Q3 GDP AND WHAT IT MEANS
(US DATA BUT RELEVANT TO CANADIANS – RR)
(So sad that I have to point this out, but there is nothing about this post that is political. If your comments are going to try to turn this into a pro-Trump or anti-Trump discussion, you’re missing the point and I will delete your comments.)
I wanted to take a minute to summarize the economic situation in the US based on most recent data that’s been released. If you don’t like economics and math, I suggest you stop reading right now… 🙂
We got some great news this morning with the economic growth numbers from the third quarter.
On an annualized basis, GDP growth in the third quarter was 33.1%, beating the 32% forecasted.
Not only was the annualized growth number the highest in the history of the country, it was the highest by about double.
This is a great indication that we’ve seen a significant bounce back in since the Q2 collapse from the pandemic (where we saw a 31.4% GDP contraction).
But, as I’ve talked about before, no one number puts the economy into perspective, and even a single number can be highly confusing in terms of what it actually means.
And this confusion is compounded when we start doing annualizing and averaging of numbers in ways that don’t make sense.
So let’s dig in a bit more to make sense of it all…
ANNUALIZED VS QUARTERLY GROWTH
There are two popular ways to represent GDP growth numbers — quarterly or annually. The 33.1% number represents annual growth. This is the typical way that we represent GDP growth, and we will often see annualized numbers in the range of 2% to 3% growth. Over the past decade, annualized GDP growth has come in consistently in the 2.5% range.
So, obviously, 33.1% is an enormous number.
The reason we generally like annualized numbers is that it allows us to compare month over month, quarter over quarter and year over year growth within the same context. And when that growth is relatively stable, that’s a quick and easy way to notice trends and anomalies.
But when this annualized growth rate gets sufficiently large, and when it’s significantly different month over month or quarter of a quarter, annualizing can distort what’s really going on.
As an example, let’s say you finish a house flip in January and make $50,000. To annualize that number, you would multiply by 12 and say that your annualized flipping income will be $600,000.
But, unless you are planning So one flip house every month that year, that number is highly distorted.
That’s what the 31.3% number represents. Q3 had a huge bounce back from Q2, and even though the quarter was fantastic, those growth rates aren’t going to be consistent for the other three quarters of the year. In fact, we already know that the first two quarters were significantly less (negative).
By the way, I mentioned this back when Q2 numbers came out, but this is the same reason why the reported 32% drop in Q2 was misleading as well. While annualized reporting is the standard, financially literate media outlets should have switched to quarterly reporting in Q2. And they should have stuck with quarterly reporting in Q3.
For the most part, I don’t think the media was trying to be misleading. It’s simply that people who are really good at math and finance tend not to become journalists. 😉
So, the first takeaway is that the 30%+ numbers thrown around in Q2 and Q3 should both be ignored. Don’t get me wrong, the quarterly numbers are still very large, but not as deceiving.
Anyway, since these are the numbers that are so prevalent, let’s take a look at what they mean…
TAKEAWAY
Yesterday, I posted a little quiz about percentages. I asked: if you start with $X, lose 30% and then gain 30% back, are you in a better or worse position?
As pretty much everybody noted, you are in a much worse position.
That’s where we are with the economy and GDP growth right now. In Q2 we had a 30% drop in GDP and then in Q3 we had a 30% gain, based off that lower Q2 number.
As several people pointed out in their math yesterday, that means we still have about an 9% overall gap between where the economy started at the beginning of Q2 and where the economy is now.
To put this into perspective, an 9% drop in total economic output is about what we saw at the depths of the 2008 recession. So, if you wanted a reasonably accurate estimate of what condition the economy is in right now, in terms of economic output we’re still at about where we were during the worst parts of the great recession.
But, again, that doesn’t tell the whole story…
Because we do quarterly and annualized averaging, this distorts the real numbers from each month in each quarter. It turns out that Q3 looks great compared to Q2, but in terms of real economic growth for each month in Q3 the numbers were small.
The bulk of the growth actually came in May and June, at the end of Q2. With averaging and annualizing, that tremendous growth at the end of Q2 comes across as a great Q3 number.
Long story short, monthly Q3 growth was essentially non-existent. The recovery saw a sharp return at the end of Q2 and stalled in Q3.
See the graph below to get a representation of where we are now… (Thanks to Paul Krugman for this.)
Now that we are at a more steady state place in the recovery — we’re not dropping like a rock or bouncing up off the trampoline — Q4 should give us a much better idea of the recovery trajectory.
If you made it this far, congratulations.
