"Q2 2023 - No Trespassing"

GROSS DOMESTIC PRODUCT

• Aggregate Real GDP growth came in at an elevated pace of 2.4% in Q2 2023, marking an acceleration from the prior quarter’s growth rate of 2.0%. This is the fourth consecutive quarter of positive GDP growth at or above the 2.0% level. Over the past 4 quarters, GDP growth has averaged 2.6% which is above what many believe to be the long-term growth rate of the economy at 2.0%^1,2
  • Consumption
    • The Consumption component of GDP, which is the largest component within US GDP, grew at a more normalized pace in Q2 2023, coming in at a level of 1.6%, marking a deceleration from the prior quarter’s robust reading of 4.2%. Consumer spending on both Goods and Services remained positive, but did decelerate in the quarter. Goods Spending rose by 0.7%, a drop from 6.0% in the prior quarter. The deceleration in Goods spending was entirely driven by reductions in Durable Goods spending which dropped from a level of 16.3% to 0.4% in Q2. Durable Goods deceleration was mostly driven by Motor Vehicle spending which contracted by -7.5% in Q2, a large drop from a growth rate of 45.2% in Q1. Consumer spending on Services grew by 2.4% in Q2, a modest drop from 3.2% in Q1. Some standout areas within Services spending included Transportation Services which grew by 9.8% in the quarter (up from -0.6% in Q1), Housing & Utilities which grew by 3.2% (up from -0.7% in Q1), and Food Service & Accommodations which contracted by -2.9% (down from 4.5% in Q1)^1,2
  • Investment
    • The Private Investment component of GDP roared back in a big way in Q2 2023, growing by 5.7% (up considerably from the -11.9% contraction in Q1 2023). The acceleration in Private Investment was primarily driven by Non-Residential Investment spending, which grew at a pace of 7.7%, a large uptick from 0.6% in Q1. Non-Residential Investment was buoyed by accelerations in Computer Equipment spending and Transportation Equipment spending which grew by 23.8% and 55.8% respectively (up from levels of -14.2% and -24.1% in Q1). Within Residential Investment, Single and Multi-Family Housing stagnated, having come in at a level of just 0.8% and 1.5% respectively. Total additions to Inventories came in at a very subdued level of just 9.3B in Q2 2023, however this still marked an uptick from the prior quarter’s level of an even lower 3.3B mark. Previously augmented inventory levels are largely the driving force behind the subdued net inventory activity.^1,2
  • Net Exports
    • The U.S. Trade Deficit was unchanged in Q2 2023, coming in at a level of -1.205T. Despite the aggregate Trade Deficit remained unchanged, the U.S. Economy did see a drop-off in both Exports & Imports which largely cancelled each other out. U.S. Exports contracted by -10.8% in the quarter, whereas U.S. Imports also contracted by -7.8%. Contractions in Exports were confined to Goods Exports, which dropped by -16.3% in the quarter. Within Imports, both Goods and Service Imports experienced contractions, dropping off by -8.0% and -6.8% respectively.^1,2
  • Government
    • The Government spending component of GDP remained positive in Q2 2023, coming in at a level of 2.6%. This marked a moderate deceleration from the prior quarter’s reading of 5.0%. Both Federal and State & Local Government spending experienced growth in Q2, coming in at levels of 0.9% and 3.6%. This marks the fourth consecutive quarter of both categories experiencing growth. Across both categories, standout areas included Equipment spending which grew at 15.3%, as well as Software spending, which grew at 9.9%^1,2

 

EMPLOYMENT

• The Unemployment Rate for the U.S. Economy is currently at a level of 3.5%. This level of Unemployment is largely considered by the Federal Reserve as representing Maximum Employment levels for the Economy^1,3
  • The Unemployment Rate is currently at a multi-decade low point, indicating an abnormally strong Labor Market^1,3

• The U.S. Labor Force has rebounded moderately over the past few months. The Labor Force now stands at a level of 167.1M, up from 164.7M a year ago^1,3
  • Upwards pressure on Wage Growth has been a key factor in driving more people to re-enter the Labor Market^1,3
  • However, the Labor Force Participation Ratio is largely unchanged from the start of 2022 at a level of 62.6%^1,3

