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GDP: Lowest Inflation Rate in 5 Years

Barron's Alan Abelson takes a look at Thursday's GDP laugher, and sees the same issues we noted, plus a few more:

"GDP, IN COMMON PARLANCE, stands for gross domestic product, or the aggregate value of all the goods and services produced on these blessed shores. Or, at least, that's what it used to mean in those long-gone days of yore, when life was simpler and government statistics credible. These days, alas, those initials more typically signify "gross deceptive pap."

The insidious change has not gone unremarked, both in this magazine and by more than one skeptical scanner of the turgid flow of numbers flowing out of Washington. Yet purportedly professional seers, who draw handsome paychecks for sifting through the unending streams of digits and making sense of them for hoi polloi like us, deferentially pass along the official numbers unsullied by even a modicum of analysis, as if they were holy writ, especially when they're upbeat.

A case very much in point was last Thursday's revised report on second-quarter GDP, which helped spark a nice, if something less than enduring, leap forward by the stock market. The initial version released in July posited that the venerable economic barometer had risen by 1.9% -- up from the first quarter's meager 0.9% gain, but obviously no great shakes.

Comes now the so-called preliminary estimate that claims second-quarter GDP grew by a much more robust 3.3%. That was hailed by the incorrigibly constructive contingent in the Street as evidence of the resiliency (favorite word) of the economy and prompted the thinned-out ranks of investors to put their worries and their plans for an extra-long weekend on hold and pile into stocks. Hooray! Hooray!

But even a cursory look at what they're drooling over reveals pretty thin gruel. Nothing, for sure, that would cause any sentient being to start humming "Happy Days Are Here Again." For the ostensibly better GDP showing is a mirage, conjured up by the usual suspects out of smoke and mirrors.

The key here is the GDP deflator, which purports to adjust GDP for the impact of inflation; it's a curious calculation in that, contrary to its moniker, it seems designed to do the exact opposite of deflating GDP.

Thus, according to this accommodating measure (accommodating, that is, if you're determined to put a good face on a dreary report), inflation grew at an improbably restrained 1.33% in April-June. And maybe it did -- but not in the good old U.S. of A. However, obviously more important than accuracy to those doing the calculating is this simple equation: The lower the deflator, the greater the growth of GDP.

John Williams of Shadow Government Statistics, whose incisive description of the decades of willful distortion of inflation by Washington we cited a few weeks ago, points out that the supposed 1.33% increase in the second quarter would represent the lowest inflation rate in five years. Must be that plain folks stubbornly refuse to recognize the dramatic drop in inflation, because, as Phil Gramm said, we're such a bunch of whiners.

Of course, even by the government's not entirely extravagant figuring, the consumer-price index was up a hefty 8% in the latest quarter. Perhaps the computer that tallies the CPI doesn't talk to the computer that measures the deflator.

By John's reckoning, "a second-quarter year-to-year contraction of 2.9% would have been more in line with underlying fundamentals, past methodologies and the ongoing recession."

He suggests that a more telling picture of the economy's progress or lack of it is the alternative to GDP, known as gross domestic income, or GDI. It's a rough equivalent of GDP but measures the nation's income instead of production.

According to John, after adjusting for inflation, GDI in the June quarter weighed in at an anemic 0.5%, atop negative growth in the preceding two quarters -- which, as it happens, meets the popular definition of a recession.

Friday's disclosure that personal income in July suffered its biggest decline in three years doesn't exactly portend a rebound in the third quarter, and certainly didn't come as a big surprise to John, who sees the outlook for the economy remaining glum, with no early end to the banks' solvency crisis, as he terms it, nor the inflationary recession. (Emphasis mine)

Also worth noting: Merrill's David Rosenberg looks at the GDP version of Banks & Brokers profits:

THE ASTUTE ECONOMY-WATCHER for Merrill Lynch, David Rosenberg, also strongly advises digesting the suspect GDP report with a "very large grain of salt." Among other things, he casts a skeptical eye on how the report treats the decline in corporate profits. (We won't keep you in suspense: The answer is: "gingerly.")

More specifically, he notes, "national-account corporate profits declined at a 9.2% rate in the second quarter." For domestic industries, he goes on, profits are down 14.4% year over year.

But according to the GDP report, domestic nonfinancial profits fell at a much sharper 22% annual rate. The reason the drop in total corporate earnings was limited to 9.2% was that, David relates, profits in the financial sector, so claims the report, surged -- get this -- at a 27% annual rate.

His wonderfully eloquent comment:

"Are you kidding me?"

