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Goldman Sachs report that asks, "Will the Kids Move Out of the Basement?"

Goldman Sachs report that asks, "Will the Kids Move Out of the Basement?"

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Published by marketplaceapm
US Economics Analyst, May 23, 2014
US Economics Analyst, May 23, 2014

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Published by: marketplaceapm on Jun 06, 2014
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06/09/2014

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May 23, 2014
Issue No: 14/21
US Economics Analyst
Economics Research
Sticking with Stronger
 
We currently estimate that real GDP fell -0.7% (annualized) in the first quarter versus a December consensus estimate of +2½%. On the face of it, this is a large disappointment. It raises the question whether 2014 will be yet another year when initially high hopes for growth are ultimately dashed.
 
Today we therefore ask whether our forecast that 2014-2015 will show a meaningful pickup in growth relative to the first four years of the recovery is still on track. Our answer, broadly, is yes. Although the weak first quarter is likely to hold down real GDP for 2014 as a whole, the underlying trends in economic activity are still pointing to significant improvement.
 
From a “nowcasting” perspective, the extreme weakness in Q1 GDP contrasts with a much smaller downside surprise in our current activity indicator (CAI). In fact, the CAI has continued to accelerate on a year-on-year basis, from 1.7% in early 2013 to 2.6% now. We believe the CAI is a better measure of broad economic activity than GDP because it is more timely, more broadly based, less noisy, and less subject to revision.
 
The broader rationale for stronger growth in 2014-2015 also remains intact. The fiscal policy drag of 2013 has ended. The household sector debt/income ratio seems to have bottomed. And while we recently shaved our homebuilding numbers a bit, our forecast remains one of recovery. One reason is that a reversal of the “doubling up” of households should support stronger household formation in coming years.
 
An update of our financial balances model—which consists of equations for ex ante changes in the different components of the private sector financial balance (personal saving, net residential investment, and the corporate financing gap), the external balance, and the fiscal impulse—suggests that the net impulse from all sectors combined points to clearly above-trend growth in 2014-2015. 
Jan Hatzius
(212) 902-0394 jan.hatzius@gs.com Goldman, Sachs & Co.
Alec Phillips
(202) 637-3746 alec.phillips@gs.com Goldman, Sachs & Co.
Jari Stehn
(212) 357-6224 jari.stehn@gs.com Goldman, Sachs & Co.
Kris Dawsey
(212) 902-3393 kris.dawsey@gs.com Goldman, Sachs & Co.
David Mericle
(212) 357-2619 david.mericle@gs.com Goldman, Sachs & Co.
Shuyan Wu
(212) 902-3053 shuyan.wu@gs.com Goldman, Sachs & Co.
Michael Cahill
(801) 884-4621 michael.e.cahill@gs.com Goldman, Sachs & Co.
Investors should consider this report as only a single factor in making their investment decision. For Reg AC certificationand other important disclosures, see the Disclosure Appendix, or go to www.gs.com/research/hedge.html.
The Goldman Sachs Group, Inc. Global Investment Research
 
May 23, 2014 US Economics Analyst Goldman Sachs Global Investment Research 2
Sticking with Stronger
Six months ago, we predicted that the US recovery would accelerate from the 2¼% average over the prior four years to a 3%+ pace in 2014-2015.
1
 The rationale for this forecast was that the post-bubble adjustments in the private sector seemed to be ending, and the fiscal retrenchment that held growth back in 2013 was set to end in 2014 as well. So far, the GDP data have told a different story. Growth in the first quarter was initially reported at a disappointing 0.1% (annualized), and we currently estimate that it will be revised down further to -0.7%. As shown in Exhibit 1, this would be a very large disappointment, on a par with that seen in early 2011 when many economists—ourselves included—predicted a pickup in growth but were then wrongfooted by a sharp slowdown in most indicators, including a reading for real GDP growth in 2011Q1 that started out as only mildly disappointing but was eventually revised into negative territory.
Exhibit 1:
 
