Second Estimate for US Q2-2023 GDP comes in lower at 2.1%

31 Aug 2023 , 09:13 AM

The first advance estimate had pegged Q2-2023 US GDP growth at 2.4% in real terms. However, the second estimate of GDP for Q2-2023 has lowered the growth estimate for the quarter by 30 bps from 2.4% to 2.1%. The second estimate includes more data points, which were not available at the time of the first advance estimate and hence it is more comprehensive. The final estimate for Q2-2023 GDP will be released in the end of September 2023.

Here it needs to be remembered that the US BEA typically puts out 3 estimates for the GDP for 3 successive months. The First Advance estimate for Q2-2023 was put out in end July showing real GDP growth in Q2-2023 at 2.4%. However, the second estimate has pegged the GDP growth lower by 30 bps at 2.1%. This is in contrast to the trend we saw in the first quarter ended March 2023. During that quarter, each subsequent estimate was an improvement over the previous estimate. However, the trend in Q2-2023 appears to have reversed with the second estimate sharply lower than the first estimate. We will come to the key reasons for this downward revision separately.

The GDP advance estimate are not just important as a barometer of the health of the US economy, but it also has important ramifications for the US Federal Reserve. The Fed has been trying to implement a soft landing, wherein the rates are hiked, inflation is brought under control and at the same time; the GDP growth is also not impacted. It may be recollected that in Q42022, the GDP growth had come in at 2.6%, while the first quarter i.e., Q12023 was lower at 2%. As of the second estimate, the Q2-2023 GDP estimate stands at 2.1% and it remains to be seen how the final estimate as of end of September pans out. 

Why second estimate dipped from 2.4% to 2.1%

There has been a 30 bps downgrade in US GDP estimates for the Q2-2023. The advance estimate had pegged Q2-2023 real GDP growth at 2.4%, but the second estimate has pegged it 30 bps lower at 2.1%. What have been the major drivers of this fall in GDP estimates in the second estimate as compared to the advance estimates? We will look at the downward pressures first and then the upward pressures.

• Gross private domestic investment fell 240 bps from 5.7% to 3.3%, between the first advance estimate and the second estimate of US Q2-2023 GDP. Also, the output of durable goods fell from a positive 0.4% to a negative -0.3%. within gross domestic investments, non-residential investment saw a sharper fall.

   

• Gross domestic purchases also fell 50 bps between the first advance estimates and the  second estimate of US GDP for Q2-2023. Most of the pressure on GDP came from core GDP, i.e., excluding food and energy. Imports also had a negative impact on GDP as the contraction in imports as per the second estimate was 80 bps lower than the first estimate. 

   

• Now for some positives in GDP between the first and second estimates. Residential investments actually saw a 60 bps increase between the first and the second estimates of GDP. Also, while durable good saw lower GDP, it was the non-durable GDP that actually showed higher growth compared to the first estimates. A lot of support came from government spending with the overall increase in GDP being helped by a 70 bps higher government consumption and investment spending across federal, state, defence, and non-defence items.

The fall in GDP estimates in the second estimate looks to be more structural, which means the final GDP estimate may gravitate more towards the August estimate than the July estimate. For that we have to wait till the end of September 2023.

Looking at Q2-2023 GDP from a macro perspective

The Q2-2023 GDP, which was pegged at 2.4% in the first advance estimate, has been toned down by 30 bps to 2.1% in the second estimate. Here is what was the broad trigger for this shift. The lower of growth from 2.4% to 2.1% in real GDP (nominal GDP adjusted for inflation) can be largely explained by a downward revisions to private inventory investments and non-residential fixed investments. However, this was partially offset by upward revisions to state and local government spending.

However, we cannot just look at a comparison of one estimate versus another estimate. WE must also look at what explains the 10 bps improvement in real GDP estimates for Q2-2023 as compared to Q1-2023; i.e., 2.1% versus 2.0%? The marginal increase in real GDP in Q2-2023over Q1 represents an increase in consumer spending, non-residential fixed investments, state and local government spending and Federal government spending. While these were the positives over the previous quarter, there was also pressure coming from lower exports, lower residential fixed investments, private investments, and the performance of imports. To sum it up, compared to the first quarter, the second quarter real GDP reflected a smaller decrease in private inventory investment, and acceleration in non-residential fixed investment. This was offset partially by downturn in exports, deceleration in consumer spending and a small downturn in federal government spending.

 

Current dollar GDP, personal incomes, and disposable incomes

Here are some of the key takeaways that we decipher from the data on GDP and income levels based on the second estimate for Q2-2023.

