The US economy is shrinking. Don’t panic 2022-04-28 11:44:34

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Gross domestic product unexpectedly fell at an annual rate of 1.4% during the first three months of the year – the worst quarter for the US economy since the pandemic turned the world upside down in the spring of 2020.

However, economists say Thursday’s ugly – and confusing – GDP report is neither a cause for panic, nor a harbinger of an immediate recession. It has been distorted by temporary factors, most notably the massive trade deficit due to supply disruptions, which mask the underlying strength in the economy.

“The negative GDP number is a surprise, but it’s not a substantial number,” Mark Zandi, chief economist at Moody’s Analytics told CNN in an email. “The economy continues to grow strongly and at a steady pace, reducing unemployment.”

The US economy will return to growth during the second quarter, according to RSM chief economist Joe Brusolas. “Without a doubt,” he said.

“This is noise, not a signal,” Pantheon Chief Economist Ian Shepherdson, Pantheon Chief Economist, wrote in a report. “The economy does not fall into a recession.”

Consumers and businesses spend

Although the headline GDP figure was bleak, there were clear bright spots under the hood.

Consumer spending – the main driver of the US economy – accelerated during the first three months of the year. Personal consumption expenditures increased at a seasonally adjusted annual rate of 2.7%, compared to 2.5% during the fourth quarter of last year.

Companies also spend on plant, equipment, software, and investments that boost productivity. Business investment jumped at an annualized rate of 9.2% in the first quarter from 2.9% during the fourth.

“Despite a drop in GDP in the first quarter, the US economy is not in a recession. Underlying demand remains strong, and the labor market is in excellent shape,” PNC Chief Economist Gus Foucher wrote in a report. “Growth will resume in the second quarter.”

Trade makes GDP negative

However, many of the pluses have been offset by one-time factors.

In particular, imports rose significantly during the first quarter as US supply failed to meet rising demand. The widening trade gap has subtracted 2.5 percentage points from GDP.

This means that “increased imports accounted for more than all of the decline in GDP,” Goldman Sachs said in a note, adding that this “likely reflects strong domestic demand” as well as some Ukraine-related imports.

Beyond trade, GDP was slashed by Covid as Omicron closed businesses and some pandemic relief for businesses and households fell or stopped altogether.

Another factor: Companies added to their inventory, but at a slower than the unsustainable pace of the fourth quarter of last year. This is subtracted from GDP as well.

“I’m not worried about a recession,” President Joe Biden said Thursday, acknowledging the latest GDP report. “We also saw, in the last quarter, consumer spending, business investment, and residential investment increasing at significant rates for both leisure as well as hard products.”

“I think … what you’re seeing is tremendous growth in the country that’s been affected by everything from Covid and the Covid obstacles that have occurred along the way,” he said.

Inflation, war, and lockdowns are risks

Although the GDP report is not a reason to panic about today’s economy, risks loom, and the chance of a recession in 2023 or 2024 has increased.

The bigger problem is that inflation is too high, raising the specter of a boom-to-bust scenario. Worse, expectations of a price calm have been overshadowed by the Covid lockdowns in China and the war in Ukraine.

High inflation has forced the Federal Reserve to consider the largest interest rate hike since 2000, which means borrowing costs for mortgages, credit cards and auto loans will rise. Those looming increases are meant to slow the economy.

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