Gross Domestic Product (GDP) is the broadest measure of aggregate economic activity and encompasses every sector of the economy. Why Investors Care
| Released on 2/28/07 For Q4 Preliminary 2006 | |||||||||||||||||||||||||
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Highlights
Fourth quarter real GDP was revised down to an annualized 2.2 percent from the initial estimate of 3.5 percent. The revision was in line with the market consensus projection of 2.3 percent. The downward revision was primarily due downward revisions to inventory investment and business fixed investment. The fourth quarter remained above the 2.0 percent pace in the third quarter. The downward revision puts the fourth quarter well below the 3 percent figure believed by many economists to be long-term potential. The Fed is counting on economic growth below potential to pull inflation down to an acceptable pace. For the fourth quarter, the GDP price index was revised up to 1.7 percent annualized from the initial 1.5 percent. The markets had expected 1.5 percent. The core PCE deflator was revised down to 1.9 percent from the initial estimate of 2.1 percent. Today's report is largely in line with expectations.
The composition of GDP has changed somewhat from the initial estimates - one key change being favorable and one not. The bad news is that business fixed investment was revised down to minus 2.4 percent from minus 0.4 percent. Investment is needed to keep capacity growing and inflation pressures down. The good news is that inventory investment was revised down from plus $35.3 billion to plus $17.3 billion. This means less inventory overhang and that any downturn in manufacturing (which is not certain) would be short and shallow. Importantly, the consumer sector remains healthy with personal consumption little revised at 4.2 percent, compared to the initial estimate of 4.4 percent.
Year-on-year, real GDP is up 3.1 percent in the fourth quarter, compared to 3.0 percent in the third quarter. Year-on-year, the GDP price index fell to up 2.5 percent year from up 2.9 percent in the third quarter. On the same basis, the core PCE deflator growth rate eased to up 2.2 percent in the fourth quarter from up 2.4 percent in the third quarter.
Today's report puts the economy well under potential for three consecutive quarters - helping to explain some easing in inflation. The change in the composition of GDP was probably positive on a net basis - the downward revision to business fixed investment was small while the downward revision to inventories was large. With the consumer sector healthy, the economy is still in moderately good shape.
In the advance report, fourth quarter real GDP jumped to an annualized 3.5 percent from the 2.0 percent pace in the third quarter. However, in the weeks since the advance report, some of the "missing but assumed" data have come in on the weak side - notably for inventories and some investment components. Markets are expecting a bigger than usual revision to the growth rate and on the down side. If the revision ends up with growth a little lower than 2.5 percent, the markets will likely like the revisions. The Fed is counting on sub-potential growth in the economy to help ease inflation with potential growth estimated at 3.0 percent. Somewhat below potential is good. Above potential is bad because the Fed will either pause longer or even tighten. Substantially below potential is bad because that means weak earnings. We are looking for Goldilocks here - anything in between roughly 2.3 to 2.8 percent for real GDP would be "just right," making the markets happy.
Real GDP Consensus Forecast for preliminary Q4 07: +2.3 percent annual rate
Range: +2.0 to +3.0 percent annual rate
GDP price index Consensus Forecast for preliminary Q4 07: +1.5 percent annual rate
Range: +1.4 to +1.7 percent annual rate
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Real GDP growth is always quoted at a quarterly annual rate. It measures how much the economy has grown over a three-month period. Quarterly growth rates are often volatile; consequently, economists also like to look at the year-over-year growth in GDP. The yearly changes tend to be more stable. |
![[Chart]](chart_1.gif)
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It is common to compare quarterly changes at annual rates in the GDP deflator. These can be volatile, just like the quarterly swings in real GDP growth; as a result, the trend in inflation is better determined by year- over- year changes. |
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