The U.S. reported strong third-quarter GDP growth of 3.9% during 2014. This follows the recent trend of strong consecutive quarter-over-quarter growth. The previous quarter of growth resulted in an increase real GDP by 4.6%. The economy is showing signs of sustained growth, which should continue through 2015. Further corroborating this, unemployment, as of March 2015, currently stands at 5.5%, which is decreasing steadily since post financial crash levels of unemployment.
Despite steady growth since 2010 as shown by the graph above, and relatively low unemployment, the economy’s growth has been dependent upon consumer spending within the economy. Spending accounts for 70% of GDP and since November 2014, the economy has enjoyed a 5.1% increase in retail sales on a yearly basis. However, recent figures have shown poor consumption activity.
According to Bloomberg, consumer sentiment has been decreasing in absolute terms since 2014; for instance, the University of Michigan’s preliminary sentiment index, which measures the magnitude of consumer confidence, plunged to 88.6 in May from 95.9 in April. As a result of lower oil prices and healthy employment figures, economists remain optimistic towards consumer spending which is projected to accelerate 3.5% from April till June according to the median forecasts of economists surveyed by Bloomberg in April.
Conversely, retail figures have remained stagnant in April as well as a further 0.2% drop from January to March. It appears that consumers have pocketed the cash they have saved from lower gas prices as wage levels have continued to rise marginally, where hourly pay rate was only up from 2.2% in April from a year earlier. If consumer spending and sentiment continues to be sluggish, then the outlook for the U.S. economy may end the trend of the consecutive growth that is has been experiencing.
Furthermore, investors may be content with the performances of the stock markets where many of the indicies have excelled. For instance, the Dow soared almost 100 points to close above 18,200 for the first time. The S&P 500 also notched a new record. Even the Nasdaq is roughly half a percent away from closing above 5,000, a level not seen since the height of the dot-com boom. However, economist Robert Shiller has noted that that his metric, the Shiller P/E (a measure of how expensive a stock is) is back at levels last seen pre-financial crash. That being said, companies are becoming wealthier, which means they will have more cash thus inflating figures as such.
What is worrying is that even though stock markets are breaking records, a stock market is only as strong as the companies that constitute it. Roughly half of U.S. companies get a portion of their revenue from outside the country. Therefore, a slowing global economy could translate into slowing global sales, thus creating uncertainty for U.S. stock markets.
Some of the biggest economies in the world are beginning to show signs of weakness and it may only get worse. Even though China’s economy was once known for double-digit growth, its economy has entered what some perceive as a cooling phase. In 2014, the country’s economy advanced by 7.4%, the slowest pace in 24 years. In 2014, the country reported third quarter growth of 7.3% down from 7.5% in the previous three quarters. This has been the slowest since 2009. Moreover, the IMF has forecasted the economy to grow 6.8% in 2015.
The Eurozone, the biggest economic region in the world, is on the brink of recession. Germany held off a recession when it announced third-quarter GDP growth at 0.1% in 2014. In the previous quarter, the German economy contracted. France, the second biggest economy in the Eurozone announced a feeble growth rate of 0.3%. It may be the fastest pace in more than a year; however the country’s unemployment is still at 10%, which is twice that of Germany. Therefore high unemployment depresses consumption, and as a result, economic growth. Italy, the third largest economy in the Eurozone entered a recession in the third quarter of 2014 after its economy shrank by 0.1%. This is the 13th consecutive quarter that it has failed to grow.
Marking its second consecutive growth, Japan’s economy grew by 0.6% in the first quarter. However, like the U.S., private consumption accounts for 60% of its GDP. Along with wages being stagnant for several years, the Prime Minister has declared a sales tax hike that has dampened spending. The demand for U.S. exports will fall as a result of poor consumer behaviour in Japan and, therefore, U.S. firms will feel the hit of falling demand. Moreover, Japan is the second biggest importers of U.S. goods and services. With a weaker yen imports become expensive for consumers and for firms, as a result, the profitability for U.S. firms who are reliant on Japanese products falls, which is detrimental to their stock market performance.
American firms’ earning revenues in foreign currencies and translating them back in their domestic currency are suffering losses too. According to the Financial Times, the rise in the US dollar has already wiped more than $20bn from first quarter sales at the largest US companies.
Although the U.S. is achieving strong growth along with stock markets surpassing historical figures, a weak global economy could drag earnings for the firms that make up the exchange. This will affect profitability, thus raising concerns for a stock market correction, which will create uncertainty for investors.