20/12 Quarterly National Accounts (Q3)
Household consumption 1.1 (1.0) 0.7 (0.8)
Fixed investment 2.4 (1.6) -0.8 (-0.9)
Government consumption 0.3 (0.3) 0.5 (0.3)
Stock building (cont. to GDP) 0.4 (0.2) 0.2 (0.3)
Domestic demand 1.5 (1.2) 0.6 (0.6)
Final domestic sales 1.2 (1.0) 0.4 (0.4)
Imports 4.7 (3.9) -0.5 (-0.4)
Service sector output 0.8 (0.9) 0.8 (0.9)
Bus Services & Finance 1.3 (1.5) 1.3 (1.7)
Industrial sector output 0.0 (0.0) 0.7 (0.7)
Construction activity 0.8 (0.8) 0.7 (0.7)
Growth in the third quarter of last year was confirmed at 0.7%, down slightly from the 0.8% recorded in each of the previous two quarters. However, within this there were one or two important revisions to the expenditure components. Within the domestic sector, consumer demand, fixed investment spending and inventories were all revised up (see table above). As a result, overall domestic demand expanded by a larger than previously reported 1.5%, whilst the growth in final domestic sales (which is our preferred measure of underlying demand) was scaled up from 1.0% to a well-above trend 1.2%. Headline growth was therefore constrained by a larger than previously reported negative contribution (-0.9% of GDP) from net trade, thanks to slower export growth and a 4.7% jump in imports.
But this all relates to the past. Growth in Q4 and in 2008 will be substantially slower (and sub-trend) at both the headline and underlying levels. First, as has already been made clear by recent trends in retail sales (see commentary below) consumer demand has decelerated markedly during the first two months of the final quarter, even with retailers making steep cuts in prices. Secondly, given the uncertainty created by the fallout from the credit crisis, recent business surveys have shown a sharp rise in the number of companies intending to delay their investment plans. This suggests the recovery in fixed investment spending seen in Q3 wonâ€™t be sustained. As a result, we are looking for growth in both GDP and final domestic sales to fall back to 0.5% in Q4, with the risk being the deceleration is even greater than this. This will still leave the UK economy on course for growth of 3.1% in 2007 as a whole, but we would then expect GDP to expand by just 1.6% in 2008.
21/12 Retail Sales (Nov)
(Previous month in brackets) mom% yoy%
Volumes (SA) 0.4 (0.0) 4.4 (4.2)
Values (SA) 0.3 (0.2) 3.2 (3.2)
Implied prices -0.1 (0.2) -1.2 (-1.0)
Implied non-food prices -0.1 (-0.1) -2.8 (-2.8)
Retail spending was marginally stronger than expected in November, with volumes expanding 0.4% on the month following a flat October. However, with the value of sales up only 0.3% (all figures seasonally adjusted), once again it is clear that retailers were only able to secure this comparatively modest increase in real terms by cutting prices. Whatâ€™s more, with prices in food stores unchanged, there were particularly large reductions in household goods stores (down 0.4% on the month and 6.5% on the year) and in the non-store (on-line and mail order) sector (down 0.9% for a year-on-year rate of -8.2%). Despite these price cuts, volumes in the non-food sector as a whole actually declined 0.1% on the month, whilst within this volumes in clothing and footwear, household goods and non-specified stores (mostly department stores) fell, respectively, 0.5%, 0.3% and 0.6%. That price reductions are now failing to elicit stronger sales volumes testifies to the underlying fragility of the UK consumer. Indeed, the three-month on three-month rate of change in overall retail sales volumes is now falling as a result, slowing from 1.3% in October (and 1.5% in September) to 1.1%. Barring a major surge over the Christmas period (unlikely given what we have just heard from Next and DSG International), it will slow further in December. Although retail sales account for just 40% of overall consumer demand, we estimate that the growth overall household consumption will fall from 1.1% in Q3 to just 0.5% in Q4.
28/12 Nationwide House Price Index (Dec)
(Previous month in brackets) mom% yoy%
Seasonally adjusted -0.5 (-0.8) 4.8 (6.9)
Source: Nationwide Building Society
Source: Nationwide Building Society/HBOS
Hard on the heels of Novemberâ€™s decline of 0.8%, the Nationwideâ€™s measure of seasonally adjusted house prices fell a further 0.5% in December. These are the first back-to-back falls in average house prices since July and August 2000, but we have to go back to the dark days of May and June 1995 to find when they last fell by this sort of magnitude. The latest decline brought the annual rate of change down to 4.8%, which has long been our forecast for the end of 2007. It also cut the three month on three month rate of change to a two-year low of 0.9%, although it should be noted that this is significantly higher than the -1.0% reported by the Halifax for November.
