Recession’s ‘end’ no guarantee
of a solid recovery

by Scott Watkins, Anderson Economic Group

During the Third Quarter of 2009 we saw Gross Domestic Product (GDP) turn upward after four quarters of decline, leading many to declare an end to the “great recession.” This is certainly good news, but does it mean a strong holiday shopping season and a solid recovery in 2010?
Not necessarily, and a look at what constitutes GDP helps show us why.

GDP is comprised of the following elements: 1) personal consumption, which is what households spend on goods and services; 2) domestic investment, which is what businesses invest in new equipment, buildings, and inventory, as well as spending by households on new homes; 3) government spending; and 4) the value of exported goods and services less the value of imported goods and services.

In 3Q 2009, personal consumption accounted for 71 percent of all GDP. This shows just how important consumer activity is to the overall economy.

Within the personal consumption category there were increases in every subcategory from 2Q to 3Q. At face value, this sounds good for retailers. However, a closer look reveals increased spending for motor vehicles and parts, and for gasoline and other energy goods, accounted for more than 60 percent of the total increase in personal consumption.

“Cash for Clunkers” provided a significant boost for automotive sales, and increasing costs at the pump resulted in more spending on gasoline. As we look ahead, new automotive-related spending will likely curtail with the end of “Cash for Clunkers,” but those who bought the vehicles will still have payments to make on them. Gasoline prices are also likely to remain at current levels. These two factors, along with a still growing unemployment rate and stagnant wage growth, mean fewer discretionary dollars in the pockets of shoppers.

Domestic investment, which accounted for just over 12 percent of GDP in 3Q, remains a weakness, especially on the nonresidential side. Businesses spent $26 billion less on structures, equipment, and software in 3Q compared to 2Q. However, the amount of inventory held by businesses did fall, so their investment spending may pick up once they begin producing more to make up for dwindling inventories.

On the residential side of domestic investment, the economy saw a $15-billion increase, offering some evidence that the residential real estate market has hit bottom. Despite some improvement, the residential sector remains weak.

For retailers, this should offer a sign of cautious optimism, as new homebuyers are likely to increase their consumption of household goods and appliances.

Government spending accounted for nearly 21 percent of total GDP in 3Q, with growth in federal spending leading the way. This spending has clearly been fueled by the stimulus plan, and will be difficult to maintain over the long run.

The stimulus is also putting significant stress on the national budget deficit, which in turn, is causing worries over the value of the dollar and inflation. At some point this will translate to a mixture of higher taxes and higher prices, which will hit retailers both on the expenditure side, as operating costs increase, and on the revenue side, as consumers cope with higher prices and tax levies.

The final element of GDP accounts for trade activity. In 3Q 2009 we saw the value of exported goods and services from the U.S. grow by $69.5 billion. This trend should continue, as the dollar remains relatively weak against our trading partners’ currencies and economic growth resumes around the world.

On the import side of the equation we continued to bring in more than we send out, which results in a detraction from total GDP. The value of imported goods and services, however, is significantly down from the same period last year, which is indicative of the decline in consumer spending.

The return to GDP growth is certainly welcome news, but as we see above, retailers should continue to tread carefully in the holiday season and new year.

Scott Watkins is a senior consultant and the director of finance for Anderson Economic Group, LLC. The firm, headquartered in East Lansing, provides economic, policy, and finance consulting services, including retail market analysis, location analysis and site selection, demographic analysis, and business valuations. The website is www.AndersonEconomicGroup.com.