My original comment stands: If you believed that US economy grew at a 3.3% annualized in Q2 2008, I have a very reasonably priced bridge for sale in Brooklyn. Hardly used. Make an offer.

Henceforth, we shall rename the GDP deflator as the GDP Inflator, for that is what it does.

>



Previously:
Goldman Sachs’ Jan Hatzius: Don’t Be Fooled by Inflation (August 2008)
http://bigpicture.typepad.com/comments/2008/08/durable-goods-d.html

Q2 GDP = 3.3% (kinda)  (August 2008)
http://bigpicture.typepad.com/comments/2008/08/gdp-33.html

Is BEA Measuring Growth or Inflation? (August 2008) 
http://bigpicture.typepad.com/comments/2008/08/are-you-measuri.html

Source:
Sizing Up Sarah
ALAN ABELSON
UP AND DOWN WALL STREET 
Barron's September 1, 2008
http://online.barrons.com/article/SB122004938061284705.html

Saturday, August 30, 2008 | 08:12 AM | Permalink | Comments (49) | TrackBack (1)
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Comments

Good job. We have a week of statistics coming out, all of which could easily be faked, I mean ADJUSTED - the birth/death adjustment will be heavily in evidence again on Friday in order to make the NFP number less than awful.

You are too hard on Abelson sometimes, even though he is rarely first to a story (it is a print weekly).

Here is the back story on the latest Friday bank failure; the amusement here is the name, Integrity Bank, and the fact they lent so heavily to a single developer. Now that says integrity right there.

http://www.nytimes.com/2008/08/30/business/30fail.html?ref=business

Speaking of Integrity, the deposits were rolled over to.. Regions ! To those who are truly desperate shall crumbs be given....

Posted by: leftback | Aug 30, 2008 8:51:22 AM

No reason to keep obsessing about this incredulous GDP number. The markets' reaction to this (bond prices didn't budige) makes it clear that nobody on the planet (except for Brian Wesbury) believes it.

Posted by: Steve | Aug 30, 2008 9:01:48 AM

Normally, we blame this kind of stuff on the data. I think in this case, it is not really the data at all. The problem is the continual refusal to correctly interpret (~distort) the data.

It is now becoming crystal clear that the actual data is much more believable than the interpretation of that data.

They aggregate all of this data and want us to believe in their choice of assumptions that run totally contrary to their own admissions.

These are well-paid government employees that pretend to be intelligent; yet they continue to destroy any credibility in their results, one report at a time.

How do you think this crowd feels getting up every morning knowing their results are laughable (and of no real value)? It's got to be tough, especially for the guy/gal who has any integrity and honesty in their reporting.

They can also get that smirk off their face; because everyone with half a brain long since figured out what's going on.

You ain't fooling no body dude!

Posted by: BG | Aug 30, 2008 9:17:36 AM

Out of respect for the data and facts on the ground have you actually looked into the data and the measurements ? The GDP Deflator looks at all the goods and services that go into total economic activity while the consumer price index looks only at the basket that consumers buy. As it happens when you confront the data the Deflator is a reasonably accurate measure of what it's supposed to be. But don't take my word for but plow thru - it's short but a tad technical - Menzies Chin's dissection on Econbrowser: http://tinyurl.com/5z2js6
As it happens he covers a lot more ground on why it feels like a recession. And the preceding post by Jim Hamilton on Europe's recession outlook is worth a read as well.
But this meme should either go away or be treated correctly. Otherwise one is as guilty of spinning data as NAR.

Posted by: dblwyo | Aug 30, 2008 9:30:20 AM

I'll stick w/ my original post:

Is BEA Measuring Growth or Inflation?
Thurs., Aug. 28, 2008:

fudged ___? (fill in you favorite econ. stat acronym here: e.g.: CPI, GDP, NFP, etc.). Hey, it's an election year...

Good article at Bloomberg re:GDP vs. GDI:

http://www.bloomberg.com/apps/news?pid=20601087&sid=aIWiIsk9fzl8&refer=home

"...the income [GDI] and growth [GDP] figures should theoretically match..."

Posted by: fudged_numbers | Aug 28, 2008 1:36:17 PM

A 3.3% GDP number doesn't reconcile w/ 2% FFR. Nor do the mkt./econ. fundamentals support it. You can fool some of the people some of the time...