A further period of softness awaits us in 2008, although unlike a number of other economic commentators we do not envisage a major correction in the housing market this year. We recognize that debt servicing costs have risen sharply over the past few years; indeed this has been a key factor in our below consensus forecast for consumer demand and overall GDP. However, whilst we also accept that traditional valuation measures such as house prices relative to average earnings are significantly above the previous peak seen in 1989, in a world of significantly lower interest rates compared with then (today bank rate is 5.5% and falling when in October 1989 it hit 15% where it remained for a year), a higher equilibrium price earnings ratio is perfectly justified. This is not to say we think house prices arenâ€™t expensive; merely that the overvaluation is more likely to be unwound by an extended period of flat or minimal house price growth rather than a sharp fall.
20/12 GDP (Q3, Final estimate)
(qoq % at annualised rates, advance estimate in brackets)
GDP 4.9 (4.9) 3.8
Personal consumption 2.8 (2.7) 1.4
Residential investment -20.5 (-19.7) -11.8
Non-residential investment 9.4 (9.4) 11.0
Government consumption 3.8 (3.8) 4.1
Final domestic sales 2.7 (2.6) 2.3
Domestic demand 3.5 (3.5) 1.3
Exports 19.1 (18.9) 7.5
Imports 4.3 (4.2) -2.7
Net exports (% cont. to GDP) +1.4 (+1.4) +1.3
Inventories (% cont. to GDP) +0.9 (+0.9) +0.2
GDP deflator 1.0 (0.9) 2.6
Consumers expenditure deflator 1.7 (1.7) 4.3
PCE deflator ex food & energy 2.0 (1.8) 1.4
The pace of US economic expansion in Q3 was confirmed at an above trend 4.9% at annualised rates, in line with market expectations. However, the headline figure continues to exaggerate the underlying buoyancy of the US economy. For one thing, net trade continues to make a large contribution to growth, adding 1.4-percentage points to GDP after 1.3% in Q2. Although such a performance is to be applauded and helps explain (exports up 19.1% annualised whilst imports up 4.3%) the sudden sharp fall in the external deficit, we are unlikely to see such large improvements over the next few quarters. Secondly, whilst overall domestic demand increased by 3.5%, which is line with the economyâ€™s sustainable growth rate, excluding inventories it only expanded by 2.7%. True, this is slightly higher than reported previously, but importantly this extended the period of sub-trend growth in underlying domestic demand to six quarters. But because the acceleration in headline growth in Q3 was in part based upon one off factors (surge in exports and stronger inventory accumulation), it is likely to fall back sharply in Q4. And with consumer spending also likely to have slowed we are looking for less than 2% in Q4. If we are right, growth for 2007 as a whole will come in at 2.3%, with the same to follow in 2008.
21/12 Personal Income & Outlays (Nov)
(Previous month in brackets) mom % yoy%
Personal income 0.4 (0.2) 6.1 (6.1)
Nominal personal consumption 1.1 (0.4) 6.7 (5.8)
Real PCE 0.5 (0.1) 3.0 (2.7)
Core PCE deflator (ex food & energy) 0.2 (0.2) 2.2 (2.0)
Personal savings rate -0.5 (0.3)
Source: Bureau of Economic Analysis
The US consumer continued to defy the gloom merchants in November. With overall personal income and disposable personal income up 0.4% and 0.3% respectively on the month, consumers called upon their savings to fund a larger than expected 1.1% jump in personal consumption. Admittedly, a large part of this simply reflected the latest rise in consumer (mostly gasoline), but even if we allow for changes in prices during the month, the increase in real terms was still a respectable-looking 0.5%. Whatâ€™s more, this was from an upwardly revised October base. The increase lifted the three-month on three-month annualised rate of change in real consumer demand from an upwardly revised 3.3% in October (2.7% previously) to 3.4%, suggesting that real spending has actually accelerated during the quarter. This is the precise opposite of what most commentators had been predicting. Indeed, as recently as October some were even forecasting an outright decline in consumer spending in the fourth quarter. Now, just to prevent the increase in personal consumption from being larger than the 2.8% recorded in Q3, we need to see it falling by 0.2% in December. Moreover, in order to achieve our forecast of 2.0% it would need to contract by 0.7%. Not for the first time, US consumer demand looks set to surprise market expectations on the upside.
