In the third quarter, the US economy continued to exhibit considerable strength, and the GDP report incorporated evidence of declining inflation. There are a few negative signs, but not sufficient to drive a significant slowdown.

The US government reported that, in the third quarter, real GDP grew at an annualized rate of 2.8% from the previous quarter. This was a bit slower than the 3% growth in the second quarter, but certainly far faster than the long-term ability of the economy to grow.

Notably, real consumer spending grew at a stellar rate of 3.7%. This included an increase in spending on durable goods of 8.1%, nondurable up 4.9%, and services up 2.6%. Meanwhile, business investment remained robust. Nonresidential fixed asset investment grew at a rate of 3.3%. This included a 4% decline in investment in structures. However, this was more than offset by an 11.1% increase in investment in equipment but only a 0.6% increase in intellectual property. On the other hand, residential investment fell at a rate of 5.1%, the second consecutive quarterly decline.

Also, exports of goods and services grew rapidly at 8.9%, led by goods more than services. Imports were up at a rate of 11.2%, evidence of strong domestic demand. Finally, government purchases were up 5%, led by defense spending at 14.9%. Overall, the report indicated underlying strength.

Going forward, there are a couple of reasons to expect real GDP growth to decelerate modestly. First, the delinquency rate on credit card debt is now relatively high. This will likely restrain the ability of consumers to continue making purchases of durable goods. Second, the GDP report indicated that real disposable personal income grew slower than real consumer spending. Consequently, the personal savings rate fell. This cannot go on forever. Third, the restrictiveness of monetary policy has resulted in a sharp increase in business bankruptcies. Although monetary policy is now easing, it remains tight. Bankruptcies can hurt investment and employment. Also, growing government debt, especially if the next US president implements a fiscal expansion, if perceived by investors as unsustainable, could lead to higher borrowing costs, thereby hurting investment. Finally, implementation of more trade restrictions would reduce consumer purchasing power and might ignite higher inflation, leading to tighter monetary policy than otherwise.

Lastly, the GDP report included quarterly data on the Federal Reserve’s favorite measure of inflation: the personal consumption expenditure deflator, or PCE-deflator. In the third quarter, it was up from the previous quarter at an annualized rate of only 1.5%. This included declining prices of goods offset by only a 3% increase in the price of services. Moreover, the core PCE-deflator (excluding energy and food) was up at a rate of only 2.2%.

Following on its strong GDP report for the third quarter, the US government released data on personal income and consumer spending for September. It is the most recent picture we have of the consumer economy. Moreover, it includes data on the Federal Reserve’s favorite measure of inflation. Let’s look at the details:

• In September, real (inflation-adjusted) disposable income (after taxes) was up only 0.1% from the previous month. Yet real consumer spending was up 0.4%. This means that households saved less in September than in August. That is, the personal savings rate fell from 4.8% of income in August to 4.6% in September. The savings rate has been steadily falling since a recent peak of 5.4% in January. It is not clear how long this trend will continue. The September rate is the lowest since last December. However, both real disposable income and real consumer spending were up 3.1% in September versus a year earlier. Thus, in the longer term, income and spending have moved together at a healthy pace.
• Regarding consumer spending, real spending on durable goods was up 0.4% in September from the previous month, nondurables up 0.8%, and services up 0.2%.
• Finally, the government released data on the Fed’s favorite measure of inflation. The PCE-deflator was up 2.1% in September versus a year earlier, the lowest level of headline inflation since February 2021. There was a decline in the prices of goods that was more than offset by a rise in the prices of services. Specifically, the price of durable goods was down 1.9% from a year earlier while the price of nondurables was down 0.8%. Meanwhile, the price of services was up 3.7%, the same as in July but down substantially from the recent past.
• One reason for the low level of headline inflation was a sharp decline in energy prices in September. When volatile food and energy prices are excluded, the core PCE-deflator was up 2.7% from a year earlier, roughly unchanged over the past five months. Thus, underlying inflation has stabilized at a level slightly higher than the Fed’s 2% target. Still, the target is not meant to be a ceiling, but rather an average. As such, inflation appears to be under control.

This latest report offers further support for the soft-landing scenario. Consumer spending remains healthy, although income growth has decelerated. Meanwhile underlying inflation is close to the Fed’s target. Consequently, it is reasonable to expect a continued easing of monetary policy, but at a moderate pace. It is also reasonable to expect some deceleration in economic activity. However, a recession is very unlikely.