July 29, 2021 Reading Time: 4 minutes

Real gross domestic product increased at a 6.5 percent annualized rate in the second quarter, up from a 6.3 percent pace in the first quarter. Over the past four quarters, real gross domestic product is up 12.2 percent, putting the level almost back on trend (see first chart).

Real final sales to private domestic purchasers, a key measure of private domestic demand, rose at a very robust 9.9 percent annualized rate in the second quarter following an 11.8 percent pace in the first quarter. Over the last four quarters, real final sales to private domestic purchasers are up 15.9 percent, putting the level above trend for the first time since the fourth quarter of 2019 (see first chart).

Growth in the second quarter was led by consumers. Real consumer spending overall rose at an 11.8 percent annualized rate, beating the strong 11.4 percent rate in the first quarter, and contributing a total of 7.8 percentage points to real GDP growth. The pattern of contributions to growth among the components of consumer spending in the second quarter was the mirror opposite of the first quarter as the second quarter was led by consumer services, followed by nondurable goods and then durable goods. Spending on services grew at a 12.0 percent rate, contributing 5.1 percentage points to real GDP growth while nondurable-goods spending rose at a 12.6 percent pace, contributing 1.8 percentage points and durable-goods spending rose at a 9.9 percent pace, contributing 0.9 percentage points (see second chart). Within consumer services, spending was particularly strong on food services (restaurants), travel, accommodations, and recreation services as consumers emerged from pandemic restrictions.

Business fixed investment increased at an 8.0 percent annualized rate in the second quarter of 2021, contributing 1.1 percentage points to final growth. That gain was led by a 13.0 percent jump in spending on equipment (adding 0.7 points to growth) and a 10.7 percent gain in intellectual-property investment (adding 0.5 percentage points). Those gains were partially offset by a decline in spending on business structures where spending fell at a 7.0 percent rate, the sixth decline in over the last seven quarters, and subtracting 0.2 percentage points from final growth (see second chart).

Residential investment, or housing, fell at a 9.8 percent annual rate in the second quarter compared to a 13.3 annualized gain in the prior quarter. The second quarter is just the second decline in the last 10 quarters (the other being the second quarter of 2020 during the height of government lockdowns). The drop in the second quarter reduced overall growth by 0.5 percentage points (see second chart). Housing had shown resilience throughout the pandemic as extremely low interest rates combined with widespread remote working policies and the desire by some people to move away from virus epicenters has supported increased demand. However, limited supply and surging home prices are pushing buyers out of the market and leading to a cooling.

Businesses liquidated inventory at a $165.9 billion annual rate (in real terms) in the second quarter versus liquidation at a $88.3 billion rate in the fourth quarter, subtracting 1.1 percentage points from second-quarter growth.

Exports rose at a 6.0 percent pace while imports rose at a 7.8 percent rate. Since imports count as a negative in the calculation of gross domestic product, a gain in imports is a negative for GDP growth, subtracting 1.1 percentage points. The rise in exports added 0.6 percentage points. Net trade, as used in the calculation of gross domestic product, subtracted 0.4 percentage points from overall growth.

Government spending fell at a 1.5 percent annualized rate in the second quarter compared to a 4.2 percent pace of growth in the first quarter, subtracting 0.3 percentage points from growth.

Consumer price measures also showed a rise in the second quarter. The personal-consumption price index rose at a 6.0 percent annualized rate, up from a 4.3 percent pace in the first quarter. From a year ago, the index is up 3.8 percent. Excluding the volatile food and energy categories, the core PCE (personal consumption expenditures) index rose at a 6.1 percent pace versus a 2.7 percent increase in the first quarter. From a year ago, the core PCE index is up 3.4 percent.

While there is significant concern being expressed about the potential for a sustained surge in consumer price increases, there are still major distortions in prices and the financial system resulting from government policies, disruptions to supply chains, and changes to consumer spending habits. Since many of these distortions are likely to be temporary, a 1970s-style resurgence in persistent consumer price increases remains unlikely.

The U.S. economy suffered a historic contraction in 2020 as government shutdowns intended to fight the Covid-19 outbreak sent economic activity plunging and unemployment soaring. Reopening has spurred a historic rebound and aggregate measures show output is back to trend-growth levels. The preponderance of evidence suggests the economy is on a sustainable upward path. However, the recent acceleration in new Covid cases caused by the Delta variant is increasing uncertainty for the short-term outlook. Other lingering fallouts such as materials shortages, labor constraints, and logistical problems are driving prices higher, but these are likely to be temporary. Under current conditions (still elevated unemployment, robust activity, and accelerating consumer price increases), monetary policy is likely to remain accommodative though somewhat less so as Federal Reserve members recently suggested that bond-buying programs may be tapered starting later in 2021. Still, the outlook remains tilted to the upside, but uncertainty remains elevated.

Robert Hughes

Bob Hughes

Robert Hughes joined AIER in 2013 following more than 25 years in economic and financial markets research on Wall Street. Bob was formerly the head of Global Equity Strategy for Brown Brothers Harriman, where he developed equity investment strategy combining top-down macro analysis with bottom-up fundamentals.

Prior to BBH, Bob was a Senior Equity Strategist for State Street Global Markets, Senior Economic Strategist with Prudential Equity Group and Senior Economist and Financial Markets Analyst for Citicorp Investment Services. Bob has a MA in economics from Fordham University and a BS in business from Lehigh University.

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