Economists have been waiting for some good news, and they finally got it this morning when the Bureau of Economic Analysis reported that the U.S. economy expanded at an inflation-adjusted annual rate of 5.7 percent in the fourth quarter of 2009. This is a lot stronger than the 2.2 percent that we saw in the third quarter of 2009, and it’s the fastest growth rate since the third quarter of 2003. The acceleration in the fourth quarter followed stronger export growth and much faster business spending on equipment and inventories. Movement in these areas indicates that growth will continue in the coming months since the private sector is now beginning to carry economic gains after the jumpstart provided by the temporary public stimulus measures.
This does not mean that public policy can take its eyes off the economy. We need to sustain the current momentum and translate it into strong, durable job growth in the coming months. Today’s news shows that, while we have left the recession behind us, we don’t yet have the sustained, strong momentum we need going forward.
The fourth-quarter growth rate of 5.7 percent is respectable, but it received a substantial bump from exports and from inventories that are likely going to at least partially prove a temporary phenomena. That is, economic growth will likely continue in the coming months and quarters, but at much lower rate than for the fourth quarter of 2009. And without stronger, sustained underlying growth, it will be hard to translate economic gains into the necessary labor market growth that families have desperately been waiting for.
Changes in business inventories were the biggest contributor to economic growth in the fourth quarter of 2009. Business inventories are stockpiles of unsold, finished goods in warehouses, waiting to be sold. Businesses increased investments in their inventories. This typically occurs early on in a recovery. Businesses start buying more stuff that they expect to sell to new consumers in the near future. The change in inventory investment contributed 3.39 percentage points to economic growth in the fourth quarter of 2009. Without the change in inventory fluctuations, the economy would have still expanded by 2.31 percent in the fourth quarter, slightly faster than the total growth rate of 2.2 percent in the third quarter. But this effect will eventually taper off as businesses have enough inventory to satisfy their consumers’ growing demand, which means the growth contributions from inventory investments could wane in the coming quarters.
Exports were another remarkable growth contributor in the fourth quarter. U.S. exports grew at 18.1 percent in the fourth quarter, following a 17.8 percent expansion in the third quarter. The fourth-quarter export growth rate was the fastest since the third quarter of 2007. Exports grew in large part because of more goods exports, such as cars and airplanes, which expanded at an annual rate of 28.1 percent, while service exports, such as financial services, education, and tourism were flat.
The costs associated with rising U.S. imports could temper the gains from strong exports. Exports have been aided by a lower dollar, which makes U.S. exports cheaper, and from renewed growth in overseas markets. It is unclear whether this will continue or not, but there are also U.S. imports to worry about. U.S. imports detract from U.S. growth since it means we are spending our money to purchase goods from overseas producers. This is an obvious part of trade, but it gives rise to economic concerns in the United States since U.S. imports are vastly larger than U.S. exports, which creates a massive trade deficit.
U.S. imports grew a substantial 10.5 percent in the fourth quarter, down from a stunning growth rate of 21.3 percent in the third quarter. But U.S. consumers and particularly businesses could accelerate their purchases of foreign goods—including raw materials, especially oil, machinery, and possibly consumer items—as the U.S. economy continues to grow. U.S. businesses will need more inputs such as raw materials or machinery to produce for the domestic and global economy, but many of these inputs are only available overseas. The costs of more U.S. imports—which reduced economic growth in the fourth quarter by 1.41 percentage points—could quickly offset the benefits of faster U.S. export growth.
Consumer spending is growing at a modest rate. Consumption spending, for instance, grew at a rate of 2.0 percent—down from 2.8 percent in the third quarter—largely because spending on durable goods, such as cars, dropped by 0.9 percent after expanding by 20.4 percent in the third quarter of 2009. Spending on nondurables, such as food and clothing, accelerated, as did spending on services such as health care and education. Households also continued to spend more on new homes, but the growth rate in the residential real estate sector was much more modest with 5.7 percent growth, down from the third quarter’s strong 18.9 percent growth.
The slowdown to more modest growth rates in consumer spending on goods and homes was expected after the temporary government incentives disappeared. The continued growth of total consumer spending, though, indicates that consumers have found a comfortable but modest pace that is unlikely to change unless there is sustained strong job growth. Inflation-adjusted, after-tax income expanded by only 0.5 percent in the fourth quarter as job losses continued at a moderate pace, while wages and hours grew.
Business investments also contributed to the expanding economy at the end of 2009. The bright spot here is the continued growth in spending on machinery and equipment. Businesses spent 13.3 percent more on these items—such as computers, software, and trucks—in the fourth quarter of 2009 than they did in the third quarter. This was the fastest growth rate since the first quarter of 2006, and it boosted economic growth by 0.81 percentage points in the fourth quarter of 2009. These investments were also enough to offset the negative effect of less commercial construction, which decreased by 15.4 percent and subtracted 0.52 percentage points from the growth rate in the fourth quarter. Business investment could and should play a much larger role in boosting economic growth, especially if the troubles in the commercial construction market come to an end.
The U.S. economy has clearly turned the corner from a recession to a recovery. The underlying modest growth, though, will not gain more momentum unless the same happens in the labor market. Stronger consumer spending that feeds into faster business investment growth could ultimately carry the economy forward to a strong and sustained recovery. This will not happen without a return to a strong and durable labor market recovery, and that is not guaranteed without continued policy attention.
Dr. Christian E. Weller is a Senior Fellow at American Progress and an Associate Professor of Public Policy at the University of Massachusetts Boston.
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