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Imports surge, GDP and exports don’t …

by Brad Setser
January 27, 2006

The market thinks that the (bad) q4 GDP number is old news; the economy is looking far better in q1.   The market is also banking on stronger export growth to help support US growth in 2006.  See Justin Lahart.   I hope they are not banking on a mirage.

There isn't much in the q4 data that supports the argument that US export growth is accelerating.   The quarterly data is actually more consistent with a pick up in US imports, and a slowdown in US exports.

Exports were up 7.5% in q1, 10.7% in q2, 2.5% in q3 and 2.4% in q4.   Imports were up 7.4% in q1, fell 0.3% in q2, rose 2.4% in q3 and rose another 9.1% in q4.

Neither the fall in import growth in q2 nor the rise in q4 matches up with consumption growth – personal consumption grew by 3.5% in q1, 3.4% in q2, 4.1% in q3 and 1.1% in q4.  All numbers are q/q.   And they all can be visualized more easily if you take a look at the decomposition of GDP growth that Dr. Hamilton of Econbrowser has put together.

What happened – well, there was an electronics inventory correction earlier in the year, which seems to be over.  Note that sales of computers added 0.3% to q4 GDP, twice as much as in q3.  And in q3, there was a surge in auto sales as US producers cleared inventory.   Auto production added 0.55% to US GDP in q3, and subtracted 0.6% in q4.  Is what's good for GM is still good for America?   

The US economy is still not quite driven exclusively by New York banks serving as prime brokers for hedge funds and California and Nevada real estate …

Electronics and autos probably explain why slower demand growth in q4 coincided with a pick up in imports.  More electronics sales meant more imports; Detroit's woes will likely translate into more imports of autos and auto parts.

The increase in the q4 trade deficit was not all the product of oil – the constant dollar trade deficit rose to $650 billion in q4.    Net exports subtracted about 1.2% from GDP in q4.

And if imports continue to rise even as overall demand growth slows – for reasons that Barry Ritholz, Calculated Risk and others have laid out well, net exports will continue to be a big drag on US growth.

With oil at $65 plus and interest payments on US external debt rising, I just don't see how the folks in Morgan Stanley's currency team are forecasting the US current account deficit will fall back to 6.5% at the end of 2006 (v roughly 7% in q4).   Not unless they are forecasting a big US slump.  Rising debt and rising short-term rates will easily add $50b to the United States' 2006 interest bill.  $65 oil rather than $55 oil implies a rise of $50 billion or so in the US oil import bill.  Yes, the US should be able to export more to the oil states, but everyone else will be paying more for their oil too, and thus have less to spend on US goods …

I suspect that the market is overestimating the impact of a 1% or so growth pick up in Europe on US trade.  Sure, it helps.   But maybe not as much as a $/euro at 1.35.     I also doubt that a surge in US exports to Europe – or a shift in Europe's aggregate current account from rough balance to a small deficit — will drive a big fall in the US trade deficit.   My long-standing thesis is that the counterpart to the US deficit is not found in Europe, but in the emerging world.  And policy shifts in the emerging world – not a cyclical pick up in Europe – will drive the global adjustment process. 

That is why I have trouble taking the recent Rogers/ Engel study on the US current account deficit seriously (hat tip, Calculated Risk).   Their model leaves out the emerging world.   That means it leaves out by far the biggest source of financing for the US.  And do they really think that the US share of world GDP will grow relative to the emerging world's share of world GDP over the next twenty years?  Their paper seems built on a model that has little relationship with current reality …

25 Comments

  • Posted by The Prudent Investor

    The markets are awash in liquidty, thanks to the Fed, and hope that the slowdown will force the Fed to stop raising rates. Outstanding consumer loans are on the retreat for the first time in years though.
    So I will not bank on consumers to save the US economy. But as long as the Fed prints it, the Treasury borrows it and the White House spends it – and foreigners pay for it all – we have no reason to put the bubbly aside.
    But I would not call an economy with more than a 40% government share of GDP a free market economy. For a comparison, the government share in formerly socialist leaning India hovers around 12%.

