Not exactly what you think

Quick takes:

• GDP surprisingly contracts in 1Q
• Consumption remains robust
• Private investment still expanding
• Net exports restrain growth
• CRE should face little direct fallout

The economy threw everyone a curve ball, with growth for the first quarter coming in at -1.4% on an annualized basis. That represented the first contraction since the brief, yet deep, recession during the second quarter of 2020. As always, the devil lurks in the details. Beyond the headline figure, the details fell in line with our expectations, even with a bit of a surprise contraction. Beyond the mathematic impact of a negative quarter, we expect no major change when we present our quarterly outlook in two weeks.

Consumers pulling their weight

Consumers, still more than 70% of GDP, continued to pull their weight during the first quarter. Consumption grew by 2.7% on an annualized basis and contributed 183 basis points (bps) to annualized first quarter growth. Both measures increased versus the previous two quarters. This spending resilience occurred despite the highest consumer inflation in roughly four decades and consumer sentiment and confidence readings that still hover near levels last observed during the wake of the global financial crisis. How? Not only do consumers retain some dry powder in the form of excess savings from 2020 and 2021, but aggregate earnings continue to expand. Aggregate earnings depend on three main factors: wage growth, change in hours worked and net job change. Although hours worked have changed little over the last year and wage growth trails inflation, net job change maintained its remarkable consistency over the last year (as we highlighted last week). Over the last five quarters, monthly net job change has totaled roughly 562,000 jobs, providing significant additional spending power, even in the face of high inflation.

Contributions to GDP Growth

Private investment picture mixed

Private investment from businesses painted a mixed picture. Private investment grew at an annualized rate of 2.3% and contributed 43 bps to annualized growth. The good news? Most subcategories continued to expand, with equipment and intellectual property both growing at brisk paces and providing significant contributions to growth. The bad news? The change in private inventories (essentially inventory accumulation on the part of businesses) provided a noteworthy drag on growth during the quarter. Even though inventories grew by a large amount once again, the slowdown versus fourth quarter negatively contributed to GDP growth. Construction of nonresidential structures declined slightly during the quarter, representing the only other small weak spot for investment.

Government drag

Government spending across levels declined and detracted from economic growth. The largest decline came from national defense spending, but other national nondefense spending as well as state and local government spending also declined. All of those categories detracted from economic growth during the quarter.

Net exports

But the biggest impact on the quarter came from net exports. While the U.S. consistently runs a trade deficit, net exports’ impact on quarterly growth varies. Unfortunately, net exports worked against growth this quarter. For the second consecutive quarter, imports increased by a notable amount. This reflects the strong consumption from consumers that we noted earlier plus the increased ability to ease port congestion and get imports into the country. Meanwhile, economic weakness outside the U.S. caused exports to decline during the quarter. The combination produced a drag on growth of 370 bps, meaning that without the contribution from net exports the economy would have grown by 2.3% during the quarter. We view this quarter’s reduction in growth as an idiosyncratic event rather than the start of a trend and do not expect such large reductions from net exports in future quarters. 

|  What else happened last week  |

The employment cost index (ECI), a broad measure of compensation, increased faster than expected during the first quarter, and reflected the tightness observed in weekly unemployment claims last week. In a hopeful sign, the Fed’s key inflation index, the core personal consumption expenditures (PCE) index, showed decelerating inflation in March despite accelerating headline PCE. New home sales and pending home sales for March both declined, potentially hinting at a bit of slowing in the housing market with mortgage rates spiking in recent weeks. The most recent Case-Shiller data for February showed housing prices continuing to rise. 

|  What we are watching this week  |

The Fed will likely raise its benchmark rate 50 bps and potentially provide more information on the unwinding of its balance sheet. We expect a small decline in the ISM Manufacturing Index though the Services could see another slight increase after last month’s rebound. We expect another solid employment situation report with net job gains well into the hundreds of thousands, a slight improvement in the participation rate, solid monthly wage gains and the unemployment rate and hours worked holding steady. Additionally, we expect open jobs to remain elevated near their record high. 

|  What it means for CRE  |

We see little direct negative impact on CRE from the first quarter’s GDP result. If anything, the strong imports figure reflects the strength observed in the industrial market during the quarter, with asking rents still surging and vacancy rates still reaching new record lows in several important markets. Robust consumption should also help support the retail sector and we expect another healthy year as consumption shifts away from online spending toward bricks-and-mortar sales, including at food and drinking places.  Healthy private investment in equipment and intellectual property signals confidence from the business community and demand for office space, even in the face of external challenges and some timing uncertainty surround the return to offices. 

|  Thought of the week  |

Coffee remains the most-consumed beverage in the U.S., ranking ahead of even water.