The first official estimate of economic growth for the fourth quarter of 2020 confirmed that the economy continued to expand but lost significant momentum from the breakneck pace of growth in the preceding three months. The initial estimate of 4.0% was slightly softer than consensus estimates — perhaps not surprising given the volatile conditions. Economists had called for a gain of 4.2%, according to the Bloomberg survey. Regardless, the story isn’t the miss, it’s the magnitude of the slowdown in the economy in just a few short months.
Changing consumer behavior was again the key underlying factor driving the slowdown. Household spending on goods declined fractionally in Q4 — a marked change after surging by nearly 50% in the preceding quarter. Retail sales numbers for December were shockingly soft, particularly given the critical nature of the holiday shopping season for the sector, but illustrative of renewed caution and reduced spending appetite for many households.
Consumer spending on services expanded by 4.0%, also well below the 38% advance in Q3. The overwhelming driver behind that increase was a surge in healthcare services, likely driven by an increase in voluntary procedures that had been delayed earlier in the year due to COVID-19 limitations.
Contrasting with that cautious consumer picture was continued strength in housing. Residential investment surged by over 33%, supported by low interest rates. The fact that most Americans are spending much more time at home doesn’t hurt; reduced spending on goods and services and exceptionally low mortgage rates also provide many households with the ability to make desired improvements or upgrade to a newer home.
Business investment contributed positively, with equipment purchases being a key driver. Commercial construction was subdued, and is likely to remain challenged given the expected overhang of commercial space as a result of business closures, increased e-commerce, and more work-from-home expectations even after the pandemic passes.
Hidden in the headline number is that the economy appears to have slowed even in the latter part of the quarter and stumbled into 2021. Employers shed jobs in December as the service sector was hard hit by COVID-19-related limitations. Until those restrictions are lifted, meaningful improvement in employment conditions will be hard to achieve, creating a stiffer headwind to consumer spending.
The bottom line is that the economy remains in a delicate spot as the country navigates a path forward that balances the need to address the health risk presented by COVID-19 with the economic consequences of those policies. The good news is that the light at the end of the tunnel is approaching, as vaccine distribution accelerates and we move closer to herd immunity.
Targeted fiscal support for impacted households and businesses can provide a bridge, but the key to a successful fiscal package will be directing the needed assistance to the right recipients. As illustrated by the surge in personal savings last year, success doesn’t hinge on throwing more money at the issue, but on ensuring that those that need support are receiving it.
The good news? The turning point for the economy looks like it will come in the coming months, assuming the vaccine distribution continues as projected and proves to be effective against emerging strains of the virus. Pent-up consumer demand could lead the way toward a stronger recovery in the later half of 2021. Until then, a muddle-through backdrop should be expected to continue.
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