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September Mostly Surprises on the Upside

October 31, 2012 · Update in PDF PDF

Economic growth improved in third quarter 2012 from a sluggish to a modest pace. Real gross domestic product (GDP) growth increased to 2 percent, near the economy’s trend growth rate, but the composition wasn’t encouraging. Growth appears to have accelerated at the end of the quarter. In September, the manufacturing sector turned positive and the housing sector continued its recovery, while labor market indicators were mixed. The unemployment rate surprisingly fell to 7.8 from 8.1 percent, and the less-volatile (though heavily revised) nonfarm payrolls increased by only 114,000 jobs. More good news from economic indicators is needed to confirm whether the pace of economic activity has indeed picked up.

GDP Growth Accelerates, With an Asterisk

Real GDP growth rebounded in the third quarter to 2.0 percent annualized growth from 1.3 percent in the second quarter (Chart 1). This was stronger than expected and obviously a welcome improvement from the troubling low growth in the second quarter, but it was mostly due to the contribution from government of 0.7 percentage points that is unlikely to continue. The positive contribution from government was the first since second quarter 2010 and was driven by a surge in national defense expenditures and the smallest drag from state and local government since third quarter 2009. If the contribution from government is excluded, growth was weaker in the third quarter than the second. One of the few positive details was that personal consumption expenditures (PCE) had an increased contribution of 1.4 from 1.1 percent annualized. This was the first release of third quarter GDP, and as usual, the two subsequent revisions could be substantial.

Another troubling development is the weakness in nonresidential fixed investment, which was a drag on growth in third quarter. Separate monthly reports on business investment confirm this downturn. New orders for durable goods fell by 13.1 percent month over month in August, which was only partially offset by an increase of 9.9 percent in September. This large swing was primarily driven by transportation, particularly nondefense aircraft and parts. Excluding transportation, orders fell by 2.1 percent in August and increased 2.0 percent in September. The less-volatile new orders for core capital goods, which exclude defense and aircraft, was flat in September and has been on the downslide since May (Chart 2). Such reversals in trend have been rare and suggest caution against projecting too bright an outlook.

A Stronger September

After a weak August, nearly every major economic indicator so far for September has shown surprising improvement (Table 1). Even the two negative surprises, consumer sentiment and nonfarm payrolls, have positive aspects. Consumer sentiment, which is released the same month the survey is taken, improved to 82.6 in October, the highest number since September 2007. September nonfarm payrolls only increased by a modest 114,000, but July and August were substantially revised upward by a total of 86,000 jobs.

Table 1
September Indicators Have Consistently Beaten Expectations

  Actual, September 2012 Consensus expectations Standard deviation of surprises (green = >1 standard deviation)
Consumer sentiment index 78.3 79 1.4
Consumer confidence index 70.3 63.1 5.0
ISM manufacturing index
(50+ = expansion)
51.5 49.7 2.0
Vehicle sales (thousands) 14.9 14.5 0.6
ISM nonmanufacturing index
(50+ = expansion)
55.1 53.4 2.1
Nonfarm payrolls
(change, thousands)
114 130 90
Unemployment rate (%) 7.8 8.2 0.2
Retail sales
(%, month/month)
1.1 0.8 0.7
Industrial production
(%, month/month)
0.4 0.2 0.4
Housing starts (thousands) 872 770 82
Leading indicators
(%, month/month)
0.6 0.2 0.2
Existing-home sales (millions) 4.75 4.74 0.22
New-home sales (thousands) 389 385 62
New orders for durable goods
(%, month/month)
9.9 7.5 2.7
Personal income
(%, month/month)
0.4 0.4 0.3

NOTE: Indicators are displayed in the order they were released.

SOURCES: Bloomberg; University of Michigan; Conference Board; Institute for Supply Management; Autodata; Bureau of Labor Statistics; Census Bureau; Federal Reserve Board of Governors; National Association of Realtors; Bureau of Economic Analysis; author’s calculations.

Housing Construction Improves

September was a strong month for the housing sector, as housing starts increased 15 percent from August to 872,000 at a seasonally adjusted, annualized rate (Chart 3). The more-forward-looking housing permits increased by 11.6 percent to 894,000 at a seasonally adjusted, annualized rate. Both of these series are volatile and heavily revised, so it is possible that the outsized gains could be reversed in future months or revised away. However, they are broadly consistent with other housing indicators, suggesting that the housing recovery is gaining momentum and should contribute positively to GDP over coming quarters.

Expansion Continues, Possibly Rebounds from Summer Doldrums

Both the Institute for Supply Management’s (ISM) manufacturing and nonmanufacturing indexes increased more than expected in September. While still weak, the manufacturing index increased from 49.6 to 51.5, crossing the threshold of 50, which is consistent with expansion. Industrial production followed it up, increasing 0.4 percent after declining 1.4 percent in August, raising hopes that the weakness in manufacturing will pass. The ISM nonmanufacturing index has proved to move fairly closely with output growth, so the substantial rise from 53.7 to 55.1 is encouraging (Chart 4). Retail sales have increased three months in a row after falling the three months in a row prior to that. Year-over-year growth has rebounded to 5.4 percent in September, up from 3.1 percent in June. Real PCE increased 5.0 percent annualized in September, above the third-quarter rate of 2.0, which feeds directly into GDP. Taken together, these indicators point to momentum building going into the fourth quarter after weak second- and third-quarter private sector growth.

Inflation Expectations Remain Anchored

Market-implied inflation expectations can be calculated by using the difference between the nominal and inflation-protected Treasury securities with maturities five years and 10 years from now, called the TIPS implied 5-year/5-year-forward inflation rate. Chart 5 indicates that long-forward inflation expectations have risen recently but have been stable over the recovery period, and the latest readings between 2.70 and 2.75 percent are well within this range. According to the University of Michigan survey of households, long-term inflation expectations edged down to 2.7 percent in October from 2.8 percent in September. The survey of professional forecasters conducted in third quarter 2012 implied long-term inflation expectations of 1.8 percent five years from now.[1]

September appears to have shown an increased pace of economic activity over previous months. Unfortunately, that is not a high bar to clear. Further, one month of data certainly does not constitute a trend. Strengthening has yet to be seen in nonfarm payroll employment—one of the most closely followed indicators. Details of the GDP report are less encouraging than the growth rate would suggest, but the data for September bode well for an improvement in the fourth quarter.

—Tyler Atkinson

  1. These measures of inflation expectations are consistent with the Consumer Price Index. It has historically run higher than the PCE price index, which the Federal Open Market Committee uses to define price stability.
About the Author

Atkinson is a senior research analyst in the Research Department of the Federal Reserve Bank of Dallas.


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