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Initial GDP estimate: Hope for interest rates?

January 30, 2012

| MoneyRates.com Senior Financial Analyst, CFA

The initial estimate released Friday for fourth-quarter Gross Domestic Product (GDP) hinted at something long missing from the US economy: positive momentum. But can it be sustained?

The Bureau of Economic Analysis estimate placed U.S. GDP growth at an annual, inflation-adjusted rate of 2.8 percent in the fourth quarter. If the estimate holds true, it would be the economy's best performance in a year and a half. But sustaining that momentum will depend on this growth translating into new jobs.

The ins and outs of GDP

The 2.8 percent estimate could mean that the economy has grown steadily in each of the last three calendar quarters. In the first three quarters of 2011, GDP posted growth numbers of 0.4 percent, 1.3 percent and 1.8 percent.

A 2.8 percent growth rate is not particularly strong, but the progression of numbers is certainly encouraging. Perhaps what is most impressive is that this growth represents the business and consumer sectors making progress against a headwind of government austerity.

The National Retail Federation predicted retail sales would increase 3.8 percent during the November-December holiday shopping period, compared with 2010, and First Data reported that use of credit cards was up 7 percent during that time.

Federal spending decreased by 7.3 percent in the fourth quarter, while state and local spending decreased by 2.6 percent. In other words, this is the opposite of fiscal stimulus, so there is nothing artificial about the improvement in growth.

Still, an important note of caution is that advance estimates of GDP growth tend to be subject to significant revision. At the end of February, and then again at the end of March, there will be more refined GDP releases, and these will tell whether the apparent growth is real.

GDP and interest rates

Savings account interest rates have a huge stake in the direction of economic growth. Federal Reserve policy has a direct effect on savings account rates, and the Fed has made it clear that it plans to favor extremely low interest rates until it is convinced that the economy is running at full steam.

Ironically, the encouraging GDP release came out just two days after a pessimistic Fed report signaled that it planned on maintaining its low interest rate policy at least until 2014. The Fed estimated that economic growth for 2012 would be limited to a range of 2.2 to 2.7 percent, so the fourth quarter number of 2.8 percent suggests that the economy may be a little ahead of schedule.

Does this mean that the Fed can lighten up on its low interest rate policy? Not yet. Growth will have to be a little stronger, and sustained a little longer, before the Fed will back off and raise rates -- and perhaps it will take even longer before that change in policy translates into higher savings account rates. Still, for an economy that has had a lot of false starts in recent years, the fourth quarter's growth was at least one step in the right direction.

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