Inventories and Growth

"Does a decline in unplanned inventories always imply higher economic growth in the future?"

That all depends. Recently, 2006Q4 GDP growth in the US was revised downwards from 3.5% to 2.2%; almost half of that revision was due to a decline in inventories. In principle, if firms experience a substantial decline in unplanned inventories, we would expect those firms to seek to replenish their inventories by increasing production in future, which would increase GDP.

However, suppose the decline in inventories was largely made up of imported goods to begin with. Then the resulting increase in GDP will not be in US, but instead overseas. Such a reduction in inventories would tell us little about future US economic growth.

In some circumstances, a decline in inventories may actually suggest less growth in the US, rather than more. Suppose the decline in inventories is confined to oil and related products. The US is the largest user of oil, and demand for oil is relatively inelastic (that is, the demand curve is steep so quantities demanded do not change very much when prices change). If US inventories of oil fall, the resulting increase in world demand for oil to replenish inventories will raise the world oil price. Consumers will be spending a greater portion of their incomes on oil-related expenditures, leaving less to spend on US-made goods and services. Thus a decline in oil inventories would suggest less future economic growth in the US, not more.

Which of these is currently the case is an emprical question; I haven't tried to figure it out. This news story ( http://www.bloomberg.com/apps/news?pid=newsarchive&sid=a5phQR9mbIuQ ) suggests the decline in inventories was planned (and therefore should imply little for future growth rates in the US) while this one ( http://www.bloomberg.com/apps/news?pid=newsarchive&sid=asXGkcI1fLsg ) says oil inventories plunged last week. If the decline in oil inventories is a large part of the overall decline in inventories, this would be consistent with lower future US growth rates.