Posted by: fudged_numbers | Aug 30, 2008 9:55:20 AM

I think a better explanation of what dblwyo said is available here, by Brian Wesbury:
https://www.ftportfolios.com/Commentary/EconomicResearch/2008/8/4/gdp_report_mis-underestimated

"Despite this, some analysts argue that Q2 data overestimated the true pace of real growth because the government underestimated inflation. This argument is bolstered by some very interesting developments in the GDP accounts, which show that nominal GDP grew at a very weak 3% annual rate in Q2 – 1.9% real GDP growth and a surprisingly low 1.1% inflation rate.

The reason the government’s estimate of GDP inflation was so low was because of the way the data is calculated. GDP = Consumption + Investment + Gov’t Spending + Exports – (minus) Imports.

So, the argument goes, the absurdly low 1.1% GDP inflation was just a technical artifact of the way the government calculates GDP. Deflating nominal GDP with a 4% inflation rate, calculated by including the 28% jump in import prices, would push Q2 real GDP into negative territory. For pessimists, this is an appealing argument.

Fortunately, it’s not true. If import prices are added back into inflation, then the total dollar volume of imports must be added back into nominal GDP as well. This is the only way to compare apples to apples. Adding back imports pushes nominal GDP growth to 5.5% at an annual rate in Q2. Then, using the 4% inflation data (that includes import prices) means real GDP growth was still positive by 1.5%, or so.

