Five Takeaways from GDP Revisions

(This story has been posted on The Wall Street Journal Online's Real Time Economics blog at http://blogs.wsj.com/economics)

By Ben Casselman

The U.S. economy grew at a 2.5% annual rate in the second quarter of the year, the Commerce Department said Thursday, an upgrade from the 1.7% rate the government initially estimated. Economists are still digesting today's report, but here are five initial takeaways.

Old news, but good news: Thursday's upgrade was largely expected--economists have known a big revision was coming since the first week of August, when the government released better-than-expected trade data from June. But it's worth stepping back to look at the bigger picture: Back in July, before the preliminary figures were released, economists predicted a growth rate of below 1% in the second quarter, which would have represented a slowdown from the already-weak start of the year. Instead, the economy has accelerated for two quarters in a row, and posted its first reading above 2% since the middle of last year. A 2.5% growth rate still isn't particularly impressive--it remains below the U.S.'s long-term growth rate, and will do little to help the economy make up the ground lost in the recession--but it suggests the recovery is on much firmer footing than it first looked

Good news for jobs: One of the recent mysteries of the economy has been the apparent disconnect between the job market--which has been recovering steadily--and overall economic growth, which seemed to be sputtering. That kind of disparity can't continue indefinitely, and economists have been trying to figure out which set of numbers were telling the true story. Thursday's revisions suggest the jobs figures had it right. That's good news both for next week's jobs report and for the pace of hiring in the longer term. A separate decline in new jobless claims on Thursday is further evidence that the job market continues to heal.

Government drag worsens: The preliminary report issued last month offered a glimmer of hope from state and local governments, which increased spending for just the second time since 2009. Not anymore. The revisions indicate state and local governments actually cut spending at a 0.5% rate, although that still represents a modest improvement from earlier in the year. Meanwhile, federal spending fell even faster than initially thought. All told, the public sector shaved nearly two tenths of a percentage point off the second quarter growth rate.

New measure shows some volatility: Last month's preliminary figures got extra attention because they were the first to incorporate the Commerce Department's new methodology for calculating gross domestic product. Most notably, the government now counts intellectual property as a component of GDP. Thursday's report suggests government economists are still working out how to track the new measure in real time; they now say "intellectual property products" shrank at a 0.9% rate in the second quarter, down from an initial estimate of a 3.8% gain.

Don't expect a repeat in the third quarter: The faster-than-expected growth rate in the second quarter puts the economy on firmer footing heading into the second half of the year. But most economists now expect slower growth in the third quarter, and Thursday's report gives little reason to think they're wrong. Businesses built up inventories more than expected--which could mean they expect more sales later in the year, but also means they won't need to produce as much to restock shelves. Corporate profits were up, but so were dividend payments, meaning net cash flows actually declined--which forecasting firm Capital Economics noted was "not an encouraging sign for the investment outlook."