Was that 2Q GDP Number Phony?

A low inflation estimate has caused many economists to wonder just that.

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There has been lots of controversy about last week's GDP report since government statistics showed inflation to be a skimpy 1.1 percent vs. a 4 or 5 percent rise in topline inflation as measured by consumer prices. Wouldn't a more realistic inflation measure have more than wiped out a reported 1.9 percent rise in GDP?

Here are two takes on the issue that show such a calculation isn't as straightforward as it might appear. First up is economist Brian Wesbury:

The reason the government's estimate of GDP inflation was so low was because of the way the data is calculated. GDP = Consumption + Investment + Gov't Spending + Exports - (minus) Imports. So, the argument goes, the absurdly low 1.1% GDP inflation was just a technical artifact of the way the government calculates GDP. Deflating nominal GDP with a 4% inflation rate, calculated by including the 28% jump in import prices, would push Q2 real GDP into negative territory. For pessimists, this is an appealing argument. Fortunately, it's not true. If import prices are added back into inflation, then the total dollar volume of imports must be added back into nominal GDP as well. This is the only way to compare apples to apples. Adding back imports pushes nominal GDP growth to 5.5% at an annual rate in Q2. Then, using the 4% inflation data (that includes import prices) means real GDP growth was still positive by 1.5%, or so.

And this from the folks over at Action Economics:

Note that the chain price index is designed to gauge price swings for domestic production versus domestic sales, even though the monthly inflation gauges all measure prices for domestic sales activity. Because of this, rising oil import prices are actually "subtracted" from chain prices, while the price of the final energy-related products sold in the U.S. are added to chain price gains to leave price gains that effectively only add the price of the value added within the U.S. Since refiners hedge oil price exposure to different degrees in different quarters, gasoline prices don't necessarily rise at the same time as oil prices, leaving volatile swings in the GDP chain price index.

I should note that the Action Economic team is predicting the next GDP report will show a 4.3 percent inflation rate along with a 2.2 percent GDP gain, even adjusted for the higher inflation number.