A second issue to think about is that unlike the Consumer Price Index (CPI) – which attempts to measure changes in the cost of the things we buy – GDP inflation is designed to measure changes in the prices of the things we produce, regardless of whether the purchasers are foreign or domestic. Due to oil, prices for the items Americans buy have been increasing much more rapidly than the items they produce. As a result, GDP inflation looks artificially low, when in reality it is not comparable to the CPI."

~~~

BR: This has to be one of the single dumbest arguments I have ever read about US GDP.

To compensate for the ridiculous impact high imported oil prices have -- artificially suppressing inflation -- we should also include as part of our measure of domestic production the value of goods produced overseas? HOW ON EARTH DOES THAT MEASURE US PRODUCTION?

Posted by: me | Aug 30, 2008 9:56:25 AM

How convenient that such a bogus GDP number would be released just a couple months ahead of the election. Bushie, you're doing a helluvajob.

Obviously, the GOP do indeed think that the American people are so stupid as to fall for this kind of bullshit. But hey maybe they're right; a lot of traders fell for it on Thursday.

Just what does it say about our government that you can't put any credence in any of the economic statistics it puts out? And, just what can you believe about our markets as well? Not much, which is one solid reason investors have essentially walked away from participating in the stock market.

Posted by: Todd | Aug 30, 2008 9:57:26 AM

What a bunch of whiners. Move along.

Posted by: John | Aug 30, 2008 10:00:36 AM

I wonder how many competent number crunchers/forecasters are leaving the gov. due to what appears to be the giving of a number and telling them to back into it. You do not need much talent for that.

Posted by: larster | Aug 30, 2008 10:07:02 AM

Note: This isn't a grand conspiracy -- this is simply the way the models are constructed. There are inherent biases built in, and this month's GDP data reflects that.

Yes, there is some latitude in making certain selections -- I am not sure precisely how much -- but I do not believe its huge.

We have not a political issue here, but a quantitative analytical one . . .

Posted by: Barry | Aug 30, 2008 10:26:47 AM

Guys -- The US GDP numbers or Sarah, it is the same thing!

http://firstread.msnbc.msn.com/archive/2008/08/29/1304605.aspx - Sarah/GDP first read

"...a fisher with a killer smile who wears designer glasses and heels, and hair like modern sculpture, who's taking it to the boys ever so softly."

Our (perfect) AAA rating is safe and secured!

Posted by: Perfect stats! | Aug 30, 2008 10:29:15 AM

There are lots of reasons to question the data and its interpretation.

But there’s a tendency to conflate somewhat different dimensions of the problem.

E.g., some aspects frequently noted:

a) CPI hedonic adjustments

And:

b) GDP “contra entries” e.g. imputed rent as output and income

c) GDP financial sector profits, which probably exclude asset write-offs from underlying GDP income calculations

And:

d) The GDP/GDI differential

And

e) The CPI/GDP deflator differential

The last of these should be the least controversial if interpreted probably. Most of the difference between CPI and the deflator should be attributable to the exclusion of import inflation from the GDP deflator calculation. Import inflation is currently extreme. CPI inflation, although probably understated for many reasons discussed, is made higher than what would otherwise be the case because of import inflation.

GDP includes only the valued added by the US economy in the further processing of imports. So the lower deflator number (leaving aside the other contentious CPI calculation issues noted above) means that the US economy is inflating in terms of total value added at a slower pace than imports per se (e.g. refining margins within the US inflating less than imported oil itself).

It’s a messy subject, but it doesn’t really advance the case for CPI criticism by conflating that issue with what should be an understandable difference between the scope of CPI and the scope of the deflator. In particular, I don’t think it’s quite accurate to suggest that the deflator as an inflation measurement is the primary driver of understated inflation or overstated GDP. The other sources of the problem are closer to the truth of the problem, in my view.

Posted by: anon | Aug 30, 2008 10:30:13 AM

I agree Westbury’s “import adjusted GDP” is a back-asswards way of looking at the problem, resulting in an absurd concept for GDP.

But the point he makes is that such an absurd GDP interpretation is in fact the logical consequence of what is an equally absurd inflation adjustment – which is to attempt to deflate GDP with the CPI.

His final paragraph is more directly to the point, and is consistent with what I wrote above at 10:30.

Posted by: anon | Aug 30, 2008 10:46:11 AM

I have felt that the statistics coming from the government were being manipulated for a long time. Though I stand in the 'unconvinced camp' on conspiracy theories generally, it just seemed like anybody who would use the justice departement to manipulate an election, or control the scientific data coming out of NASA about weather, would not be above (nor insensitive to the possibility of) using economic data to further their political agenda. So I'm more than sympathetic to the point being made, and concurred with the interpretation of the graph you presented.

However, in looking at it more carefully, as it has circulated round the blogospere, I notice an interesting feature: There is a *very* similar divergance between GDP deflator and CPI going into the 1980 recession. I just don't think Carter had the out and out cynical manipulative gene enough to play shenanigans with government data for his own purposes. So... I have to wonder, is there something about the way these two numbers are calculated that creates this divergance going into serious recessions? Interestingly too, there is a reversed version of the disconnect with about the same magnitude in the middle of the 1981 recession.

So... this could be completely 'natural', a consequence of how the numbers are calculated. And.. it could be recession indicator maybe of a long protracted one. Notice that there is a similar (but smaller) divergance going into the 1990 recession...

Posted by: VoiceFromTheWilderness | Aug 30, 2008 10:53:47 AM

PS: Note that my argument does not imply that the GDP number is true, correct, or accurate. It only is supportive of an argument that the error in the GDP number (which real world experience suggests is large) is not a manipulation but rather a consequence of some established process for calculating these two numbers.

Posted by: VoiceFromTheWilderness | Aug 30, 2008 10:56:15 AM

According to a New York Times article today on the strength of expansions, the Bush expansion just ended was the weakest compared with every expansion since World War II. Article includes great chart to make the point:

http://www.nytimes.com/2008/08/30/business/economy/30charts.html?_r=1&ref=business&oref=slogin

Posted by: Marty M. | Aug 30, 2008 11:06:02 AM

To paraphrase a quip for the estimable Warren Buffett:

Leave off your pants; we won't let the tide go out.

Posted by: VennData | Aug 30, 2008 11:09:30 AM

