Worst reading in GDP in five years: Was it all from a health-care induced slowdown?

Economic Pulse
June 25, 2014

Today’s data brought the final release of Q1 2014 GDP. Despite its backward-looking nature, the revision from -1.0% to -2.9% resulted in the sharpest quarterly decline in five years, and was significantly worse than market expectations.

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Even if we see a rebound to 4% growth in Q2 2014, and 2% growth in each of Q3 and Q4 2014, Q4 2014 vs. Q4 2013 year-over-year growth will only rise by 1.2%, significantly short of the Fed’s most recent estimates for growth (which were in the range of 2.1% - 2.3%) Growth of 3% in the third and fourth quarters of 2014 would still only bring annual Q4 2014 vs. Q4 2013 year-over-year growth to 1.7%.)

While health care spending was responsible for the bulk of the downward revision (see table below), a downturn in exports, an increase in imports, a reduction in purchases of non-durable goods and a larger-than-previously-estimated drawdown in inventories also contributed to the decline.

While a set-back for the Fed in terms of meeting its recently-established projections, members will likely be more concerned with the composition of growth. Even away from consumer spending, nonresidential and residential fixed investment were still anemic. Non-residential structures investment fell at an annualized -7.7% in Q1 2014--marking the second consecutive quarter of decline—which hasn’t occurred since Q1 2010. Real investment in commercial and health care structures, which comprises 25% of private nonresidential fixed investment, fell at a -15.1% annualized pace in Q1—the largest decline since 2010.

Quarter-to-date, while labor market data has been fairly strong, other measures haven’t shown as much vigor. Nominal shipments of core capital defense goods ex-aircraft, which rose by a 0.5% (non-annualized) pace in Q1, were down -0.4% MoM in April and up only 0.4% in May. Industrial production of manufacturing goods is running at a 4.5% annualized pace through May—below Q1’s 5.4% pace, for example.

One additional note: Today’s release showed that after-tax corporate profits with inventory valuation and capital consumption allowances declined -13% in Q1 2014 vs Q4 2013. The decline can be explained by capital consumption adjustments as a result of the expiration of both the 50-percent bonus depreciation provision and increased Section 179 expensing limits claimed under the American Taxpayer Relief Act of 2012, however. If we look at profits after tax (without inventory valuation and capital consumption adjustments), corporate profits would have risen by 0.1%--minimal, but still positive.