Washington, DC (Tuesday, July 7, 2020): On July 6, 2020, the federal Bureau of Economic Analysis (BEA) announced that gross output (GO) – the most comprehensive measure of total spending in the economy, including the supply chain – slowed dramatically in the 1st quarter 2020.
Gross Output declined in the aftermath of current political unrests, as well as negative effects of the COVID-19 pandemic and government shutdown of the economy in response to the pandemic. However, GO might offer still some promise for a strong recovery, even over the short term. Business spending, which is a better indicator of economic recovery, declined significantly less than consumer spending. This might be an indication that the economy is more fundamentally sound than currently anticipated.
While some of the business spending was to fight the current epidemic, businesses also used a significant portion of that spending to transform and set up their operations for opening after government closing mandates are lifted. If that is correct, the economy might recover quicker than expected. The most recent jobs report also offered an indication that a relatively fast recovery is certainly a strong possibility.
After delivering steady increases over the past 42 consecutive quarters, first quarter 2020 Gross Output declined 4% in real-terms. Last time real GO declined — in the second quarter 2009 — was in the aftermath of the 2008 economic pullback. While still growing, GO had already slowed its growth rate to 1.1% in the fourth quarter 2019 from nearly 2.5% in the previous period.
This growth slowdown in the last period last year, and a decline in the first period 2020 offered a leading indication that the overall economy was already cooling. GO appears to have anticipated the pullback already in the first quarter even before the economy experienced the full effects of the COVID-19 pandemic and government-mandated shutdowns.
However, while gross output generally declines more than GDP during economic pullbacks, this period’s data presents an anomaly. Despite declining 4% on annualized basis, GO fell less than real GDP, which pulled back 5.1% in the same period.
One reason for this anomaly – and potential s positive sign pointing to a faster-than-expected recovery – is that business spending decreased at a slower rate than consumer spending. Businesses generally anticipate economic contractions and begin spending cuts earlier than consumers. Therefore, Gross Output, which includes business-to business transactions, generally offers earlier signs of pending economic contractions than GDP, which measures only final output.
While consumer spending fell 5.9% in the first quarter 2020, business spending contracted only 5.4%. Despite a relatively small magnitude, this is a significant margin as back-tested date indicates that business spending tends to decline at significantly higher rates than consumer spending during periods of “normal” economic contractions. The margin is even more significant in nominal terms where business spending fell just 4% compared to the 5.7% consumer spending decline. It appears that businesses anticipated the full impact of the COVID-19 epidemic based on just one month of information and adjusted their economic activity by reducing buying activities.
The disruptions in the domestic and global supply chain caused by the COVID-19 pandemic, as well as civic unrest in the U.S., have been in the news lately. GO is the only macro statistic that includes the value of B2B spending and supply chain. “It deserves to be watched closely and updated frequently,” said Dr. Mark Skousen, presidential fellow at Chapman University and a leading advocate of GO as a better, more comprehensive indicator of economic performance.
Business — Not Consumers — Drives the Economy
Note: Contrary to what the media says, consumer spending does not drive the economy, and does not represent two-thirds of the economy. Using GO as a better, more accurate measure of total spending in the economy, the business sector (B2B spending) is almost twice the size as consumer spending. Consumer spending is the effect, not the cause, of prosperity (Say’s law).
The continued business spending decline suggests that the economy began slowing down as a response to early signs that the COVID-19 epidemic’s impact could be significantly more serious than initially anticipated in December 2019. The U.S.–China Phase One trade agreement — signed on January 15, 2020, in Washington D.C. by China’s Vice Premier Liu He and U.S. President Donald Trump – went into effect on July 1, 2002. However, there are accusations from both sides regarding the origin of the COVID-19 virus and new information that suggests Chinese government officials might have been aware that the epidemic began in China much earlier than they disclosed it in December 2019. Therefore this agreement might not have the intended economic impact as originally anticipated. Furthermore, protests and civil unrests in the U.S. create additional headwinds that the economy will have to overcome even after the COVID-19 pandemic is under control.