i think dblwyo is right, you can't compare GDP deflator and the CPI.

the GDP deflator measures price changes of the products we make domestically, and the CPI measures prices of ALL products we buy as consumers(domestic AND imported)

nevertheless, my hang-up is the logic in which these numbers are calculated because:

1) it makes no sense to calculate domestic production in a country that produces nothing (except for snazzy credit derivatives worth about as much as a used gum wrapper)

2) because of this, soaring imported oil causes the CPI to soar, but causes the GDP deflator to plunge; that's the way economists have defined our economy.

3) it's straight out of orwell's 1984, where the gov't made up their own economic stats & formulas to tell everyone how great things are. these guys are straight from the Ministry of Plenty in the book.

4) GDP largely measures things that are sold; whether or not it was done with borrowed money has no impact. this is especially important today since most of our borrowed dollars are imported, and as such should be subtracted from domestic GDP, as wesbury points out.

5) i'm not sure why the PPI and the GDP deflator are different; you'd think they'd measure the same thing.

ultimately, i think this goes back to the notion that economists have no clue as how to calculate inflation, or the money supply for that matter. (hedonics & geometric weighting are a whole other issue.)

most of these formulas were derived at a time when the economies of the world were much simpler. i don't know how valid they are with our incredibly complex, globalized, Frankenstein economy we have today.

Posted by: m3 | Aug 30, 2008 11:21:59 AM

VoiceFromTheWilderness above makes a very good point. I had also noticed that this same strange divergence happened going into the 1980 recession. The two periods are similar: Weak economy, inflationary environment, and major oil price spike.

However, this sort of breaks down when you add in the 1973-74 recession. It had all these elements, but didn't see the same divergence between CPI and GDP Deflator.

It's not necessarily true that the government statisticians and economists are cheating. It could be that they are too deep in the numbers and don't stop to look at the big picture and realize that the results they've come up with make no sense. Anyone who works heavily with data sees such situations all the time.

Posted by: Henry | Aug 30, 2008 11:47:34 AM

This post BR was out of the park. More and more it seems the economic data is transforming into political data. I read a while back to expect an all out "I don't give a damn what they think" campaign on obfuscation and deferral. It seems more and more the intent is to kick the can down the road so it's the next guy's problem. As noted above, it's extremely interesting and very telling that the bond market didn't budge. When the bond market starts dismissing government data, Houston we've got a problem....a big one, for when government reporting loses credibility it takes a LONG time to earn it back... Too much debt and it seems it is in the Treasury Dept's best interest to inflate it away.

Posted by: Stuart | Aug 30, 2008 11:51:12 AM

I'm no specialist in the field of economics, but I'd like BR to mull something over for me, being the specialist I know he is.

A large number of U.S. residents (including every friend and relative I have living in the U.S.) seem to have a good chunk of their savings in 401k's (I think that's what they're called?), which I believe are directly tied to the equity market somehow? Do most government and corporate employee's have 401k's as well?

With such a large mass of people having a vested interest in equities, is there not some sort of a mass psychology at work here in painting a rosier picture of the data?

I can't imagine the vast number of number crunchers in government offices who are the first to see bleak economic numbers willfully allowing the data to pass through their hands without trying (even subconsciously) to enhance the positive aspects more than the negative, particularly if they realize that their future savings may hang in the balance.

Has anyone done any credible research on this subject? What percentage of the population owns 401k's? What percentage of government employee's own 401k's? What percentage of corporate employee's own 401k's? What fraction of 401k's are tied to equities markets? Would a crash in the Dow, for example, result in a similar percentile crash in 401k's?

Is the mass ownership of 401k's large enough to have a psychological effect on the data that is reported in the U.S.?

Would independent analysts who are citizens of another country provide a less biased view of the health of the U.S. economy?

I know... most of these are probably unanswerable. But it would certainly help explain (in my mind, anyway) how a consistent positive spin on negative data can dominate the U.S. reports.

Posted by: coler | Aug 30, 2008 12:04:16 PM

Barry,

May I suggest that we rename GDP from Gross Domestic Product to Grossly Deceitful and Pathetic?

Just a thought.

Posted by: phil-las vegas | Aug 30, 2008 12:13:27 PM

To explain the legitimacy of the GDP figure by rationalizing that the difference lies in how we measure "home grown" inflation ( per GDP deflator) versus "imported inflation" (as incl in CPI) completely, almost willfully dismisses recognition that services, which are almost entirely homegrown have experienced amongst the highest price increases. In essence then, Brian Wesbury's POV that the US is generating home grown price inflation of 1.2% but the rest of the world is generating price inflation in excess of 4% would be the conclusion. To me it does make some sense that inflation sourced from abroad would be higher given the more accelerated growth of aggregate money supply in other countries, particularly OPEC and Asia, but to agree with this, one needs to think at his hard about services, for as stated above are largely home grown and prices for most are thru the roof. As accounted for just by this service component alone, home grown inflation is far higher than 1.2%.

Posted by: Stuart | Aug 30, 2008 12:14:43 PM

It’s interesting that so many government economists keep quiet about this issue. No doubt they risk being fired if they talk to the press on the record (without authorization). But it would seem that there would be at least a few who would want to talk to the press anonymously.

Posted by: DL | Aug 30, 2008 12:40:34 PM

Our governemnt has quickly become a sham over the past eight years. The average joe doesn't realize how manipulated our data and markets have become. I hope a new administration will bring the much needed change our country desperately needs. I've almost lost hope, but I'm hanging on by a thread. The recent GDP scam is a slap in the face to anyone with half a brain and the ability to follow their silly inflation number.......The U.S. is in a perilious state ladies and gentleman........Our lenders and government are insolvent and it's getting worse as they try to (behind the scenes) to cure the ill's of our financial instituations with the same methods that landed us in this disgusting mess............

Posted by: Craig Mazeska | Aug 30, 2008 12:42:29 PM

December 2008

Sun	Mon	Tue	Wed	Thu	Fri	Sat
	1	2	3	4	5	6
7	8	9	10	11	12	13
14	15	16	17	18	19	20
21	22	23	24	25	26	27
28	29	30	31