Elsewhere in the report there was disappointing news on inflation. Although the 0.2% increase in the core personal consumersâ€™ expenditure deflator was in-line with the market consensus, combined with revisions to the back data, the three-month on three-month annualised rate of change jumped from 2.0% to 2.6%. For some commentators this is evidence that higher gasoline prices are beginning to feed through into underlying inflation. We donâ€™t think this can be right, however. This is because after expanding at a sub-trend rate (underlying basis) for six successive quarters, the US economy has to be awash with spare capacity. The only way this wouldnâ€™t be true would be if either the economy was operating substantially above capacity in the first half of 2006 or if its underlying potential growth rate had suddenly collapsed from the widely accepted estimate of around 3.4%. As neither of these seem plausible to us we expect to see the trend in core inflation turning down again over the coming months.
27/12 Durable Goods Orders (Nov)
(Previous month in brackets) mom% yoy%
New Orders 0.1 (-0.4) -0.2 (1.9)
Capital goods non-defence ex aircraft -0.4 (-2.9) -3.0 (-3.5)
Source: Census Bureau
US durable goods orders edged higher in November, breaking a run of three successive falls. However, the underlying position was very much worse than this, with non-defence, ex-aircraft orders in the capital goods industry falling for a second straight month. Worryingly, this sent the three-month on three month annualised rate of change into negative territory. Given its close association with non-residential fixed investment spending in the National Income Accounts, this development has ominous implications for the fourth quarter GDP figures (see chart). Consumer spending may be stronger than expected in Q4, but we could see substantial offsets from both residential and non-residential capital expenditure.
Source: Census Bureau/BEA
27/12 Consumer Confidence (Dec)
(Previous month in brackets)
Consumer Confidence 88.6 (87.8)
Present Situation 108.3 (115.7)
Expectations 69.1 (75.5)
Source: The Conference Board
Source: The Conference Board/BEA
Consumer confidence was stronger than expected in December, with the Conference Boardâ€™s measure registering its first rise since July. That said the rise to 88.6 was tiny in comparison with recent losses and was due entirely to a slightly less negative assessment of the near-term future. Meanwhile, the present situation index continued its decline, a development the Conference Board saw as indicating that the US economy â€śis still losing momentumâ€ť. However, there is a very real danger of overdoing the gloom. Whilst consumer confidence has undoubtedly fallen sharply over the last six months, in actual fact it remains quite high by historical standards. The one thing it most certainly does not point to (for now at least) is an imminent recession. For this to happen â€“ and if the past is in any way a guide to the future â€“ we would need to see if falling a further 25-30 points. Although we wouldnâ€™t rule out the possibility altogether, in our view this is highly unlikely. We are therefore sticking with our long held view that with consumer demand slowing but remaining positive the US economy is heading for a soft rather than a hard landing in 2008.
28/12 New Home Sales (Nov)
(Previous month in brackets) mom% yoy%
New Home Sales -9.0 (1.7) -34.4 (-25.3)
Source: Census Bureau
The November new residential sales figures were utterly appalling. After Octoberâ€™s surprise rise, financial markets were braced for a fall of 1.1% in November. In the event they plunged a massive 9.0%, and to make matters worse there were downward revisions back to August. As a result, the annual rate of change sank to -34.4%, whilst the fall from the July 2005 all time high now stands at 53.4%. The overall impression of the US housing market therefore remains one of considerable weakness. However, with the number of new home sales now well within the range observed during the last three decades of the 20th century we wouldnâ€™t be surprised to see the decline beginning to level out over the next few months.
Source: US Census Bureau
2/12 ISM Purchasing Managersâ€™ Report on Manufacturing (Dec)
PMI 47.7 50.8 (Nov)
Source: Institute for Supply Management
The news that the ISM Purchasing Managersâ€™ Index had fallen to 47.7% in December (the first sub-50% reading since January) unsettled financial markets. However, whilst (if sustained at this level) this is consistent with declining output in the manufacturing sector, it doesnâ€™t necessarily follow that the overall economy is about to contract. Indeed, even when manufacturing was more representative of US economic activ
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