The first estimate of GDP for the third quarter came in at 2.0%, above expectations of 1.8%. The data was boosted by a convenient surge in government expenditures (the first gain in nine quarters) mainly driven by a 13% spike in defense spending. Among the factors behind this jump was a probable frontloading of military spending in anticipation of the upcoming sequester to hit in 2013. This contributed a full 0.7% (or one-third) to the headline growth rate and will not be repeated. Absent this, GDP would have printed at 1.3%. Importantly, payback from this will hit in coming quarters.
- Consumption continued apace, growing a steady 2% and accounting for three-quarters of the headline gain. Consumers love their gadgets, with a third to half of all consumption in the past six quarters owing to purchases of recreational goods — think TVs, computers, iPhones and iPads, etc.
- Business spending is suffering from policy and election uncertainty with a 1.3% decline in business fixed investment. This cautionary stance is also attributable to faltering external demand.
- Capital expenditures were flat for the first time since the recession ended, flagged by a weak durable goods reports which showed nondefense capital goods (ex-aircraft) orders falling at a dire 26% rate (quarterly annualized) in the third quarter.
- Exports declined for the first time since March 2009 as global demand continues to slow. Inventories were shaved as well, but mainly due to the drought in the midwest.
- The best news saw gains in residential investment which grew 13.7% in the both the quarter and year-over-year and is gaining momentum. The pickup in housing is acting as a support for growth adding 0.4% to Q3 growth and will likely repeat in coming quarters.
- Household income grew 2.7% but only 0.8% after taxes and inflation, with the savings rate falling to 3.7%.
The report confirms that both business spending and trade activity weakened over the quarter, while consumer spending remained steady, and the housing recovery picked up momentum. The one-off surge in defense spending will not repeat and may reverse in Q4. Keep in mind that government spending is set to shrink next year — no matter who wins the election. Business caution is tougher to call but expect some reversal next year when there is more clarity on the operating environment. Overall, the U.S. economy is still tracking a sluggish 1.0%-2.0% and faces significant risks in the period ahead.