  • Posted by Dave Chiang

    Greenspan’s monetary policy of artificially low interest rates created the trade deficit problem for the US Economy. Capital markets rely on a balance between savers and debtors, between savers earning a fair return on the income they didn’t spend and debtors paying a fair price for the income they didn’t earn. When interest rates are not where the free-markets would set them, the saver-debtor transactions are no longer mutually beneficial and capital flows are grossly distorted.

    Thanks to Greenspan aggressively punishing prudent savers to subsidize leveraged Wall Street hedge funds, savings rates in the US fell to all-time lows. Rather than save capital and put it into productive assets that will make America a stronger nation, many Americans instead stuck it into overvalued real estate and created the housing bubble that has financed the overconsumption of imports. The bursting of this second Greenspan-spawned bubble in housing will be far more devastating than the stock crash since it will affect all Americans with a mortgage, not just the wealthier Davos Elites.

  • Posted by Movie Guy

    Brad — I hope they are not banking on a mirage.

    Yep. They’re crazy. They need to get out more often. Go visit a Wal Mart.

    So, with gasoline over $3.00, and no growth in real wages (or real compensation in 2005, for that matter), American Joe and Suzie consumers are going to do it again? Run those debts back up on anything other than what they have to do? They’re going to try to milk another home equity loan on an asset that is losing market value? They’re going to buy into the next phony game that digs this country into much deeper personal and public debt? They’re just going to party?

    I don’t think so.

    Well, maybe one more time. One for the road to ruin.

    Hope the hedge funds don’t wipe out their stock portfolio, too. That would be really bad for Joe and Suzie. Particularly since Joe lost his job and Suzie lost her matching corporate share on her 401(k). And Little Joe heads off to college in June; can’t find a summer job.

    Yeah, we’re on an unsustainable course. One might reach that conclusion if not believing in mirages.

  • Posted by Anonymous

    Rogers/Engel are very clear – they do not profess to have THE answer to how/why the US is running such a large c/a deficit. They just provide people with an alternative, and very elegant, framework for discussion. Besides, it is patently obvious that this is not a US-made problem – it is a shared global burden. Somebody is funding the so-called reckless behavior in the US and it sure isn’t Chairman Greenspan.

  • Posted by CRoast

    MG
    Your killin’ me…don’t you watch TV?

  • Posted by bsetser

    Anonymous — It isn’t Greenspan, but it also isn’t the advanced industrial economies that Engel/ Rogers included in their “elegant” model. I got the sense that they found an elegant model, but if applied to the world, it predicts big current account deficits in China and India (rising share of world GDP from fast productivity growth). India sort of fits, China doesn’t. But rather than ditch the model, they just ditched over 1/2 the world!

    I agree that they attach lots of caveats around their conclusions, and note that the model predicts deficits in Asia. But I have trouble with models, no matter how elegant, that don’t explain the basic pattern of global capital flows that we now observe. I prefer Benanke and DFG/ Bretton Woods 2. Even if i don’t agree with everything they say, they at least get the global flow of capital right.

    And yes, the world matters — for every bad debtor there is a creditor, and the fact that the US finances a huge deficit in its own currency at low rates is telling.

    I suspect there is an interesting variant on the Engel/ rogers framework, one which even sort of predicts the current world. You just need to look at the flow of private capital (now back into the emerging world) rather than the current account, and then explain why the emerging world is attracting tons of private capital and still running a very large current account surplus …

  • Posted by dryfly

    ::::
    MG
    Your killin’ me…don’t you watch TV?
    ::::

    I do… I just saw Larry Kudlow say on TV… CNBC around 3 PM central…

    “Who do you trust? The GDP numbers or the stock market?”

    Whew, I feel lots better now… I think I’ll go out and buy somethin’ I don’t need.

