After a long period of absence, I’ve visited New York multiple times in the last month. Each time, the city has seemed more bustling than the week before, with fewer masks, more crowded restaurants and more New Yorkers expressing their emotions by their habitual cheery and liberal use of their car horns. As cases of Covid continue to fall, it is as if springtime has arrived in the city and in the nation.
This is, of course, a joyful change of seasons after such a traumatic 15 months. But it is also a season of supercharged demand, reflecting pent-up demand from the pandemic and massive fiscal stimulus. The multiple ways by which this demand is reshaping the economic landscape have important implications for investment strategy.
The most obvious of these, of course, is in economic growth.
Data last week helped tighten forecasts of GDP growth and we now estimate that real GDP grew by 9.8% annualized in the second quarter, powered by an almost 11% annualized gain in real consumer spending. While consumer spending will likely grow much more slowly for the rest of the year, investment and government spending should continue to advance. Meanwhile inventories, which likely fell in the second quarter for the sixth out of the last seven quarters, will need to be rebuilt and this should add to GDP growth for the rest of the year and into 2022. Consequently, we now expect that by the fourth quarter of this year, real GDP will be up 7.4% year-over-year and up 4.9% relative to the fourth quarter of 2019.
This supercharged recovery has also been characterized by strong productivity growth. From the fourth quarter of 2019 to the second quarter of 2021, we estimate that real output per hour in the non-farm business sector, rose by a lofty 6.0%, or 4.0% at an annual rate.
This likely reflects some of the genuine efficiencies realized by many firms and consumers in the pandemic economy. T&E costs have collapsed, as many businesses have been able to work with clients much more cheaply in a virtual environment. Meanwhile, a surge in on-line consumer purchases has occurred in an environment of diminished retail employment, further enhancing measured productivity. Very rapid economic growth at a time of chronic labor shortages has, undoubtedly also boosted productivity as existing employees are forced to work more efficiently to make up for colleagues who just aren’t there. Finally, a general switch to goods consumption from services consumption during the pandemic likely further boosted productivity numbers.
It is important to recognize that only part of these productivity gains are likely to be sustained into 2022 and beyond. There will likely be a swing back from spending on goods to services in the months ahead and most businesses, to maintain their competitive edge, will have to resume in person client meetings. Moreover, as enhanced unemployment benefits lapse, we do expect to see a ramp up in labor supply.
This will likely not yet be evident in this Friday’s jobs report, since the employment surveys for June reference the week of June 6 through June 12 and all 50 states maintained enhanced unemployment benefits through that week. Even with this, however, lower-than-normal teacher layoffs and very strong labor demand may have produced more than 600,000 net new jobs in June, cutting the unemployment rate to 5.5% from its current 5.8%.
The survey week for July is the week of the 11 through the 17 and 25 states, accounting for over 40% of U.S. workers, will have ended enhanced unemployment benefits by that time, potentially contributing to a labor supply surge which will likely continue into the fall. We continue to agree with Federal Reserve projections that the unemployment rate will average just 4.5% in the fourth quarter.
Meantime, of course, the juxtaposition of very strong labor demand and limited labor supply is boosting wages. Analysts will be looking at wage data in Friday’s June jobs report and a 0.3% gain in the average hourly earnings of production workers would imply a 4.6% annualized gain in wage rates over the past two years—the fastest two-year gain seen since October of 1983.