Investment Growth Strong in Third Quarter

But GDP Gains Are Not Enough to Boost Employment

The U.S. economy in the third quarter registered a 2.5 percent annual growth rate—an important indication that we are not slipping back into recession. This pace of growth in our gross domestic product—the largest measure of our economy—indicates we are not in a double-dip recession but is insufficient to reduce the 9.1 percent unemployment rate and remains below our historical GDP growth rate average of 3 percent levels.

One reason our economy is not growing faster is that government spending added nothing to economic growth in the third quarter. The other is that the trade deficit continues to weigh down the U.S. economy. Enacting President Barack Obama’s American Jobs Act would be one step in the right direction. Congress needs to build on the clear success of the American Recovery and Reinvestment Act of 2009, which boosted growth, helped bring down unemployment, and ended the Great Recession of 2007–2009.

Another step would be policies to boost U.S. exports and rebalance our trade. Yet an overvalued currency, the continuing economic crisis in Europe, and the slowdown in China will limit our ability to export our way out of unacceptably high unemployment.

Fortunately, domestic demand is picking up. In the third quarter, consumption grew by a 2.4 percent annual rate. Spending on durable goods rose by a 4.1 percent rate, boosted by a 12.1 percent rate increase in spending on recreational goods and vehicles. Automobile purchases continued to fall, but at a much slower pace than last quarter; they are down in the third quarter by a 3.3 percent rate compared to last quarter’s 25.5 percent rate.

On the downside of demand, spending on clothing and footwear fell by 8.4 percent. And health care was a rising expenditure for families, increasing by a 5.4 percent rate, which cuts into their ability to purchase other goods and services or save for the future.

Businesses, however, are ramping up spending and sharply increased their investments, indicating they may see a rebound in their order books. In the third quarter, investments in industrial equipment grew at a 33.1 percent rate and transportation equipment by a 38.1 percent rate. Overall, fixed investment added 1.6 percentage points to GDP growth in the quarter and grew by a faster pace than any quarter since the recession began.

Investment in structures such as factories and commercial buildings slowed, but at a still-healthy 13.3 percent rate, compared to a 22.6 percent rate in the second quarter. Overall, investment in business equipment and software ramped up to a 17.4 percent rate.

Unfortunately, business inventories pulled down economic growth by 1.08 percentage points, meaning businesses held back from restocking their goods for sale during the quarter and as a consequence prevented our economy from growing at a more robust rate of nearly 3.6 percent in the third quarter. This should come as no surprise given the debt limit debacle over the summer alongside continuing questions about the ability of Congress to agree on a budget, both of which may have led to enough uncertainty for companies to hold back on investments.

Since the summer, though, businesses have been scrambling to meet growing demand. This is why the American Jobs Act is so important to enact. We can build on growing demand by putting more Americans back to work, restoring a virtuous cycle where average Americans enjoy the fruits of rising prosperity, not just the wealthy.

Indeed, our still moribund—but no longer declining—housing market makes it imperative that we move to create more jobs. Residential investment grew for the second quarter in a row, but the pace slowed. Residential investment added 0.05 percentage points to GDP growth. Typically, residential investment helps pull the U.S. economy out of a recession. But given the continuing oversupply of homes on the market, even with record-low mortgage rates, housing is unable to act as a driver of economic growth.

Nor are exports likely to do the job unless we make serious policy changes. Exports continue to grow faster than imports but their contribution to economic growth remains relatively low. Trade added 0.22 percentage points to GDP but the pace of growth was lower than in the second quarter. While exports contributed an average of a percentage point or more to economic growth in 2010, they only added 0.55 percentage points in the third quarter and 0.48 percentage points in the second quarter.

The Recovery Act was effective in boosting growth in 2009 and 2010, but with those dollars spent, government spending is no longer contributing to the economic recovery. Defense spending grew by an annual rate of 4.8 percent, slower than the 7.0 percent rate in the second quarter, but nondefense spending fell by an annual rate of 3.7 percent.

The upshot: Our economy is moving forward but we need to do more to bring down the 9.1 percent unemployment rate. The congressional super committee charged with resolving the budget deficit standoff on Capitol Hill by Thanksgiving should focus on proposals that will address our immediate challenge of boosting economic growth. Doing so will help on that score as well as help bring down unemployment. This is not the time for further cutbacks in government spending as that will only dampen growth, and with it, extend the pain of unemployment.

Heather Boushey is a Senior Economist at the Center for American Progress.