Mathematical Adjustments Don’t Change Reality
Yesterday, I discussed the mathematical adjustment to the GDP calculation that added $1 trillion to economic growth. To wit:
“Where did a bulk of the change come from? A change in the calculation of “real” GDP from using 2009 dollars to 2012 dollars which boosted growth strictly from a lower rate of inflation. As noted by the BEA:
“For 2012-2017, the average rate of change in the prices paid by U.S. residents, as measured by the gross domestic purchasers’ price index,was 1.2 percent, 0.1 percentage point lower than in the previously published estimates.”
Of course, when you ask the average household about “real inflation,” in terms of healthcare costs, insurance, food, energy, etc., they are likely to give you quite an earful that the cost of living is substantially higher than 1.2%. Nonetheless, the chart below shows “real” GDP both pre- and post-2018 revisions.”
Importantly, the entire revision is almost entirely due to a change in the inflation rate. On a nominal basis, there was virtually no real change at all. In other words, stronger economic growth came from a mathematical adjustment rather than increases in actual economic activity.
The change to a lower inflation rate also boosted disposable incomes and personal consumption expenditures which also boosted the savings rate. However, what doesn’t change is economic reality. The chart below shows what we call “real DPI” or rather it is disposable incomes (which is gross income minus taxes) less spending. What we have left over after paying our bills, healthcare costs, food, tuition, etc. is what is really disposable for spending on other “stuff” or “saving.”
Despite the adjusted bump in savings, consumer activity continues to remain weak. Given that roughly 70% of the economic calculation comes from personal consumption, watching consumer activity is a good leading indicator of where the economy is headed next. PCE figures also suggest the recent bump in economic growth is likely transitory. Looking back historically, GDP tends to follow PCE and not vice-versa.
More importantly, weaker economic growth rates will also be met with much tougher year-over-year comparisons on corporate earnings which likely further hamper equity returns in the near term.
As we summed up yesterday:
“As an investor, it is important to remember that in the end corporate earnings and profits are a function of the economy and not the other way around. Historically, GDP growth and revenues have grown at roughly equivalent rates.
Forget the optimism surrounding “’Trumpenomics’ and focus on longer-term economic trends which have been declining for the past 30+ years. The economic trend is a function of a growing burden of debt, increasing demographic headwinds and, very importantly, declining productivity growth. I see little to make me believe these are changing in a meaningful way.”
Changing the math doesn’t change reality.
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