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Tracking growth momentum

Tracking growth momentum

  • 28Jun 18
  • Abigail Watt Senior Analyst, Aberdeen Standard Investments

Understanding the state of the economy is essential for investment decision making. Investment professionals do this partly by tracking changes in economic activity, as measured by gross domestic product (GDP). But there are problems with this approach.

GDP estimates are published only on a quarterly basis. Furthermore, first estimates of these data are published with a time lag - usually of around six weeks or more. On top of that, these estimates are frequently revised as more information for the quarter in question becomes available.

To overcome such issues, and to track trends in economic activity on a more timely basis, we make use of “Nowcasting” models.

Nowcasting can be used to translate the signals from a wide range of economic data and surveys into a forecast of the very near-term growth picture. Since data series are released at different times through each month, we can update our Nowcasting models to incorporate new information as it is published. This gives us a timelier and broader-based signal of underlying economic activity than can be gleaned from the quarterly GDP figures. Statistical techniques allow us to consider a broad range of series, from Purchasing Managers’ Indices to industrial production and retail sales. We can capture variations in these series, along with their relationship to official GDP data, over time.

However, the most useful signals Nowcasting models can provide are not their point estimates for growth. Rather, we are most interested in both how the Nowcast estimates of growth compare with economies’ potential growth rates (or trend growth as estimated by our in-house economists) - and whether the underlying pace of growth is changing over time.

Nowcasts help us to look through the ‘noise’ and track the underlying momentum in activity.

We use our Nowcasting estimates to complement our judgemental forecasts, which are based on projections of how GDP is likely to evolve in the current and following quarter. In quarters where official quarterly GDP estimates are likely to be heavily influenced by factors such as the weather, the timing of holidays, or large one-off changes in inventories or net exports, Nowcasts help us to look through the ‘noise’ and track the underlying momentum in activity. This has been particularly useful in helping us to interpret the recent disappointments in the official GDP numbers in the first quarter of 2018 across a broad range of countries. These disappointments were due in part to temporary factors such as poor weather and a particularly virulent flu season in the Eurozone.

Our Nowcasts suggest that activity has steadied overall - but without rebounding to the extent required to regain growth momentum into the second quarter. They also reveal regional variations: our US Nowcast estimate for Q2 has been tracking up in recent weeks, and remains above trend.

In contrast, our UK and Eurozone Nowcast estimates are expected to grow around trend in the quarter. And in Japan, the weakness of the first quarter looks to be lingering into the second. This reflects survey data which have shown stagnating consumer confidence and measures of economic optimism.

Some aspects of economic activity cannot be captured accurately within our framework – for example, uncertainty may cause survey data to overestimate the impact of certain situations on real economic activity. This is why we use it as a complement to - rather than a substitute for - our bottom-up economic forecasts. Comparing the trends revealed by the Nowcasts with our judgemental forecasts, we are more optimistic on the ability of developed markets to recover from the Q1 weakness than indicated by our Nowcasting framework.

Looking into the second half of 2018, the Nowcasting estimates for the third quarter - which are simple extrapolations of current trends, since no data have yet been published for the quarter - indicate a steadying of growth in the US, UK and Eurozone, improvements in Japan and a slight slowdown in emerging markets.

Nowcasting is a key part of our toolkit. It helps us to assess the economic climate, providing both an early warning of slowing momentum and deviations from official estimates of growth. For now, however, our judgemental forecasts and Nowcasts both suggest that, whilst economic momentum may have slowed into 2018, we are still optimstic that the drivers of a decent pace of global growth remain in place.

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