• In the Q2-2023, the current dollar GDP (nominal) increased by 4.1% annualized resulting in nominal GDP accretion of $268.6 billion in the quarter taking the nominal GDP in the second quarter to $26.80 trillion. 

   

• In the Q2-2023, the PCE inflation (used by Fed for rate decisions), stood at 2.5% (slightly lower than 2.6% in the first estimate. In Q2-2023, even the core PCE inflation (excluding food and fuel), increased by 3.7%, a downwards revision from 3.8% in first estimate.

   

• Current dollar personal income in Q2-2023 increased by $232.10 billion compared to an increase of $278 billion in the Q1-2023 quarter. Compared to the first advance estimate, this is a downward revision by $3.9 billion. Clearly, there has been a tapering in the income levels in Q2-2023due to the lag effect of the Fed tightening in the economy.

   

• Disposable personal income in Q2-2023 increased by $248.50 billion, very marginally higher than the first advance estimate. Real disposable personal incomes in the second quarter grew by 3.3%, a substantial upward revision of 80 bps compared to 2.5% in the first advance estimate. This appears to be largely due to the impact of lower inflation.

   

• Personal savings stood in Q2-2023 at $892.30 billion, an upward revision of $22.80 billion compared to $869.50 billion in the first estimate for Q2-2023. The personal savings rate as a share of personal disposable income improved to 4.5% as compared to 4.4% in the first advance estimate for Q2-2023. The Fed tightening and the banks tightening credit has made people more cautious about spending.

What do we glean from this story. Fed has continued to hike the rates at a fairly steady rate, despite inflation coming down sharply. This, combined with the lag effects, has led to a fall in disposable income levels. However, there has been a perceptible fall in the spending, as is evident from the propensity of people in the US to save more.

Gross Domestic Income and corporate profits for Q2-2023

Real gross domestic income (GDI) is up 0.5% in Q2-2023, compared to -1.5% contraction in Q1. The average of real GDP and real GDI (which the US government uses as a supplemental measure) has increased by 1.5% in Q2-2023 compared to just 0.1% in Q1. This shows that from the standpoint of multiple data points, there is a fundamental improvement in the US economy in the second quarter as compared to the first quarter. However, we have to await the final data in end-September for ratification of the view.

The good news is that corporate profits are beginning to look up once again in Q2-2023. Profits from current production (including inventory adjustments and capital consumption adjustments) fell by $10.5 billion, compared to a fall of $121.50 billion in Q1. However, if you break-up the data, it is the financials that are under a lot of pressure thanks to higher interest rates and the banking crisis. For example, profits of US financial companies fell by $47.80 billion in Q2-2023compared to a fall of just $9.4 billion in Q1. But the icing on the came was the profits of non-financial companies that saw an increase of $17.10 billion in Q2-2023 compared to a fall of $102.90 billion in Q1. While the financials in the US are still struggling, it is the non-financial plays that are showing all the growth.

How will the Fed read the data, and what it means for India?

Will the latest GDP data impact the Fed rate moves going ahead. Fed has been quite relentless about rate hikes and after the brief pause in June, it is back to hiking rates in late July. It looks like September may be a pause but November could see another 25 bps rate hike. Even Jerome Powell, speaking at the Jackson Hole symposium was quite emphatic that more rate hikes were needed to bring down inflation decisively towards the 2% target. However, there are two positive takeaways for the Fed in the GDP data. Firstly, nominal GDP growth has come down, which is what the Fed wanted anyways; and the gains on real GDP stem from lower inflation. The fact that GDP continues to grow at a robust pace means that the Fed can actually manage a soft landing for the US economy.

What does this data mean for India and for RBI policy? The RBI has apparently already charted the path but it is certainly keeping one eye on the extent of global hawkishness. For now, the RBI has a major problem with the spike in consumer inflation to 7.44% in July. RBI may not be hold on to its pause much lower, and it remains to be seen whether the RBI goes for a rate hike immediately or waits till October policy. The RBI would be keen to understand the terminal rates of interest that the Fed has in mind as that allows the RBI to also adjust its policy accordingly. However, for now, the terminal Fed rates are more a matter of conjecture.

Since February 2023, the last time when RBI hiked rates, the focus has been on growth and corporate profits and not so much on inflation control. The wager always was that the lag effect of rate hikes will do the job. However, the food inflation spiked this year has been a googly for Indian policymakers. For the RBI, the luxury of waiting and watching from the sidelines may not be available for much longer. The RBI may look at the PCE inflation also, before taking a final call on rates in India.