U.S. GDP Growth Disappoints, Retail Sales Fall

Cheap oil was supposed to boost consumer spending, but instead consumers spent less as incomes fell.  According to the Bureau of Economic Analysis, U.S. GDP grew at just a 2.6% annual rate in the fourth quarter of 2014, far below expectations of 3%.

Cheap oil was supposed to boost consumer spending, but instead consumers spent less as incomes fell.  According to the Bureau of Economic Analysis, U.S. GDP grew at just a 2.6% annual rate in the fourth quarter of 2014, far below expectations of 3%.

A few weeks ago, economists at investment banks Goldman Sachs and Morgan Stanley upgraded their growth expectations, raising targets to as much as 3.2% in some cases. Widespread belief that falling oil and energy costs would boost spending going into the holiday season were behind those upgrades, as analysts insisted that the United States was ideally positioned to profit from cheaper energy.

Warning Signs

More recently, warnings that the boost to sales was not materializing came from several sources. Last week, the Dallas Federal Reserve warned that regional economic activity had worsened significantly, and concern that the region was set for economic contraction replaced optimism.

While some dismissed the Dallas report as unique to an energy-producing region, others warned that the growing production of energy in the United States meant that it was increasingly dependent on higher oil prices, particularly as development costs exceed those of competitor countries like Saudi Arabia.

A very different warning came from the BLS in early January, when the report noted a fall in real and nominal earnings in December. Wages fell five cents per hour in real terms on a monthly basis, even as jobs continued to grow. Private non-farm payrolls rose by 224,000 in December, well above expectations. The unemployment rate fell to 5.6%.

Retail, Consumer Expenditures Hit

The growth in jobs, at least in theory, should cause wages to rise as growing negotiating power amongst laborers forces businesses to pay more. The fall in real wages indicates that, in fact, the new jobs are of lower quality and lower pay than older jobs, and that the labor market still has sufficient slack to justify zero wage growth.

With workers squeezed by flat wages, even lower energy costs cannot make up for rising costs to health care, education, and other services. As a result, real personal consumption expenditures saw modest growth. Real PCE rose 4.3% in the fourth quarter, with growth in services spending rising 3.7%, far below durable goods growth at 7.4%. While high, the rate of real PCE is below expectations that lower energy costs would create a multiplier effect and encourage more aggressive spending on services, which underperformed all other expenditure categories.

Another significant drag to GDP growth was a steep fall in Federal government spending, which fell 7.5% in the fourth quarter, after rising 9.9% in the third quarter.  Data show that defense spending fell 12.5%, non-defense spending rose 1.7%, and real state and local government spending rose 1.3%.

The fall in government spending was the result of fiscal tightening and a low level of bill approvals in the U.S. Congress, which will drag down growth in 2015.