  • Posted by Dave Chiang

    Although I am not an economist by profession, I have determined one thing in Economics; there’s no free lunch. Pay now or pay later but pay we will for this irresponsible behavior.

    Have a nice weekend :-)

  • Posted by OldVet

    Cheers to David Chiang, you’ve described the “other side” of the interest rate problem – the demand side, rather than only the supply side of credit. There’s a huge population of savers who are being seriously chastised and screwed. They pay 10% all their life, sell out their farm or business, then get paid 3% in their old age. That also provides a bad lesson to younger people.

    But very low interest rates have another important effect to which you also alluded. Economic and business decisionmakers have lost one of the important measuring sticks by which to judge alternative investments. If you can borrow at 4% to build more offices or at 4% to build more factories, you don’t have any sort of “signal” on what is more risky or where to find the greater reward. So you make sloppy decisions that are indifferent to risk.

  • Posted by Stormy

    Brad writes:

    “…explain why the emerging world is attracting tons of private capital and still running a very large current account surplus … ”

    Some of us have been explaining it. I’ve run out of gas. I just cannot say it anymore.

    Maybe if we blame the “faeries” and black magic?

  • Posted by dryfly

    :::::
    If you can borrow at 4% to build more offices or at 4% to build more factories, you don’t have any sort of “signal” on what is more risky or where to find the greater reward. So you make sloppy decisions that are indifferent to risk.
    :::::

    Very good point… and Lord knows there have been plenty of poor decisions the last decade or so.

    I remember when interest rates were ‘double digits’ and we wouldn’t get the green light to build unless the pay back window was 18 months – 24 months… on a few occasions less than 12 months.

    No one dared risk ‘stranded capital’.

  • Posted by realist

    “Greenspan’s monetary policy of artificially low interest rates created the trade deficit problem for the US Economy.”

    there is no trade deficit problem for u.s. toyota dealers, large home builders, big time stock brokers, large importers of chinese goods, big pharma, energy importing companies, wall-mart, pump and dumpers, ect. most of these investors have probably pulled their money out of the market, and have it invested in foreign enterprises, foreign banks or trophy real estate. when the $hit hits the fan, they’ll swoop back in and buy u.s. assets for dimes on the dollar. there are only two classes: the working class and the investor class. the investor class can only get richer if the working class gets poorer. as workers’s saleries go down, company insiderss’ profits go up exponentially. what’s happening in this country is no accident. after all, wasn’t greenspan one of the first die-hard “objectivists”?

  • Posted by Guest too

    MG: “Hope the hedge funds don’t wipe out their stock portfolio, too”

    I know you’re making a statement for effect, but how would this happen? Dumping stocks?

  • Posted by Edward Hugh

    “I suspect that the market is overestimating the impact of a 1% or so growth pick up in Europe on US trade. Sure, it helps.”

    And of course, if it doesn’t happen, it helps even less.

  • Posted by Dave Chiang

    With the exception of the Greenspan Federal Reserve, Central bankers are raising serious concerns about the threat to global stability posed by US Economic imbalances.

    “There are signs the current global imbalances will turn out to be prolonged and it is fallacious to believe that Asian central banks will forever fund rising US deficits, Bank of England Deputy Governor Rachel Lomax said… In a speech at a Royal Institute of International Affairs conference, Lomax joined the chorus of central bankers raising serious concerns about the threat to stability posed by the imbalances. The US current account deficit has risen to over 6% of GDP, and Lomax warned that it could not be taken for granted that Asian central bank would continue to finance it. Lomax said the US was not ‘immune to the basic arithmetic of debt sustainability – sooner or later persistent deficits will lead to levels of external indebtedness that represent a significant economic burden even on the US; but it is more than usually hard to predict how long this might take,’ she said.”

  • Posted by psh

    ‘you don’t have any sort of “signal” ‘

    I wouldn’t go quite that far. You can still distinguish between good & crummy investments by their discounted cashflows, and your risk-adjusted hurdle rate can vary independently of the cost of money. It’s just that dumb things are smarter when rates are morbidly low, so what the hell, you do them too.

