Weaker than expected GDP figures have fuelled fears of a double dip in the US economy this year.

In his latest outlook, Tom Elliot, Global Strategist at J.P. Morgan Asset Management examines the effect of weak consumption to date on America’s below par recovery and asks whether the US consumer will be able to take up the slack, as the contribution to growth from more cyclical factors begins to fade.

• 2% GDP growth expected by end of 2010, with a further 2.5% expected in first quarter of 2011
• Consumer spending is key as other cyclical growth drivers start to fade 

Forming part of the J.P. Morgan Asset Management Market Insights series, “The US economic recovery and the role of the consumer” explains how the US economic rebound over the last year has been led by a cyclical bounce in business investment and restocking.

Why has the current recovery been so shallow?

In the current US recovery, nearly 90% of GDP growth has come from spending on business equipment and a change in inventories.

This compares to just a 13.5% average contribution to GDP growth from these components in the last fifty years. 

Tom Elliot explains, “We believe that the US economy will continue to recover, even if at a very modest pace. A double dip recession is not our central scenario.

However, the cyclical rebound in the corporate sector is now largely behind us, so a sustained recovery is dependent on the US consumer taking up the baton.

Although consumer demand has so far been relatively weak during the current recovery, there are positive signs that we will soon see a meaningful pick up in consumption.” 

Historically, two thirds of US GDP growth has come from consumer spending. Yet in the current recovery, the consumer’s contribution to overall GDP has dropped to less than one third.

J.P. Morgan Asset Management recommends investors look out for signs of consumers’ ability and willingness to spend as key drivers of the recovery 

The consumer’s ability to spend

Principally, consumer spending is a function of income. The biggest challenge to spending therefore is unemployment.  Hence, weakness in recent data such as initial unemployment claims is a cause for concern.

However other factors, such as a decrease in the amount of disposable income that consumers are dedicating to servicing their debt are more encouraging.

Tom Elliot explains, “The household debt service ratio has fallen from a peak of 14% in the third quarter of 2007 to 12.5% in the first quarter of 2010.

Although this 1.5% decline may not sound like much, it represents billions of dollars that are no longer devoted to servicing debt, and therefore can be allocated to either savings or spending.” 

The consumer’s willingness to spend

Consumer sentiment has picked up from the recent lows reached in November 2008 in the immediate aftermath of the collapse of Lehman Brothers.

However, sentiment remains subdued and well below the average levels of the last two decades. The current low levels of consumer confidence remain headwinds to a pick up in consumer spending. 

The health of the labour market is most pertinent to the US consumer’s view of the world. Therefore until we see a substantial drop in the jobless rate, consumer sentiment is likely to remain fairly muted. 

Elliot concludes, “Recent data shows an improving job market, albeit slowly, higher asset values, improved sentiment and healthier household and corporate balance sheets.

The rate of improvement in these areas has moderated recently, but the overall direction is positive and should help support a consumer recovery in the months and years ahead.” 

1. Contributors to GDP growth, year to 30 June 2010        

    Source: Bureau of Economic Analysis, National Bureau of Economic Research, J.P. Morgan Asset Management