• The number of Employed Individuals has risen over that past year to a level of 161.3M, up from 158.7M a year ago^1,3
• The number of Job Openings in the Labor Market continues to be historically high, although has moderated from the previous all-time high, now at a level of roughly 9.58M^1,3
  • There is now 1.65 Job Openings available for every currently Unemployed Individual^1,3
  • The number of Unemployed Individuals currently stands at 5.8M^1,3
  • Moderation in the number of Job Openings has been a key factor referenced by the Federal Reserve as a potential sign to begin Monetary Policy normalization via ceasing Rate Hikes, and potentially beginning a Rate Cut Cycle.^1,3
• Average Weekly Earnings have continued to rise over the past year by about 3.44%, a sign of a strong Labor Market^1,3
  • Over the past year, Average Weekly Earnings increases have been entirely attributed to increases in Wage Growth as opposed to Hours Worked^1,3
  • Elevated Wage Growth, in tandem with consumer substitution effects, have been instrumental factors in allowing U.S. consumers to partially offset the effects of higher Inflation^1,3

 

INFLATION

• Headline PCE came in at a level of 2.0% (SAAR) in the month of June, and has averaged a more normalized level of 2.50% (SAAR) over the past 5 months^1,4
  • Core Inflation also read 2.0% (SAAR) in the month of June, dropping to its lowest monthly reading since July 2022. Over the past 5 months, Core Inflation has averaged 3.60%^1,4
  • Larger contractions in Energy & Food related costs in recent months have produced the wider than average divergence between Headline and Core Inflation levels, although June’s reading does show a convergence of the two metrics^1,4
• Over the past 5 months there have been material differences in inflationary pressures between Goods and Services, with Goods largely experiencing deflationary pressures over this time, whereas Services continue to inflate at higher levels^1,4
  • Goods deflated in the month of June at a pace of -0.80% (SAAR), marking the second consecutive month of deflationary pressures across Goods. Over the past 5 months, Goods have been completely stagnant, averaging just 0.10% (SAAR)^1,4
    • The Durable Goods section of Aggregate Goods has experienced consistent, but varied deflationary pressures over the past 5 months. June’s deflationary reading of -3.6% (SAAR) marked the 3^rd month in the last 5 where the category experienced deflation. Deflation within the category has been varied, but has generally been experienced by all sub-categories, notably Motor Vehicles which remain volatile but experienced a modest drop of -2.2% in June. Furnishings & Household Equipment experienced deflationary pressures 4 of the past 5 months, being a steady contributor to Durable Goods deflation over this time.^1,4
    • The Non-Durable Goods section of Aggregate Goods has experienced varied inflationary/deflationary pressures over the past 5 months, as is customary for this sub-category due to its inclusion of Food and Energy prices. June’s reading of just 1.0% (SAAR) is only slightly above the category’s 5-month average of 0.40% (SAAR). A moderate degree of inflationary stability has been provided to the Non-Durable goods category from stable/deflationary effects in Food Prices. Sharply lower natural gas prices have provided for lower fertilizer and feed costs which have provided beneficial upstream input cost effects for food producers that have begun to be reflected in consumer-facing food prices ^1,4
  • Services Inflation, unlike Goods, has continued to experience steady/elevated inflationary pressures over the past year. June’s reading of 3.4% (SAAR), is only slightly below that of the category’s 12-month average of 4.9%^1,4
    • Within Services, the major standout sub-category has been Rent Prices. June’s reading of 5.7% (SAAR) remains well elevated above historical levels. Over the past year, Rent Inflation has averaged 8.4%, and has been a primary contributor to elevated Services Inflation at the aggregate level. Important to note, while Rent Inflation is measured monthly, tenants usually only experience inflationary effects annually, therefore pricing pressure in this category may not immediately translate into lower disposable income^1,4
• Market Expectations for future inflation have continued to stabilize and moderate over the past year, and are now roughly consistent with more historically normal levels^5,6
  • Market Expectations for future Inflation on a 5yr forward looking basis are now at a level of about 2.3%, declining consistently from the previous high of 3.5% in March 2022^5,6
  • Market Expectations for future Inflation on a 10yr forward looking basis are now also at a level of about 2.3%, which have also declined from the previous highs achieved in March 2022^5,6

 

FORWARD LOOKING ASSESSMENT

I swear… conducting economic research nowadays feels more like walking through a ‘No Trespassing’ zone rather than a genuine academic exercise. Why is that you may ask? Well, the reason is simple… we weren’t ‘supposed’ to be here.

