Friday, April 26, 2013

An Initial Look at First Quarter GDP

The first estimate of first quarter GDP was released this morning and it showed that economic growth was less than the consensus estimate at 2.5% (consensus was about 3%).  The good news was that consumption rose by 3.2%, residential investment rose by 12.6%, and exports rose by 2.9%.  Why was the report weaker than expected?  Business investment rose by only 2.1% and defense spending declined by 11.5% (on top of a 22% decline in the fourth quarter of 2012).  After subtracting from growth at the end of 2012, inventories added about 1% to growth in the first quarter; subtracting inventories from GDP means that final sales rose by 1.5% in the first quarter.

How does this affect the outlook for the rest of the year?  The sluggishness in business investment indicates that businesses remain cautious and may indicate sluggishness in hiring as well (similar to  the March employment report). Though consumer spending grew at a quicker pace than any time since the end of 2010, it's unlikely to continue at that pace, given the expiration of the payroll tax cut at the beginning of this year (other data suggests that it started to hurt consumer spending late in the first quarter and that weakness will show up in the second quarter numbers).  On a more positive note, residential investment remains strong and is likely to continue to be the strongest point of the economy for the rest of 2013.  Also, it's unlikely that defense spending will continue to fall as quickly and thus will cease to be a drag on growth.

What's the key takeaways?  More of the same, but for different reasons.  The economy is likely to continue to grow at a modest pace, close to 2%.  Consumer spending will constrained by the reduction in disposable income resulting from the increase in the payroll tax.  Business investment, after rebounding strongly in 2010-2011, has grown modestly over the last year and is likely to continue on that path.  It looks like 2013 will be another year of slow recovery with modest economic growth.