U.S. economic growth is likely to remain lower than many believe, at 2% to 2.5%, but high enough to create labour market shortages.
The quarter's notable developments were the ECB quantitative easing programme which resulted in a sharply falling euro, weaker growth in China, bad weather again, and slowing U.S. exports.
Threats of labour scarcity are building, helping consumers but potentially sparking higher inflation and lower corporate profits.
Our economic outlook in 2015 remains relatively unchanged from our last report, with U.S. real GDP growth likely to fall in the 2%-2.5% range for the fourth year in a row.
As usual, consumers, who constitute 70% of GDP, will be the biggest drivers of that growth rate. Higher incomes and employment rates could push consumption slightly higher than in 2014, when consumption grew 2.5%. Residential spending, which grew a paltry 1.6% for all of 2014, should do quite a bit better in 2015, although weather has caused this sector to get off to a slow start for the year.
Business investments grew about 6% in 2014 and will probably do about the same to slightly worse in 2015, as oil-related capital spending goes down, and most structures, excluding distribution centres, remain under pressure. Net exports were a detractor from GDP in 2014, as export growth slowed with both weak business conditions and a soaring dollar.
The best case would seem to be that the negative impact of net exports doesn't get any worse in 2015. But more likely, net exports will be a slightly bigger detractor. Government was a very, very smaller detractor from GDP growth in 2014 and will probably add modestly to 2015's growth.
US Growth Estimates Reduced
The general thinking at the end of the fourth quarter was that as gasoline prices came down, consumers would spend more and drive the economy up to escape velocity, with the consensus forecast for 2015 well over 3%. Most of those forecasts have now dropped closer to our forecast of 2.0% to 2.5% growth.
Weather effects, some of which can never be made up for – think restaurant meals, airline seats, etcetera – are certainly part of the explanation of why growth has slowed. The other part of the consensus reduction is the realisation that falling energy prices are not a one-way street. Yes, cheaper gasoline puts more money in consumers' pockets to buy other things.
However, consider all those workers in North Dakota, Texas, and other oil-producing regions, who may be worried about or may have even already lost their jobs. Real estate market activity is already off 10%-15% in the Houston area. And don't forget about all the capital equipment that goes into oil fields. We have long contended that much of the unexpected strength in the manufacturing sector was related to the activity in the oil patch. Computers, drill bits, tubular steel, even manufactured housing to temporarily house oil field workers, all saw at least some benefit from rapidly growing oil production and could now feel the pain.
Strong Dollar Slows Exports
The strong dollar, now up over 20% on a trade-weighted basis, also has the potential for reducing U.S. exports. A stronger dollar means that U.S. goods are more expensive and less competitive overseas. For years we have argued that with exports just a meagre 13% of GDP, export weakness wouldn't make much of a difference to U.S. GDP growth. However, with the U.S. economy stuck at a 2.0% to 2.5% growth rate, even a few tenths of a percent reduction in exports begins to weigh on overall growth rates. However, exports shouldn't fall enough to badly damage the economy or throw the U.S. into a recession.
Europe Gets Advantage of QE
Also in the first quarter, the European Central Bank rolled out its quantitative easing measures with a bang, announcing a bond-buying program that will likely top the $1 trillion mark, roughly matching the size of the U.S. QE 3 program. Europe should do better in 2015 with that QE program, which should keep the euro weak, and support exports and cheaper interest rates, encouraging more lending. Throw in cheaper energy prices, and Europe will find it hard not to do at least a little better in 2015. However, without some hard choices and structural reforms, the stronger European economy might not last long.
China's Growth Rate Is Not Coming Back
The world is also finally coming around to the fact that China is not ever returning to the "good old days" of 10%-12% GDP growth rates. Current forecasts are for growth of around 7% in 2015, down modestly from 7.4% in 2014. Five years from now, we believe that China might be growing at under a 5% rate due to demographics, slowing real estate markets, and the continuing transition of the economy from investment to consumption. That projection is probably a bit more dour than the consensus forecasts, but if correct, if will keep a lid on many commodities and could weigh on miners, manufacturers, and other emerging-markets economies, at least in the short run. However, the worst of the downward thrust in commodity prices may be behind us.
