American consumers’ spirits are very strong. The University of Michigan Consumer Sentiment Index rose 4.5 points in January to reach 98.1, the highest level since January 2004. Clearly, consumers feel increasingly confident about their economic prospects. This is good news since a more confident consumer is likely to spend more on big-ticket and discretionary items. Looking ahead, we expect real consumer spending and real disposable income to grow faster than in 2014 and, in turn, bolster the economic growth rate to above 3% in 2015.
The few economic releases this week include:
- Real GDP grew at an annual rate of 2.6% in the fourth quarter of 2014 versus the 5% growth pace in the third quarter.
- New home sales jumped 11.6% to an annual rate of 481,000 in December from a revised November rate of 431,000 (was 438,000).
- The S&P/Case-Shiller 20-City Composite Home Price Index increased at an annual rate of 4.3% in November compared with the 4.5% growth posted in October.
- The Conference Board’s Consumer Confidence Index climbed to 102.9 in January from an upwardly revised 93.1 (was 92.6) in December.
- The University of Michigan Consumer Sentiment Index reading of 98.1 in January is down marginally from the preliminary estimate of 98.2.
- Durable goods orders tumbled 3.4% in December following a revised 2.1% decrease in November (was down 0.7%).
- The Chicago-area Institute for Supply Management (ISM) business activity rose to 59.4 in January from 58.3 in December.
- Initial jobless claims fell to 265,000 in the week ended Jan. 24 from the previous week’s upwardly revised level of 308,000 (was 307,000). Continuing claims fell to 2.385 million in the week ended Jan. 17.
Slower, But Still Solid
The U.S. Bureau of Economic Analysis (BEA)’s advance estimate of GDP growth for the fourth quarter shows real GDP–the value of goods and services in the U.S. adjusted for price changes–grew at an annual rate of 2.6%. This is a bit below our forecast of 2.8% and the consensus expectation of 3.2%. For the year, the economy grew 2.4% in 2014, the highest rate of growth since 2010.
Although growth was not as strong as in the second and third quarters of the year (4.6% and 5%, respectively), the year still ended at a solid pace, especially when we consider the components that contributed to growth. The increase in real GDP in the fourth quarter reflected positive contributions from personal consumption expenditures (PCE), private inventory investment, exports, nonresidential fixed investment, state and local government spending, and residential fixed investment that were partly offset by a negative contribution from federal government spending (had increased an outsize 9.9% in the third quarter). Imports, which are a subtraction in the calculation of GDP, increased.
The main reasons real GDP growth slowed in the fourth quarter were an upturn in imports, a downturn in federal government spending, and decelerations in nonresidential fixed investment and exports that were partly offset by an upturn in private inventory investment and acceleration in PCE. The rise in inventories in the fourth quarter will also create a potential drag on GDP growth during the first half of 2015. A large part of growth came from nondurable goods within the wholesale sector, which includes oil. Typically, such inventory builds in this area are gradually worked down over the subsequent couple of quarters.
Still, consumer spending grew 4.3%–its fastest pace since 2006, after increasing by 3.2% in the third quarter. This contributed 2.9 percentage points to GDP growth, with healthy growth in all three major subcategories (durable goods, nondurable goods, and services). In general, consumers once again boosted the U.S. economy in 2014, with real consumer spending increasing 2.5%. It is not surprising that consumer spending picked up in 2014, especially in the second half as payroll job gains also picked up momentum. More jobs mean more disposable income that can be spent. Moreover, the precipitous decline in gasoline prices since the summer also put a little more cash in consumers’ pockets to stretch their spending.
To be sure, several measures of consumer sentiment have been increasing lately. In January, the University of Michigan Consumer Sentiment Index reached its highest level since 2004, and the Conference Board’s Consumer Confidence Index hit its highest since 2007. Prices have been held in check, and consumers feel increasingly confident about their economic prospects. Real disposable income rose 2.4% in 2014. We look for gradually increasing wage growth to further support consumer spending and, in turn, economic expansion in 2015.
Amid otherwise balance broad-based growth, investment in business equipment was disappointing in the fourth quarter. It decreased 1.9%, in contrast to increases of 11% and 11.2% in the second and third quarters, respectively. This is in line with the recent weakness in durable goods orders data. Still, for the year, real private investment in equipment growth rose 6.3% in 2014 following a 4.6% increase in 2013. Looking ahead, we expect capital expenditures to improve in 2015 (estimated growth of 6.6%) as the economy continues to grow.
Final sales of domestic product (after taking out inventory gains from GDP) slowed to 1.8%, following a 5.0% jump in the third quarter. The slowdown, in part, reflects weaker growth in sales of domestic goods and services outside the country. This was expected because of sluggish global demand coupled with a strengthening dollar, which makes American exporters less competitive in the global market. On the flip side, aided by strengthening domestic demand and the dollar, imports grew 8.9% in the fourth quarter following a 0.9% dip in the third. With growth in exports slowing and growth in imports picking up, net exports were a drag in the fourth quarter–taking away 1 percentage point from growth (largest since the first quarter), compared with positive contributions of 2.9 and 1.2 percentage points from consumer spending and private investments, respectively. The slowdown in government spending (declined 7.5%) also added to the drop in real final sales of domestic product.