Soft US headline growth in Q3 masks strength in details

US economic growth slowed to 1.5% in Q3. But nevertheless, the economic recovery is not at risk, because final domestic demand has grown strongly. Thus the data do not make a case against a Fed rate hike in December.

The US economy expanded at a rate of 1.5% in Q3 (all growth rates are annualised rates of change on the previous quarter), down from 3.9% in Q2 but about in line with expectations (forecast 1.7%, consensus 1.6%).

The soft headline number masks strength in several crucial components. Private consumption has expanded strongly at a rate of 3.2% as the rising number of jobs propelled labor income, rising house prices lifted wealth and consumers benefitted from a renewed drop in oil prices. At the same time, private investment increased on a broad basis: residential investment (+6.1%), investment in equipment (+5.3%), investment in intellectual property such as software (+1.8%). Only nonresidential construction (-4.0%) decreased on less investment in drilling for oil and gas.

Also on the positive side, government spending increased 1.7%. Despite the strength of the dollar and weak global demand, exports increased 1.9%, even slightly more than imports (1.8%).

So, if Americans have consumed and invested significantly more, why has the US economy barely grown? The reason is that a relatively large part of domestic demand was satisfied from inventories. This depressed the GDP growth rate by 1.4 percentage points in Q3.

Strength in consumption and investment signals an unbroken confidence of consumers and companies in the economic recovery. Therefore economists regard a lasting slowdown as unlikely, even if the global environment remains challenging.

"Our verdict is based on final domestic demand (GDP ex volatile inventories and net foreign trade) which we regard as a better indicator of the underlying growth trend than total GDP. Final domestic demand has grown only at a very solid 2.9% (chart). In Q1 2014 and in Q1 2015, final domestic demand also held up relatively well, identifying the very low GDP growth rates in these quarters as temporary situations", says Commerzbank.

Thus the FOMC September projections for growth in 2015 (2.1% Q4 vs. Q4) and 2016 (2.3%) appear well achievable. In light of the solid details of the report the Fed is likely to hold to its view of a moderate economic recovery. Therefore today's data do not argue against a rate hike December