Major economic reports on gross domestic product (GDP) and employment were released last week.
Digging through the data should give us clues about the economy’s performance – and, relatedly, when the Federal Reserve will finally raise short-term interest rates.
As you know, the Fed is already tapering quantitative easing, leading to optimism that a rate hike is just around the corner.
Let’s see what we can gather from the economic data…
Dismal GDP Numbers
To put it bluntly, the GDP report bombed.
Consensus estimates for first-quarter GDP were calling for 1.1% quarter-over-quarter growth, down from 2.5% at the beginning of February.
Yet actual GDP grew at a measly 0.1% annualized rate.
Of course, like many recent disappointing economic data points, the low GDP reading was largely blamed on the harsh weather.
But there’s too much focus on short-term fluctuations in economic data. Instead, we should be looking past the noise and taking a longer-term perspective.
The following chart shows U.S. real final sales of domestic product over the past three decades. Unlike GDP, it excludes the effects of inventory builds and drawdowns – giving us a clearer picture of true economic activity.
Notice how the economy has failed to grow at a 3% year-over-year rate at any point during the last five years.
Clearly, the weather isn’t the only issue here. It’s just the latest excuse for why the economy isn’t growing as fast as its historical average.
False Hopes for Employment
In April, the so-called U-3 unemployment rate dropped from 6.7% to 6.3%, and 288,000 jobs were created.
At first glance, this is great news.
When you look closer, however, you’ll see that the improvement in the unemployment rate was largely due to a decline in the civilian labor force, which dropped by 806,000.
You see, when someone gives up trying to find work, they’re no longer considered part of the labor force, making the unemployment rate look better than it really is.
The labor force participation rate, which indicates the share of working-age people in the labor force, decreased to 62.8% – matching the lowest level since 1978.
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In other words, the headline unemployment rate is virtually meaningless.
The composition of job gains during the “recovery” is also worrisome…
According to the National Employment Law Project, lower-wage industries accounted for 22% of job losses during the recession, but 44% of employment growth over the past four years. So people are being driven to accept jobs that pay less.
There’s no doubt that this weak labor market – evidenced by a declining labor force participation rate and sluggish real wage growth – is a major reason why the economy isn’t growing faster.
So can we expect an interest rate hike anytime soon?
Don’t bet on it…
The Fed’s Zombie Economy
The Fed’s real motivation for tapering isn’t due to economic strength or accelerating inflation. It’s driven by the danger signs in the credit markets, which are a result of the Fed gobbling up such large amounts of bonds and forcing investors to take on more risk.
As I’ve discussed, the economy is simply too weak to withstand a higher federal funds rate.
Paradoxically, that’s the very reason why the Fed should raise rates.
Let the economy heal itself without incessant stimulus. Sure, there will be some short-term pain. But if it helps avoid stagnation and puts us on the path to a vibrant economy, it’s worth it.
Better yet, how about we let the financial markets – not the Fed – determine short-term interest rates when we aren’t in a crisis?
Until central planners move out of the way, don’t expect to see the U.S. economy rise from its zombie-like state.
Safe (and high-yield) investing,
Alan Gula, CFA