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February 14, 2008
Trend of Weak but Still-Positive Growth at Year-end
GDP Growth Weakened in the Fourth Quarter
Recent reports point to an outlook of sluggish economic growth and continued upward price pressures from food, energy and imports. Real GDP growth slowed from its 4.9 percent annual rate in the third quarter to a weak 0.6 percent in the fourth quarter (Chart 1). Another measure of overall economic activity, gross domestic income (available through 2007:Q3), had shown a deceleration in growth one quarter earlier. For all of 2007, real GDP grew 2.2 percent, slower than the 2.9 percent pace of 2006.
All Major Components of GDP Softened
All major components of GDP weakened in the fourth quarter. While housing continued its drag on growth, net inventories turned even more negative than housing, with the two together reducing overall GDP growth by 2.4 percentage points. Contributions from both consumption and net exports slowed notably, compared with the third quarter, by 0.6 and 1 percentage points, respectively (Chart 2). To some extent, the smaller net export contribution reflected an outsized third-quarter surge in export growth.
Early Indicators Suggest Sluggish Outlook
The index of leading economic indicators fell 0.2 percent in December, the fourth decline in the past five months and the third consecutive monthly decline (Chart 3). The cumulative 1.4 percent fall in the index since July suggests that aggregate demand growth has weakened following the financial and credit market turmoil that began in August.
Manufacturing Sluggish, Service Sector May Be Weakening
The latest readings for the Institute for Supply Managers (ISM) purchasing managers surveys indicate that manufacturing activity has been roughly flat, reflecting a deceleration from the first half of 2007. The service-sector index plunged in January to its lowest level since 2001 (Chart 4). During earlier periods of high uncertainty, such as September 2001 and March 2003, this index fell but then bounced back quickly. In addition, recent changes in the methodology for constructing the ISM indexes may complicate how to interpret the January data. For these reasons, it is not yet clear whether the January reading is the beginning of a sustained slowdown in the service sector. Thus, the index bears watching in coming months.
Durable Goods Recovered in December
One bright spot in December was a sharp rise in durable-goods orders (Chart 5). Nondefense capital-goods orders (not shown) rose 5.4 percent, and excluding aircraft, increased a sizable 4.4 percent. These data suggest that overall demand (domestic and foreign) for U.S. capital goods has generally been well maintained.
Money Markets See Small Improvement, Tightening Credit Standards
Money markets have improved some since the creation of the Term Auction Facility (TAF) following the December FOMC meeting, helping spreads between commercial paper and Treasury rates to narrow slightly, albeit to elevated levels. The London Interbank Offered Rate (LIBOR), the cost at which banks lend funds to each other, has fallen sharply, while interest rates on conforming 30-year fixed-rate mortgages have come down some. In contrast, corporate bond market conditions have continued to worsen, particularly for nonprime firms that face higher nominal yields. Indeed, yield spreads between high-yield corporate and Treasury bonds have widened (Chart 6).
Further effects of financial market turmoil became much more evident in January as senior loan officers at banks reported significant tightening of credit standards across the board. Eighty percent of officers reported tightening credit standards for commercial and real estate loans, up from 50 percent in the October survey. In the January survey, higher percentages of banks also tightened credit standards on business, consumer and mortgage loans than in October.
Housing Market Deteriorates Further
Construction indicators weakened more than markets had expected in December. In particular, single-family housing permits fell 8.8 percent (Chart 7), and new-home sales fell 4.7 percent, following November’s downwardly revised 12.6 percent decline. Overall, indicators still point to further home-price declines and deterioration in this sector. In addition, outside of housing, significantly tighter credit standards on commercial real estate loans are likely to constrain future commercial construction.
Job Market Weaker in January
According to the monthly survey of payrolls at firms, nonfarm employment dipped in January following sluggish growth in the fourth quarter (Chart 8). Although weakness was largely concentrated in manufacturing, housing and mortgage-related industries, service-sector job growth decelerated. Job losses were notable in manufacturing (28,000) and home construction (28,000), the latter of which does not include declines at real estate firms (5,000) or at lenders (4,000).
The monthly employment report also includes information from a survey of households, according to which the unemployment rate increased from November’s 4.7 percent to 5 percent in December and then backed slightly down to 4.9 percent in January. Data on initial claims and continuing claims for unemployment during late January and early February suggest that net job creation has likely continued to be sluggish.
Inflation Still Uncomfortably Elevated
Inflation rates picked up in the fourth quarter and remained elevated in December. Core and trimmed mean PCE inflation posted 2.2 and 2.4 percent rates in December, respectively. Hurt by rising food and energy prices, prices rose by 3.5 percent from a year earlier (Chart 9).
—John V. Duca and Jessica J. Renier
About
the Authors
Duca is a vice president and senior policy advisor and Renier is a research assistant in the Research Department at the Federal Reserve Bank of Dallas. |
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