GO is a leading indicator of what GDP will do in the next quarter and beyond. As David Ranson, chief economist for the private forecasting firm HCWE & Co., states, “Movements in gross output serve as a leading indicator of movements in GDP.”
Whenever GO is growing faster than GDP, as it did in most of 2018, it’s a positive sign that the economy is still robust and growing. However, GO has grown at a slower pace than the GDP in the last three quarters, a sign that the economy was slowing down as it entered 2020.
The federal government will release the advance estimate for second-quarter GDP on July 30, 2020 and a full release of second-quarter GO on September 30, 2020.
Report on Various Sectors of the Economy
In the first quarter 2020, 17 of 22 industry sectors groups contracted to drive the overall GO contraction. The second largest sector – Manufacturing – contracted 7.1% on an annualized basis. This pullback marked a third consecutive contraction after the sector declined 1.2% and 1.5% in the previous two periods of 2019. However, a bigger concern is that manufacturing of Durable goods declined nearly 10%. Durable goods, which include capital expense items by businesses and have bigger impact on long-term economic activity, declined considerably more than Nondurable goods, which contracted just 4.5%, less than half the rate for Durable goods.
Finance, insurance, real estate, rental, and leasing – the largest segment that accounts for nearly one-fifth of total Gross Output – was one of just few bright spots in the first quarter. After expanding 1.3% in Q4 2019, this sector more than doubled its growth to 3.2% in the first quarter 2020. The Finance and insurance sub-segment advanced 3.5% and Real estate rental and leasing still grew at a respectable 3.0%.
After briefly breaking a streak of declining for three consecutive periods in Q4 2019, the Mining sector posted a 42% drop in the first quarter 2020. While an important sector among the leading indicators in the early stages of production, the Mining sector only accounts for approximately 1.3% of the overall GO, which minimizes the impact of the decline on the economy overall.
Similarly to the Mining sector, the Utilities sector delivered a single-period increase in Q4 after two negative periods. However, in Q1 2020, the Utilities sector pulled back more than 21%. The Transportation and warehousing sector also suffered a large decline of nearly 16% after expanding 4.7% in the previous period.
Another positive contributor was the Construction sector. After increasing its expansion rate from 2.5% in Q3 to 4.4% Q4 2020, this sector expanded nearly 14% in the first period 2020.
Several other sectors, such as professional, business, educational, health care and social assistance, contracted between 1% and 5%. Under the lockdown directives, the Arts, entertainment, recreation, accommodation, and food services sector declined more than 40%.
Another sector that continued its steady expansion was Government spending, albeit at a slightly slower pace. After expanding more than 4% in the last period of 2019, overall government spending rose 1.8% in the first quarter 2020. The main driver was a 3.7% growth of Federal government spending. State and local government spending increased at relatively small 1%.
Gross output (GO) and GDP are complementary statistics in national income accounting. GO is an attempt to measure the “make” economy; i.e., total economic activity at all stages of production, similar to the “top line” (revenues/sales) of a financial accounting statement. In April 2014, the BEA began to measure GO on a quarterly basis along with GDP.
Gross domestic product (GDP) is an attempt to measure the “use” economy, i.e., the value of finished goods and services ready to be used by consumers, business and government. GDP is similar to the “bottom line” (gross profits) of an accounting statement, which determined the “value added” or the value of final use.
GO tends to be more sensitive to the business cycle, and more volatile, than GDP. During the financial crisis of 2008-09, GO fell much faster than GDP, and afterwards, recovered more quickly than GDP. Still, it wasn’t until late 2013 that GO fully recovered from its peak in 2007. Until mid-2018, GO outpaced GDP, suggesting a growing economy. However, since then GO has slowed dramatically, threatening the economic boom.
