Summary
Highlights
The government announced a 2.1% Q1 GDP growth, but this figure is misleading. Despite the 'beat' against Wall Street forecasts, job numbers show a significant decline, with 57,000 non-farm payroll jobs shed in June, falling short of the 110,000 forecast. Key sectors like leisure and hospitality saw job losses, and prior months' figures were revised down, indicating that the reported economic growth does not align with employment trends.
The upward revision of GDP from 1.6% to 2.1% was not due to stronger demand but a downward revision of imports, which mechanically boosts the GDP headline. Consumer spending, making up 70% of the economy, grew at a mere 0.5%, the slowest pace in four years. The primary driver of Q1 GDP growth was the information sector, specifically investment in computers and peripheral equipment for AI data centers, which grew at an annualized rate of 67.4%. AI-adjacent capital spending contributed approximately three-quarters of all headline GDP growth.
AI infrastructure spending now constitutes about 1.5% of total US GDP, surpassing even the dot-com boom's IT spending contribution. However, sectors employing mainstream Americans like retail trade, wholesale trade, and finance are contracting. This growth is concentrated in a few states and does not generate broad employment. If AI-adjacent investment is excluded, Q1 GDP growth would have been approximately 1%, highlighting the illusion of overall economic expansion.
Gross Domestic Income (GDI), which measures what workers and businesses earn, grew at only 1.2% in Q1. A significant divergence between GDP and GDI historically indicates GDI is the more accurate measure. The current divergence between 0.5% household spending growth and 67% AI capital expenditure growth is unsustainable. When the AI capital expenditure cycle plateaus, the underlying weak economy will become evident, characterized by declining consumer savings, poor job growth, and contracting manufacturing and retail sectors.
Investors should monitor Q2 GDP estimates, tech earnings capex guidance, and real wages. If AI capital expenditure moderates and consumer spending remains weak in Q2, the headline GDP number will likely fall. Downward revisions in capex guidance from major tech companies will expose the economic illusion. Real average hourly earnings declined by 0.1% due to inflation, indicating that consumers are falling behind, a trend unlikely to be reversed by current job growth figures.