Latest GDP data show moderate economic growth but the details are telling

Earlier today, the Bureau of Economic Analysis released the first estimate of growth in U.S. gross domestic product during the third quarter of 2014. The top line number is quite encouraging: GDP grew at a 3.5 percent annual rate this quarter.  While that rate is a slight downgrade from the 4.6 percent annual rate for this broad measure of growth in the second quarter, the rate is still relatively strong. This data release is a sign that a moderate recovery continues apace. The question is when and how the story will change.

First, it’s important to remember how preliminary these data are. This release is the first of three for GDP data for the third quarter. The Bureau of Economic Analysis will revise the data twice before we receive a final estimate. So reader beware, you might want to take these numbers with a grain of salt.

The largest contributor to GDP growth was personal consumption expenditures. Overall this component of GDP added 1.22 percentage points to the growth rate. Durable goods provided the largest share of this contribution at 0.53 percentage points. Consumption of durable goods increased by 7.2 percent over the quarter compared to 1.1 percent for nondurable goods. This difference isn’t a one quarter aberration. As economists Amir Sufi at the University of Chicago and Princeton University’s Atif Mian showed earlier this year, consumption of durable goods in the current recovery has been on pace with the historical experience. But nondurable good consumption has been weak compared to past recoveries.

Net exports contributed to growth as exports increased, adding 1.03 percentage points to GDP growth, and imports decreased, adding 0.29 percentage points. Government expenditures contributed to growth as well, adding 0.83 percentage points to the growth rate. The biggest contributor was federal defense spending.

Private domestic investment’s contribution to growth was quite modest in the third quarter, only 0.17 percentage points. Of course, the topline investment figure is obscured by the negative swing in inventory growth, which subtracted 0.57 percentage points. Fixed investment added 0.74 percentage points to growth. Residential fixed investment, also known as housing, added only 0.06 percentage points.

One way to look at this data in the least “noisy” way is to calculate GDP growth minus the change in inventories, known as real final sales, which grew by 4.2 percent in the third quarter. A similar figure is real private domestic final purchases. This number, calculated by summing consumption and fixed investment, is regarded as a better predictor of future economic growth.  This statistic went up 2.3 percent in the third quarter and is up 2.8 percent over the past 4 quarters. The growth rate of this particular measure of economic growth has been more consistent than GDP recently and has been very consistent over the economic recovery as a chart from the Council of Economic Advisers shows.

All of these different measures of various components of economic growth begin to blur together given all the data showing a moderate recovery still chugging along. The belief for years has been that more robust economic growth is just around the corner, but it has yet to materialize. At the same time, the Federal Reserve yesterday officially announced the end of the third round of quantitative easing—Fed speak for the purchase of U.S. government bonds and mortgage-backed securities to push interest rates down—and analysts believe the central bank is eyeing interest rate increases for next year.

If the current economic recovery isn’t as strong as anticipated—a likely future scenario given some of the leading indicators released today —then interest rate increases may not be in the cards.