A Big Downside Surprise in Q1 GDP
Source: Department of Commerce. Blue Chip Economic. Goldman Sachs Global Investment Research.
The first-quarter disappointment has resonated among economists and market participants for two reasons. First, it brings to mind the 2011 precedent, and more broadly the repeated downside surprises on growth in recent years. Second, it comes in the wake of the debate around “secular stagnation” that was kicked off by the speech by Lawrence Summers at the November 2013 IMF research conference. If the US economy cannot accelerate to a clearly above-trend pace even after the end of the private and public sector retrenchment at a time when monetary policy and financial conditions still look very supportive, then it is certainly appropriate to ask whether the forces holding the economy back are deeper and more structural in nature. In that sense, it is really “showtime for the recovery”, the title of our 2014 outlook article published last November. In today’s article, we therefore ask whether the evidence still supports the notion of a fundamental US growth acceleration in 2014-2015. Our answer, broadly, is yes. Although the weak first quarter is likely to hold down real GDP for 2014 as a whole, the underlying trends in economic activity are still pointing to significant improvement.
1
 See Jan Hatzius and Dominic Wilson, “Showtime for the DM Recovery,” Global Economics Weekly, 13/38, November 20, 2013.
Q1Q2Q3Q4Q1Q2Q3Q4Q1Q2Q3Q4Q1-2-10123456-2-10123456Blue Chip Consensus*First BEA EstimateFinal BEA Estimate**Percent change, annual ratePercent change, annual rateReal GDP Growth* Consensus estimate at the end of the prior quarter. **14Q1based on GS current tracking estimate.2011201220132014
 
May 23, 2014 US Economics Analyst Goldman Sachs Global Investment Research 3
The Acceleration Is Intact
For many people, the Commerce Department’s GDP report is the benchmark for how quickly the US economy is growing. It tells an unpleasant story. After climbing to a 4.1% pace in the third quarter of 2013, growth slowed in Q4 and likely turned negative in Q1. Given these numbers, it will be mathematically difficult for GDP growth in the year as a whole to be much above 2½%, and a lower outcome is very possible. But more fundamentally, we believe the quarterly GDP report is often a poor measure of economic growth. It is reported with a lag of 2½ months after the midpoint of the quarter to which it refers. Its scope is narrowly focused on aggregate dollar expenditure, as it puts no weight on survey measures of activity, employment, or income. Its quarterly moves are disproportionately affected by noisy indicators such as inventory investment and net foreign trade. And it is heavily revised. We therefore prefer broader measures of economic growth such as our current activity indicator (CAI), a weighted average of the 25 most important weekly and monthly indicators of US economic activity. We can calculate a preliminary version of the CAI just three weeks after the midpoint of the month to which it refers, which makes the CAI almost two months more timely than the quarterly GDP report. The CAI includes not just measures of aggregate expenditure but also business and consumer surveys as well as various labor market indicators. It is much less sensitive to noisy measures such as inventories. And it is much less subject to revisions than the GDP report.
2
 It is therefore noteworthy that the CAI showed a much less pronounced disappointment over the winter than the Commerce Department’s real GDP numbers, as shown in Exhibit 2. While real GDP growth disappointed by about three percentage points in Q1, the CAI slowed by just one point. We have argued that about ½ point of this disappointment can be explained by the unusually severe winter, which leaves just ½ percentage point, a relatively trivial number in the imprecise world of economic forecasting. Moreover, the March/April CAI shows a respectable bounce-back to a 3¼% average pace.
Exhibit 2:
 
CAI Sends a More Upbeat Message
Source: Department of Commerce. Goldman Sachs Global Investment Research.
2
 See David Mericle, “The CAI: A Timely and Stable Measure of Economic Momentum,” US Daily, March 20, 2013.
-2-1012345-2-1012345JanJulJanJulJanJulJanJulJanJulCurrent Activity Indicator*Quarterly GDP GrowthPercent change, annual ratePercent change, annual rate* First principal componentof 25 weekly and monthly US activity indicators.20102011201220132014

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