US economy shrank by 2.9 percent in Q1, but spring rebound predicted

The U.S. economy contracted at a much quicker pace in the first quarter of the year than previously estimated, turning in one of its worst performances outside of a recession. The economic data represents a setback to the recovery, but one thought likely to be only temporary amid signs of rebounding growth in the spring months.

The Commerce Department said on Wednesday that gross domestic product (GDP) fell at a 2.9 percent annual rate, the sharpest decline in five years, and a downward revision from the government's previous estimate of a 1 percent contraction.

"It's a scary report. It sounds worrisome, but keep in mind job growth is running 200,000 each of the last four months— so we aren't just whistling in the dark in our optimism over the outlook," said Chris Rupkey, chief financial economist at Bank of Tokyo-Mitsubishi UFJ in New York.

Even so, most economists had expected the revision to show the economy shrinking at a rate of around 1.7 percent. Given the sharp downgrade, growth this year could struggle to reach 2 percent overall.

Dean Baker, co-director of the Center for Economic and Policy Research, said that it now looks “unlikely" that the U.S. will see strong growth in 2014.

“We will get a bounce-back in the second quarter…but it’s not going to make up for a minus 2.9,” Baker told Al Jazeera.

Baker himself said that he somewhat optimistically thought the U.S. GDP could grow by as much as 3 percent by year-end, but given the first quarter number, the more realistic scenario is that growth will be closer to 2 percent, which was "not a good story," as he put it.   

In the first quarter, growth in consumer spending, which accounts for more than two-thirds of U.S. economic activity, was lowered to a 1 percent rate from a 3.1 percent pace. Exports fell at an 8.9 percent rate, the biggest drop in five years, instead of a 6 percent pace. That resulted in a trade deficit that sliced off 1.53 percentage points from GDP growth.

“It could well have been the weather,” said Baker. “Maybe we didn’t move as much stuff to ports as we would have otherwise. In any case, I’m quite certain we’re not going to see a big falloff in exports again in the second quarter.”

Other drags to first-quarter growth included a slow pace of inventory accumulation, a sharp drop in investment in non-residential structures such as gas drilling, and weak government spending on defense.

Businesses accumulated $45.9 billion worth of inventories (sellable goods), a bit less than the $49.0 billion estimated last month and well below the fourth-quarter pace. Inventories subtracted 1.7 percentage points from first-quarter growth, but should be a boost to second-quarter growth.

The latest GDP revision also reflected a weaker pace of health care spending than previously assumed, which led to a cut in the figure for consumer spending to show the slowest rise since the fourth quarter of 2009. 

Though such a sharp decline would typically stoke fears of another recession (two consecutive quarters of negative growth), analysts see it as short-lived. They say the economy is rebounding in the April-June quarter.

Reports on consumer spending, manufacturing and business investment have shown a solid rebound this spring. Orders for big-ticket manufactured goods, excluding military hardware, and for core capital goods, a proxy for business investment, rose strongly in May, a report Wednesday showed.

The economy grew at a 2.6 percent pace in the final three months of 2013, and second-quarter growth estimates range as high as a 4 percent rate. The lofty growth expectations were supported by other data on Wednesday showing activity in the services sector hitting a 4-1/2-year high in June.

"We have ample evidence that the first quarter was just a temporary setback for the economy, and we are climbing out of the hole in the current quarter," said Stuart Hoffman, chief economist at PNC Financial.

Jason Furman, Chairman of the Council of Economic Advisers, who advises the White House on matters of the economy, released a statement Wednesday that addressed the downward revision. 

"The GDP data can be volatile from quarter to quarter; a range of other data show a more positive picture for the first quarter, and more up-to-date indicators from April and May suggest that the economy is on track for a rebound in the second quarter," the statement read. 

Indeed, Baker noted that new home sales and existing home sales were some of the best seen in a number of years and added that retail sales were also good. However, he said that while those sectors were seeing "healthy growth," none of them were really "booming."   

"We’ll definitely see a bounce-back, but I don’t get carried away with saying we’re really going to see very robust growth either in the second quarter or the rest of 2014," Baker said.

Philip J. Victor contributed to this report, with wire services.