Given the latest data-set with some negative surprises (for example Chicago PMI, ISM, notoriously high jobless claims and also today's employment report), it is time to reconsider the short-term outlook for growth. On July 20 I stated in Q3 growth likely to surprise positively but not final sales that I was looking for a fairly upbeat Q3 growth number but that this would not be mirrored by the development of final sales. Furthermore, I expected that given seasonsal adjustments, growth going into summer would be overstated. Finally, once summer would be ending and seasonal factors assume a strenghtening of the economy, seasonally adjusted data should show a reversal of the earlier strength. So far, I see myself confirmed in this picture and expect a weakening growth momentum in the near term.
To recap: Growth has been improving going into Q3 helped by the abating of the inventory correction, the reduction in negative growth contributions especially from residential construction as well as from auto manufacturing and increasing effects from the enacted fiscal stimulus. So, GDP growth has rebounded largely because of a reduction in the drags on growth. In addition, as most economic data is seasonally adjusted, technical factors should have amplified the Q3 growth rebound. As an example, the auto industry has lost one third of its jobs between December 2007 and June 2009. In turn, the usual seasonal drop in auto employment during the summer months was a lot less pronounced. This point was also made by the Atlanta Fed on July 17 (see here): "On an unadjusted basis, the initial claims data showed a fairly large increase last week—up 86,000 workers. But claims for unemployment compensation typically rise in early July as auto plants shut down to retool for the new model year. The jump in claims this July hasn't been as large as in years past since many of the auto plants were waylaid earlier in the year. So on a 'seasonally adjusted' basis, the data showed a drop in claims of 47,000 workers."
Therefore, given the previous job and output losses, the typical seasonal weakness going into summer was less pronounced resulting in stronger than expected seasonally adjusted data. However, now that summer has ended, the typical seasonal strength should also be less than usual. In short, the people who would normally have been let go for the summer period will not be hired for the autumn rebound as these jobs have been lost irrespective of the seasonal pattern, i.e. on a more medium-term to permanent basis. Therefore, parts of what we perceived to have been good news at the start of the summer was only a technical aberration which is being corrected now as the summer ended. I hope the chart below helps to understand the situation. In blue is the normal course of action. Actual economic activity usually slumps into summer (blue dotted line). However, what we get in terms of data releases are the sesaonally adjusted data correct for this pattern and therefore do not show such a slump (the blue solid line). However, this year we started from a lower base in some of the most affected industries and hence the slump was less pronounced than usual (the red dotted line). The solid dotted line shows the seasonally adjusted path: an apparent upturn into summer, followed by a downturn into autumn.
Less pronounced seasonal weakness into summer followed by weaker-than-usual rebound
This would go a long way in explaining the behaviour of weekly jobless claims which dropped sharply during June but have remained stubbornly high since. Furthermore, it would also at least partially explain the behaviour of the ISM (which is also seasonally adjusted) which has fallen again in September.
So far, the recent economic data releases do support the picture of a less-pronounced-than-usual economic rebound into autum and I believe we should look for further negative surprises from September and October seasonally adjusted economic data. This should dampen the optimisit growth outlook which has become consensus over the past months. However, while the late spring/early summer number painted too bright a picture, the September/October data might paint a too negative picture about the underlying economic dynamic.