Humiliated On Its Q1 GDP Prediction, Goldman Doubles Down, Boosts Q2 Forecast To 3.9%

Goldman, it would appear, are desperate to not be forced to admit they are wrong once again.

 On the heels of their dramatic and humiliating swing from expectations of a +3.0% Q1 GDP growth rate at the start of the year to a current -0.6% expectation, the hockey-stick-believers are out with their latest piece of guesswork explaining how growth will explode to 3.9% in Q2 (a full percentage point higher than their previous estimate).The platform for this v-shaped recovery - "consumer spending will probably grow strongly, while the housing market should gradually improve." So 'probably' and 'should' it is then. 

Via Goldman Sachs' Kris Dawsey,

  • Economic activity retreated in Q1, as adverse weather, a large inventory correction, and a likely temporary drag from net exports pulled down growth. GDP growth in the quarter now looks to have been around -0.6%, even worse than the Commerce Department initially reported (+0.1%). However, we anticipate a solid bounce-back in activity in Q2. We are pushing our preliminary tracking estimate up to 3.9%.
  • In today's Daily, we provide a detailed roadmap of our expectations for various economic indicators during the quarter. At a high level, consumer spending will probably grow strongly, while the housing market should gradually improve. Industrial activity and the labor market should continue to strengthen, with inflation remaining subdued.
  • We continue to forecast 3.5% GDP growth in H2. Under our current forecasts, real GDP would increase 2.6% on a Q4/Q4 basis in 2014, below the 2.8 - 3.0% central tendency included in the Summary of Economic Projections from the March FOMC meeting.

Last week, Q1 GDP growth was reported at a disappointing +0.1%. Based on data arriving since the initial estimate—including March factory orders, construction spending, and the trade balance—we now estimate Q1 growth at -0.6%. The good news is that Q1 was distorted by a number of one-off factors, including the negative weather shock, a large drag from net exports, and a sizable inventory correction, which should not be repeated in Q2. As we noted in our recent US Views, data in hand for March and April are consistent with very positive momentum heading into Q2, and we anticipate a strong snap-back in growth.

Although subject to quite a bit of uncertainty given the lack of hard data in hand for the quarter, we are moving up our preliminary Q2 tracking estimate by nearly a full percentage point to 3.9%. Data subsequent to the Q1 GDP report have indicated a larger inventory drag in Q1 (and hence less correction needed in Q2) and a better trajectory of net exports into the current quarter than we had assumed (despite the larger drag in Q1). In addition, we moved up our assumption for real consumer spending growth.

Specifically, we envision the following landscape in Q2 (see table for details):

Consumer spending will probably grow strongly. Q1 consumer spending rose at a solid pace, but on fairly low quality composition. Higher utilities spending due to colder weather and Affordable Care Act-related healthcare spending accounted for the majority of growth. However, the trajectory of spending heading into Q2 was positive, as March core retail sales rose a strong 0.8% and we forecast a solid 0.5% gain in April based on data currently in hand. Similarly, April auto sales at 16.0mn units SAAR were above their Q1 average. While utilities spending will be a drag due to weather normalization, healthcare spending according to the Commerce Department's estimates should continue to outperform, owing to higher Affordable Care Act enrollments. More generally, we see a strong fundamental case for faster growth in consumer spending.


Housing market should gradually improve. Residential investment has been a drag on GDP growth for two consecutive quarters. Our baseline expectation remains for housing activity to emerge from its deep freeze in the coming months, as the weather drag abates and we pass the point of maximum impact from the jump in mortgage rates last year. We have already seen some signs of life in housing starts and pending home sales, although new and existing home sales continued to slide through March.


Industrial activity moving higher. The solid 54.9 print on the April ISM manufacturing index was a good start to the quarter, and we would not be surprised to see a modest continued increase from here. Various leading indicators of capital spending continue to point up, despite disappointing figures in Q1. As such, we anticipate solid growth in nondefense capital goods orders and shipments. Headline industrial production will probably grow more slowly than in Q1 due to weather normalization, as out-sized winter gains in utilities output reverse. (We are likely to see this effect in next week's April industrial production report.) However, the underlying trend on manufacturing industrial production should be better.


Labor market steadily strengthening. The April employment report was a very strong start to the quarter, showing a 288k gain in payroll jobs. Assuming trend-like gains of 200k in May and June would result in average job gains of about 230k/mo, well above the rate needed to bring down the unemployment rate at constant participation. The unemployment rate dropped sharply to 6.3% in April, which seems unlikely to be fully sustained for the rest of the quarter. Past sharp declines in the participation rate—such as that seen in April—have tended to at least partly reverse the next month. We expect initial and continuing jobless claims to continue to grind lower, reflecting a normalization of the layoff & discharge rate and the short-term unemployment rate. However, these indicators provide only a partial view on the degree of improvement in the labor market, as the hiring rate remains depressed and long-term unemployment is unusually elevated.


Inflation to remain subdued. Headline consumer prices will be met with several cross-currents in Q2. On the one hand, retail gasoline prices rose on a seasonally-adjusted basis in April and food prices likely continued to rise faster than the overall rate of inflation. On the other hand, prices for household utilities and heating fuels will probably reverse their large jump in Q1. Although headline CPI looks likely to rise 0.3% in April, we think that for the quarter as a whole headline prices may rise at a similar rate to core prices. We expect core CPI and the core PCE price index to continue to rise at an only-modest rate, in line with Q1 on a sequential basis. The core PCE price index will probably move up from its current year-on-year rate of about 1.2% to 1.3-1.4%, reflecting base effects from the sequester falling out of the calculation.