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GDP (and GDI) Lays Out The Perfect Supply Shock Case, And Its Downside

Though the fourth quarter US real GDP headline rate was left practically unchanged, there was some notable shuffling of its underlying details. In addition,…

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This article was originally published by Alhambra Investment Market Research

Though the fourth quarter US real GDP headline rate was left practically unchanged, there was some notable shuffling of its underlying details. In addition, we now have the full GDI estimates to work with, including the BEA’s figure for something called Net Operating Surplus, therefore some better (hopefully) understanding of the real story (in my view) behind why it’s not a labor shortage.

Final Q4 GDP was left pretty much unchanged from its second estimate. The reason was about $20 billion (give or take) removed from final sales but then added to, you guessed it, inventories. Already epic, the quarterly change in private inventories (nominal) now stands at barely shy of a quarter-trillion (SAAR).

In a single quarter.

Even adjusted for prices, in the BEA’s own way, the “real” inventory change was nearly $200 billion, or a fifth of a trillion. Still massive.

Under the second estimates, this huge pile-up of unsold goods had accounted for 4.90 points of the 6.98 gain. These updated numbers peg inventory’s contribution at a walloping 5.32 of the mostly same 6.89.

Even before the revisions, the supply shock case for consumer prices couldn’t have been any clearer. Not Fed-printed money, rather the feds transferring borrowed funds, taking from the Treasury market and redirecting via Amazon.com to quite a few overseas producers who couldn’t keep up, or of those who could keep up, couldn’t efficiently deliver what they produced.

During the first two quarters of 2021, when the frenzy of fed-led consumer buying was at its zenith, the BEA says inventories were depleted at roughly the same rate as during the first two quarters of 2020 when everything had been shut down and hardly anyone was making anything.

That’s how much of an imbalance, at the margins, demand over supply got; and from it, small “e” economics, consumer prices were the mechanism of adjustment.

But now inventory is starting to tell the other side of the classic supply shock story, when goods arrive at a time when demand is, shall we say, more questionable. Not only are Uncle Sam’s stipends a long time ago, at the same time consumers are being forced to pay more and get less (especially when it comes to gasoline and groceries), add to both of those a labor market which remains millions upon millions short of where it needs to be.


No wonder the recession probabilities have been raised high enough to gain even mainstream notice.

But why the labor market? Companies, as we’ve been saying, despite the assurances about some labor shortage, businesses instead aren’t paying market-clearing rates which is keeping (again) millions on the sidelines when recovery in work is needed for full recovery across the economy (if only to better handle the flood of product still being offloaded).

This is where GDI comes in. GDP’s “other half”, the part which looks at gross output from the income side, it includes some measure of Uncle Sam’s influence on businesses: subsidies.

While shoveling cash to consumers, the feds also “loaned” funds to pretty much anyone who could qualify for the slimmest of standards; loans that quickly became grants, a trillion-dollar free-for-all.

Without getting too far into explaining the GDI data here, you can review it all in prior articles, we can make some back-of-the-envelope adjustments using what’s reported for government stipends and back them out of that Net Operating Surplus (NOS) to hopefull gain a clearer picture of the overall private, non-artificial business and financial condition.

Sure enough, while profits have surged, along with NOS, much of it was from the government’s contributions. Overall, it has stagnated the past few quarters.

Perhaps more to the point, our adjusted NOS shows that without those subsidies business profits, while rising rapidly last year riding the wave of “inflation”, they remain well behind even the reduced 2016-18 pace. Like labor, non-stipend NOS hasn’t even caught up to its prior trend. Even at best, with Uncle Sam’s benefits, they’re only back to that prior lackluster trend. 

In other words, businesses have to be aware of just how much their rebound in profitability, at the margins, depended on the government as well as the price reaction to the supply shock itself just to get some back of what had been lost. Realizing this, it wouldn’t seem to be the most conducive environment for companies to add lots more costs in the form of workers who, in volume terms, might not really be doing much more actual work to begin with.

If you know your bottom line “windfall” isn’t really as much of one, and more so that it’s very likely to be temporary, sure, you’ll advertise for jobs because it’s cheap and easy, but when it comes to actually hiring (or keeping workers on and happy), it ends up being a fine line.

Too fine a line, it seems.

These specific parts of GDP and GDI together do a bang-up job (pun intended) of explaining why the Fed is out to lunch yet again. A classic supply shock shaping up to come back down into an economy that was never as robust as it might have seemed, and was constantly made to seem.

Yep, curve inversions make a whole lot of sense whatever Jay Powell thinks he’s going to do.



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