The Competitive Dollar Keeps Real GDP Positive

The preliminary estimate of second quarter Real GDP increased at a 1.9 percent rate.  This increased was more than accounted for by the change in the balance of trade.

Real exports of goods and services increased 9.2 percent in the second quarter, up from an increase of 5.1 percent in the first quarter.  Real imports of goods and services decreased 6.6 percent, compared with a decrease of 0.8 percent in the first quarter.  A decrease in imports is a positive in GDP accounting, just like an increase in exports.

Combining the two, net exports (exports minus imports) increased 14.3 percent and subtracted that much from the deficit in goods and services.

In terms of their contribution to the second quarter Real GDP estimate, exports of goods and services added 1.16 percentage points while import reduction added 1.26 percent. (Imports have a much larger base than exports.)  Together, net exports added 2.42 percentage points, considerably greater than the 1.9 percent increase in Real GDP.  Without the improvement in net exports, Real GDP would have been negative by half a percentage point.

Of all the individual spending components making up Real GDP identified by the Bureau of Economic Analysis, import reduction made the largest contribution and export increases made the second largest.  It is curious to me that export growth gets lots of media attention while import reduction is rarely, if ever, mentioned.

The reason that imports are subtracted from the GDP calculation is not that they are somehow "bad" or negative for the economy.  It's because there is an import component embedded in the other categories of spending, and subtracting imports from the total is easier that trying to do it component by component.  The subtraction is based on the fact that imports generate income for our trading partners rather than for the domestic economy.  The recent reduction in imports means that spending has shifted toward domestic production.

The second quarter's boost from the shrinking trade deficit is the largest in recent years. Here are the positive quarters since the beginning of 2005

Positive net export of goods and services:

I-2005     +0.28
II-2005    +0.79
I- 2006    +0.09
II- 2006   +0.59
IV-2006    +1.33
II-2007    +1.66
III-2007   +2.03
IV-2007    +0.94
I-2008      +0.77

Net exports were net negative (subtracted from Real GDP) in the years 2004, 2005, and 2006.  It was a small positive in 2007 and a more substantial positive so far in 2008.

The improvement has resulted from a combination of dollar depreciation and a slowing of the U.S. economy relative to our trading partners.  Since the improvement began before the U.S. slowdown, I assume that dollar depreciation was the dominant factor. However, the substantial benefit is only now beginning.

"Lord, give us a strong dollar, but not just yet."

The dollar is keeping us from having negative GDP numbers recently.  If the dollar strengthens because of continued improvement in net exports, the dollar and the U.S. economy will become stronger together.

If the dollar is "talked up" or otherwise pushed up by "levitation" without the pull of an improving trade balance, the stronger dollar will weaken the economy by increasing our negative trade balance (by increasing our imports relative to our exports).

A useful footnote:  Our entire deficit in trade in goods and services is in the goods portion; we actually have a surplus in services.  Therefore, it is accurate to refer to the trade balance in the context above since the "trade" balance traditionally refers to trade in goods only.

Another useful footnote: Traditionally such discussions have referred to the current account balance rather than the balance on goods and services.  Since the current account includes investment income received and paid and unilateral transfers (gifts, etc.), the new focus on goods and services is more focused on what adds or subtracts from U.S. Real GDP.

But lest these trees obscure your view of the forest, the main point of this posting is that the "weak" or, more accurately, "competitive" dollar has been playing a helpful role in supporting the domestic economy and keeping us out of negative GDP territory.

I would say it's, for sure, keeping us out of recession if the two consecutive quarters of Real GDP rule determined the recession.  However, I expect that in several months, the Business Cycle Dating Committee of the National Bureau of Economic Research will probably decide we were in a recession based on its own criteria, even if we don't meet the two quarter test.

Comments (1)

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  1. Caroline says:

    “Habe you looked at cproorate profits lately? How can you be gloomypants when you look at cproorate profits?”this comment is nonsensical even for you.first off, inflation makes corp profits look bigger, so your whole argument is just more bubble baby thinking.second, cproorate earnings are barely back to 2007 levels despite about 20% inflation since then if you use an arithmetic CPI, so i don’t really see how 20% below 3 years ago in real terms is something to crow about (though it can certainly drive nominal appreciation) especially when the SPX is still down 13% nominally from 2007 and probably more like 30% in inflation adjusted terms.finally, i am anything but gloomy.my fund is having its best years ever. i just think this economy is being overstated and that this monetary policy is reprehensibly reckless and doing real damage to the US. i’d hate to be running a manufacturing or service business in this, but it’s Christmas everyday if you are an asset manager. the volatility and the bubbles create the opportunity for outsized profits. i am a HUGE beneficiary of this stupidity, but that does not mean that i think it’s sound policy.unlike me, the country as a whole needs real growth to see their standard of living increase.