  • Posted by malabar

    “Central bankers are raising serious concerns about the threat to global stability”

    Dave many central bankers including our Feds Geithner are happy to CYA with talk but are terrified to act. So they are going to let the imbalances and credit bubble expand until they exhaust themselves with the belief they can mop up the aftermath with a huge gush of liquidity.

    More a case why central banking needs serious reform including consideration for their elimination. The CBs particularly our Fed are so beholden to Wall Street that with their “clean up crew” policy they have introduced the incredible moral hazard of the CB put.

  • Posted by malabar

    Here’s an anecdote: Speaking with a friend in the speciality chemicals business, I am informed there is enormous tightness in the market for movement of tanks from India to US but glut on the US to India route. So effectively shipping companies do not have a back-haul anymore. They send empty tanks to India to load them with speciality chemicals destined for US.

    Who would expect India now becoming a speciality chemical manufacturing center?

  • Posted by Movie Guy

    Guest — MG: “Hope the hedge funds don’t wipe out their stock portfolio, too”

    I know you’re making a statement for effect, but how would this happen? Dumping stocks?

    I have little confidence in the activities of some hedge funds. There is the situation of the some hedge funds mining the mutual funds. Downright theft by deception. Then there is the matter of derivatives so complex that seasoned traders and underwriters don’t understand some of them.

    Hedge funds, if coordinated, have sufficient monies to move the market in directions that make no sense, only to pump it up or down, then step in or out to capture their small percentage profits. But if the Hedges get caught out, as some did with GM in 2005, look out. They have to recover those losses and who knows how far some go to do that.

    I’ve read as much as possible on hedge funds, but it’s not enough to satisfy my concerns.

  • Posted by Dave Chiang

    To Malabar,

    The reality of the situation is that this current market failure is prolonging U.S. excesses and only delaying what will surely be a monumental bubble implosion. The risks associated with prolonging financial and economic Bubbles grow exponentially over time will culminate with a “blow-off” period of manic excess. The Greenspan Federal Reserve has watched the global cycling and recycling of dollar liquidity in awe. Having loitered long enough to recognize that there will be no self-adjustment or correction, policymakers now face the dilemma that to impose the necessary policy restraint to commence the adjustment process comes at a cost much higher than they are willing to bear. Beholden to Wall Street special interests, No one at the US Federal Reserve dares to remove the punchbowl. Just my 2 cents.

  • Posted by DF

    Well, welcome to Ben Bernanke.
    Hope he has a lot of control of the printing press and there are still enough helicopters available even though there’s this Iraqi War.

    Something makes me feel USA should have listened to France back in 2003, they would have been less in the hands of the Chinese and oil exporters…

  • Posted by STS

    malabar:

    Calculated Risk has occasionally reported on the shipping traffic at the ports in the greater Los Angeles area. The same asymmetry applies to container traffic. The US just imports vastly more “stuff” than it exports.

    For example:
    http://calculatedrisk.blogspot.com/2005/09/port-of-long-beach-record-imports-for.html

  • Posted by RP

    STS – there is no asymmetry – those containers have “dark matter” in them.

  • Posted by KingsFool

    I’m looking for clarification concerning the “import” part of GDP formula. If a company sells a widget in the USA that is made in another county, I believe this an import.

    What happens if the product sold has many parts, where 51% of these parts are made in the USA while the remain percentage of parts are made out side of the USA? Are the imported parts counted twice (export-imports)?

    Thanks for any direction with this.

    KF

  • Posted by Guest

    I’m looking for clarification concerning the “import” part of GDP formula. If a company sells a widget in the USA that is made in another county, I believe this an import.

    What happens if the product sold has many parts, where 51% of these parts are made in the USA while the remain percentage of parts are made out side of the USA? Are the imported parts counted twice (export-imports)?

    Thanks for any direction with this.

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