Consumer Spending Declined Significantly More Than Business Spending in Q1 2020, Which Could Indicate That the Economy Has Solid Fundamentals and is Ready to Bounce Back as Soon as the COVID-19 Pandemic is Under Control and Government Restrictions Mandates Are Lifted
Our business-to-business (B2B) index is also useful. It measures all the business spending in the supply chain and new private capital investment. Nominal B2B activity contracted 4% in the fourth quarter to $26.3 trillion. Meanwhile, consumer spending contracted 5.7% on an annualized basis to $14.6 trillion. In real terms, B2B activity decreased at an annualized rate of 5.4% and consumer spending declined 5.9%.
“B2B spending is in fact a pretty good indicator of where the economy is headed, since it measures spending in the entire supply chain,” stated Skousen. “After slowing its growth in the fourth quarter at the end of 2019, business activity declined 5.4% in real terms during the first-quarter 2020.
After the initial decline in early-2020, the stock market continues to experience volatility. However, since the mid-March lows, the markets have rebounded strongly and recovered most of those losses. The S&P 500 has risen 40% and has already recovered nearly 90% of its losses between the beginning of 2020 and its year-to-date low on March 23.
While lower than in the previous period, total business spending indicates that the overall economy might surge back in the second half of the year. One stumbling block for the economic recovery might be renewed and continued interference by government officials, such as Governor Sisolak’s (D-NV) decision to extend the current shutdown phase through the end of July in Las Vegas, which forced a cancellation of our FreedomFest conference for the first time since it began in 2007. Similar decisions might put additional pressure on businesses across the country and suppress economic recovery deeper into the year.”
For More Information
The GO data released by the BEA can be found at www.bea.gov under “Quarterly GDP by Industry.” Click on interactive tables “GDP by Industry” and go to “Gross Output by Industry.” Or go to this link directly: BEA – Gross Output by Industry
For more information on Gross Output (GO), the Skousen B2B Index, and their relationship to GDP, see the following:
- Steve Forbes: What’s Ahead podcast. In this podcast, Steve Forbes discusses Gross Output with Mark Skousen on September 9, 2019: https://www.forbes.com/sites/steveforbes/2019/09/09/were-using-the-wrong-measure-gdp-to-gauge-the-economys-real-health-mark-skousen/#35ff3d9a52fa
- Mark Skousen, “At Last, a Better Economic Measure” lead editorial, Wall Street Journal, April 23, 2014: http://on.wsj.com/PsdoLM
- Steve Forbes, Forbes Magazine (April 14, 2014): “New, Revolutionary Way To Measure The Economy Is Coming — Believe Me, This Is A Big Deal”: http://www.forbes.com/sites/steveforbes/2014/03/26/this-may-save-the-economoy-from-keynesians-and-spend-happy-pols/
- Mark Skousen, Forbes Magazine (December 16, 2013): “Beyond GDP: Get Ready For A New Way To Measure The Economy”: http://www.forbes.com/sites/realspin/2013/11/29/beyond-gdp-get-ready-for-a-new-way-to-measure-the-economy/
- Steve Forbes, Forbes Magazine (October 8, 2019): “GDP is the Wrong Measure to Truly Gauge an Economy’s Health”:https://www.forbes.com/sites/steveforbes/2019/10/08/gdp-is-the-wrong-measure-to-truly-gauge-an-economys-health/
- Steve Hanke, Globe Asia (July 2014): “GO: J. M. Keynes Versus J.-B. Say,” http://www.cato.org/publications/commentary/go-jm-keynes-versus-j-b-say
- David Ranson, “Output growth data that the economy generates months earlier than GDP,” Economy Watch, July 24, 2017. HCWE & Co., http://www.hcwe.com/guest/EW-0717.pdf
- Mark Skousen, “Linking Austrian Economics to Keynesian Economics,” Journal of Private Enterprise, Winter, 2015: http://journal.apee.org/index.php?title=Parte7_Journal_of_Private_Enterprise_vol_30_no_4.pdf
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