The prognosticators were wrong again about the nation’s economy in the second quarter, and poor policies explain the disappointment.
From April to June, real gross domestic product (GDP) grew by 6.5% at an annualized rate—about one-fourth slower than the 8.4% some expected. In normal times, a 6.5% growth rate would be phenomenal, but these aren’t normal times.
While many economic writers and commentators are only talking about the disappointing headline number of 6.5%, the devil is in the details.
The Keynesian accounting of GDP is composed of consumption, investment, government spending, and net exports. In the second quarter, only consumption increased.
This is alarming because every real recovery is led by increases in investment, which then increases incomes and consumption. But now investment has fallen for two straight quarters, a harbinger of economic stagnation, not recovery.
The growth in consumption is being fueled by a year’s worth of new handouts by Congress and newly printed money from the Federal Reserve (the Fed). But personal income declined in the second quarter by $1.32 trillion, wiping out more than half the gains from the first quarter. Disposable income decreased by even more, and the savings rate was cut almost in half.
People had taken much of the “stimulus” money governments issued over the last 17 months and put it into their bank accounts. Deposits at all commercial banks skyrocketed $3.3 trillion from the end of February 2020 through the first quarter of 2021. People are now beginning to spend the money they previously saved. The Fed has generously—out of thin air—created much of this money by buying Treasury securities used to finance excessive federal spending, and that’s causing inflation.
In nominal terms, the economy grew by $684.4 billion (13%) last quarter, but that nominal calculation does not account for inflation. The economy may be hundreds of billions of dollars larger, but those dollars are not worth as much as they were before; such is the power of the hidden tax of inflation. The real change in GDP last quarter was only $302.5 billion (6.5%).
In other words, half of the apparent growth in the economy from April through June was just inflation.
Comparing nominal and real changes in GDP from before the pandemic further highlights this disparity. From the fourth quarter of 2019 through the second quarter of 2021, nominal GDP grew by 4.7% while real GDP grew a mere 0.8%.
The general level of prices, as measured by the consumer price index (CPI), has risen every month since May 2020, and the annual change in the CPI has accelerated every month this year. The Fed has signaled that it will continue its policy of bond purchases to keep a low target for interest rates, so inflation will continue.
Inflation causes significant disruptions to the economy, slowing growth, and making people worse off. These disruptions are exacerbated when the market needs a dose of deflation to correct for inflated prices. But inflation is not the only anchor currently holding the economy down.
Excessive federal spending is crowding out private sector activity and raising the specter of higher tax rates in the future. With the national debt over $28 trillion, Congress is now considering another $6 trillion in new spending over 10 years, most of which—if not all—will add to the currently expected deficits as there are few pay-fors and the ones proposed would make the economic and fiscal situation worse.
This fiscal recklessness is not inspiring confidence. Instead, monetary and fiscal malfeasance are contributing to distortions throughout the economy, increasing the likelihood of asset bubbles in real estate, stocks, and other markets.
Misguided labor policies are also disrupting markets, but some states have taken steps to undo these mistakes. States which ended the federal unemployment insurance “bonuses” are growing their employment rolls a third faster than the states which have continued the policy.
While these may appear to be Left vs. Right issues, these are not questions of politics, but policy.
The federal unemployment “bonuses” that have poisoned the labor market were initiated under a Republican president and have been continued by a Democrat president. Both the Democrats and the Republicans in Congress signed off on it and other disastrous policies. While these policies may have had good intentions, we must not judge policies by their intentions but by their results—and the results aren’t good.
The current disappointment in the nation’s economic performance will continue if these policies continue. Conversely, if these policies that keep swinging and missing are reversed, expect the economy to hit it out of the ballpark.