Chief Economist Scott Brown discusses current economic conditions.
Real GDP rose at a 4.0% annual rate in the advance estimate for 4Q20, a much more moderate pace of recovery than was seen in the third quarter. Details were mixed, but consumer spending showed a significant loss of momentum and monthly figures reflected weakness in November and December. The surge in the pandemic and efforts to contain it dampened holiday sales and travel. This may, in turn, give way to seasonally adjusted strength in 1Q21, as there should be less of a fallback in the unadjusted data. However, as the Federal Open Market Committee noted in its January 27 policy statement, “the path of the economy will depend significantly on the course of the virus, including progress on vaccinations.”
Inflation-adjusted consumer spending (68% of GDP) rose at a 2.5% annual rate in the fourth quarter, down 2.6% from 4Q19. Business fixed investment (13% of GDP) rose at a 13.8% pace, down 1.3% y/y, with strength in equipment. Residential fixed investment (homebuilding and improvements, now 4.6% of GDP) rose at a 33.5% annual rate, 13.7% higher than a year ago. These three components make up Private Domestic Final Purchases (PDFP, equivalently, this is GDP less government, inventories, and foreign trade). PDFP, a better measure of underlying domestic demand, rose at a 5.6% annual rate in 4Q20, down 1.7% y/y.
Adjusted for inflation, consumer spending on services rose at a 4.0% annual rate in 4Q20, but was still down 6.8% from a year earlier (transportation services -32.0% y/y, recreation services -41.3% y/y, and food services and accommodations -27.3% y/y)). While businesses have generally adapted to life under the pandemic, the industries that were hit the worst remain depressed. Recovery will depend on the willingness of people to get on an airplane, stay in a hotel, and go out to dinner. A quicker roll out of vaccines will get us there sooner, but there is also a risk that vaccines will be less effective against new strains of the virus. Booster shots may be needed.
One of the lessons of the 1918 pandemic is that activity will increase sharply when the current pandemic is done. We can expect a sharp recovery in travel, tourism, and in-person entertainment in the second half of this year and into 2022, although the virus and vaccinations make the timing uncertain.