growth in the second quarter.

If we know how many people are working and how many hours they worked, we should be able to make a reasonable estimate of how many goods and services they produced.  That is exactly what GDP is trying to measure.    Given the upwards revisions to employment for every month in the second quarter as well as the upward revision to hours worked in April and the increase in June, the aggregate hours index – which combiners the employment and hours worked date — rose by 3.0% in the second quarter.  If workers are more (or less) productive, than the GDP increase for the quarter can be larger (or smaller) than that 3.0%.  Productivity was unchanged in the first quarter, but has risen 1.2% in the past year.  If productivity rises at all, second quarter GDP growth will eclipse the 3.0% mark.  If, however, it falls – which is always possible in any given quarter – you get the opposite result.  The first look at second quarter GDP will be released on Friday morning, July 28.   Given all of the above we have lifted our second quarter forecast from 2.5% to 3.0%.

If you are sitting in the Fed’s seat, you may have been disturbed by the anemic 1.4% growth rate registered in the first quarter.  But a rebound to a 3.0% pace in the second quarter should give you confidence that the first quarter result was an aberration.  That would imply GDP growth of 2.2% in the first half of the year versus a 2.0% increase last year.  While that does not provide a compelling case that growth is quickening (which happens to be our contention) it is, at the very least, continuing at a respectable pace.

We remain convinced that Fed officials will opt for one additional rate hike this year probably in September, which would boost the funds rate to 1.25%.  It could then follow that up with the first of its planned reductions of $6.0 billion in U.S. Treasury securities and $4.0 billion of mortgage-backed securities at its December gathering.

Stephen Slifer


Charleston, S.C.

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