Economy may be growing faster than GDP data shows

WASHINGTON (Reuters) - Signs of unexpected vigor in the job market are among several factors that may mean the economy may be performing better than gross domestic product data suggests.

Over the past several weeks, the number of Americans joining unemployment lines has steadily fallen. A four-week moving average of initial weekly filings for jobless benefits has now fallen back to where it stood more than a year ago.

That strength in the labor market, which suggests an easing in the pace of lay-offs, has joined a list of other indicators, including a rally in the U.S. stock market, that have analysts puzzling over the true health of the economy.

"We may actually be underestimating economic growth," said Bernard Baumohl, managing director of the Economic Outlook Group in Princeton Junction, New Jersey.

According to the government's main measure of U.S. output, GDP, the economy inched ahead at an anemic 1.3 percent annual rate in the first quarter, after expanding 3.3 percent in 2006.

But the meager increase in U.S. GDP in the first three months of this year comes against a backdrop of other data showing a pickup in manufacturing, steady hiring, strong corporate profits, and stable worker income growth.

Even Federal Reserve officials are puzzled and say the indicator mismatch is making their job in setting interest rates more difficult.

San Francisco Federal Reserve Bank President Janet Yellen is among economists who now wonder whether a look at incomes is a better gauge of the economy's health.

A big gap has opened between the growth of GDP, the standard yardstick of economic activity, and gross domestic income or GDI, which measures the economy in terms of the income derived from wages and salaries, in addition to profits.

Over the course of last year, the year-over-year growth rate of nominal GDI was on average 0.5 percentage points higher than the growth of nominal GDP.

Further complicating the Fed's task are difficulties the government faces in assessing how quickly the huge U.S. service sector is expanding.

"In our efforts to assess the speed limit and engine temperature of the economy, we have plenty of gauges on our dashboard that we can use for evaluating the manufacturing sector," Dallas Fed President Richard Fisher said this week.

"Yet we are deprived of similarly reliable gauges for measuring capacity utilization and other dynamics of the service sector," he said.

MANUFACTURING UP

While the nation's housing sector is still struggling, the U.S. manufacturing sector appears to be coming back to life, suggesting overall economic growth is improving.

The Fed said on Wednesday that factory production rose 0.5 percent in April after a 0.6 percent gain in March, cutting into the sector's untapped productive capacity.

That dovetailed with a gauge of April factory activity from the Institute for Supply Management, which hit its highest level since May of last year.

"I think we're going to see growth back up in the 3 percent range in the second half of this year," said Mark Vitner, economist at Wachovia in Charlotte.

Some economists warn that if income measures are correct, Fed officials may need to keep their sights on the risk that inflation could accelerate.

"Since growth may be understated by as much as 0.5 percent, it would suggest that markets should expect continued inflation pressures," wrote Ethan Harris, an economist at Lehman Brothers in New York.

The Fed's interest-rate setting Federal Open Market Committee is expected to hold interest rates steady when its next meets on June 27-28, but financial markets see a chance the central bank will lower interest rates by year end.