We weren’t supposed to have an Economy growing at a pace of 2.4%. We weren’t supposed to still have historically low Unemployment. We weren’t supposed to be dealing with an improving inflationary situation. And yet, here we are, chugging right along on our merry way.

While those eternally pessimistic calls for the U.S. Economy’s downfall have been both numerous and unrelenting (and don’t worry, they will always be around for those looking for them) they have simply failed to materialize – time and time again. Frequent readers of our publications will note that we have adopted a much more optimistic view of the U.S. Economy over the past year, and our view remains well anchored in those beliefs today. Let’s take a look at some of the factors which could provide for additional economic growth to come.

Firstly, easing of aggregate inflationary pressures in recent months is a very positive development as it relates to the amount of discretionary disposable income that consumers possess. No, the fight against inflation is not quite over yet, but we have certainly come a long way (as is evidenced by incoming data). The benefit of lower prices can also be compounded when examined in tandem with the fact that wage growth has been robust in recent history. Combing higher wages and lower costs is a uniquely positive backdrop for the state of the consumer (who, by the way, is the lifeblood of the economy).

As just mentioned, wage growth has been higher than normal for some time now. The immediate benefit of this is obvious (more money), but I would like to take a moment and examine one very interesting ‘side-effect’ of this dynamic. As wage growth continues to remain elevated, expectations of future earnings continue to rise right along with it. This is a very interesting dynamic between wage growth and expectations, as there exists an economic concept known as the ‘Wealth Effect’ which roughly posits that as individuals feel wealthier and adopt ‘rosier’ expectations of what they may earn in the future, their consumption levels increase (a particularly beneficial development for economic growth).

Additionally, another noteworthy aspect of the current economic environment pertains to the notion that we are currently living in the midst of an inflection point for one of the more multiplicative and permeating industries – artificial intelligence and advanced computing. What used to be theoretical in this realm has now become practical, and as that transition has continued to take place enormous investment (and subsequent job creation) has taken place to accommodate the larger shoes the future is likely to fill. Again, in keeping with examining the concept of direct and indirect benefits of this secular force, the direct benefits are straightforward – more powerful and effective tools to get things done. In and of itself, that is more than enough to be excited about; but wait, there’s more. The indirect benefits of this force may even be larger in scale. Think of this, more computing power requires more components which require more jobs to produce. This triggers more need for raw materials for component creation, thus creating more jobs. New technologies require new/advanced skill sets, this creates more jobs. So on and so forth, you see my point.

As is customary, there are always going to be risks present that pose threats and uncertainty to future economic growth. My broader point is this, to limit one’s economic viewpoints to only those worrisome factors is remarkably myopic in nature and drastically understates the true underlying strength of the various positive economic factors that fuel the everyday of the U.S. Economy.

So, next time you get that eerie ‘trespassing’ feeling of ‘we weren’t supposed to be here’, consider this…. maybe this is the only place we were actually meant to be. Until next time.

 

[See Below for Disclosures & Annotations]

DISCLOSURES

Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.

The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.

The companies presented here are for illustrative purposes only and are not to be viewed as an investment recommendation.

Tax laws and regulations are complex and subject to change, which can materially impact investment results. LPL Financial does not provide tax advice. Clients should consult with their personal tax advisors regarding the tax consequences of investing.

 

ANNOTATIONS

1. FactSet. “Economics – Country/Region – United States”. August 4, 2023.
2. Bureau of Economic Analysis. “Gross Domestic Product, 2nd Quarter and Year 2023 (Advance Estimate)”. August 4, 2023.
3. Bureau of Economic Analysis. “Labor Force Statistics from the Current Population Survey”. August 4, 2023.
4. Bureau of Economic Analysis. “Personal Income”. August 4, 2023.
5. FRED. “5-Year Breakeven Inflation Rate”. August 4, 2023.
6. FRED. “10-Year Breakeven Inflation Rate”. August 4, 2023.