Monday, April 25, 2016

A Tool for Predicting GDP Growth Rates

There is little doubt that economic growth since the Great Recession has not been at levels experienced in previous post-recession periods, an issue that becomes quite clear when you take one quick look at this graphic which shows year-over-year growth in nominal GDP:

When you look at real GDP growth (i.e. corrected for inflation), things look even worse:

Considering that the Federal Reserve has pulled out all of the monetary policy stops since 2008, one has to wonder how long this lukewarm economic growth cycle will continue and if real economic growth will ever recover to the four to five percent range that we were used to back in the 1970s, 1980s and 1990s.

When the quarterly GDP numbers are released by the Bureau of Economic Analysis (BEA), they are a trailing or lagging indicator of the strength of the economy and provide investors and policy makers with a poor tool for predicting what will happen to the economy in the near future.  A tool developed by the Federal Reserve Bank of Atlanta's Center for Quantitative Economic Research called GDPNow forecasts the seasonally adjusted annual rate of real GDP growth.  The GDPNow model uses similar methods to those used by the BEA to estimate real GDP growth, using an aggregate of 13 economic subcomponents that comprise GDP.  As additional monthly economic source data becomes available, the GDPNow forecast for a given quarter is updated and its accuracy improves.  GDPNow forecasts begin the week after the BEA's advance estimate of GDP growth for the previous quarter is released and is updated six or seven times monthly with the following data points:

1.) Manufacturing ISM Report on Business
2.) U.S. International Trade in Goods and Services
3.) Wholesale Trade
4.) Monthly Retail Trade
5.) New Residential Construction
6.) Advance Report on Durable Goods Manufacturers
7.) Personal Income and Outlays

Other data releases including Existing-Home Sales and Industrial Production and Capacity Utilization are also included in the model. 

Here are the data releases used for the GDPNow "nowcast":

If you are interested in more detail on how GDPNow works, here is a link to the academic paper that will provide you with that information.  Just in case you were curious, here is a screen capture showing one of the pages from the paper showing a small sample of the calculations used in the model:

Now that we have some background on how GDPNow is calculated, let's look at the most recent forecast:

The April 19, 2016 forecast shows that real GDP will grow by 0.3 percent in the first quarter of 2016 (the free line on the graph), a substantial drop from the estimates of 2.0 to 2.5 percent back in February and March.  It is also substantially lower than the range of predictions provided by the Blue Chip Economic Indicators, a monthly survey of top U.S. business economists.  A real growth rate of 0.3 percent for Q1 2016 can hardly be termed a healthy economic growth rate and suggests that the American economy is beginning to show signs of the slowing global economy.  This could also prove to be problematic for the Federal Reserve as it looks to raise interest rates a further 25 basis points.

I will update this posting on April 26, 2016 when the Atlanta Fed releases its updated GDPNow forecast.  For your information, the BEA will release its Q1 2016 GDP advance estimate on April 28, 2016. 

1 comment:

  1. Even growth of 1% every year is not sustainable forever. Nothing can continue to grow forever in a finite environment.