Expectations Remain Optimistic Following First Quarter Setback

Written by Christian Stellakis, GEI Associate

Recent data by the Bureau of Economic Analysis shows that the United States’ economy contracted for the first time in three years in the first quarter of 2014. The US GDP decreased both significantly and unexpectedly, erasing previous economic progress by shrinking at a 1 percent annual rate relative to the fourth quarter of 2013. The decline in GDP, though substantially worse than the BEA’s previous estimate of a 0.1 percent increase, has done little to discourage optimism in both consumers and economic experts. Despite the slowdown, confidence remains high that the United States is on the path to sustained recovery.

According to many analysts, the United States’ recently poor economic performance is not a harbinger for an inevitable financial downturn. Beth Ann Bovino, the US chief economist at Standard & Poor’s Rating Service, expressed these exact sentiments:

“Nobody likes to see a negative for growth, but it doesn’t change my expectation that the economy is recovering at a nice pace. I call it a recovery delayed.”

Rather than signaling another recession, the sudden economic slump is believed to be the result of unfortunate, yet ephemeral, circumstances.

The first of those circumstances was the quarter’s exceedingly poor weather conditions. The excess of snow and the bitter cold slowed the already-tentative recovery. The inclement weather led to a 7.5 percent decline in structural investment, as construction workers struggled to work effectively in the frigid temperatures.

Additionally, the intense cold caused the accumulation of ice within the Great Lakes, crippling the construction industry’s ability to transport materials efficiently. While the unusually severe weather conditions placed a damper on the economy for the first quarter of 2014, the negative consequences, like the weather itself, are unlikely to persist. In fact, many economists expect GDP to rebound in the coming quarters as conditions stabilize. Addressing this issue directly, PNC Chief Economist Stuart Hoffman opined,

“I expect real GDP growth to settle back down to near a 2.8 percent annual rate in the second half of this year.”

A drop in private inventory investment was another major factor that contributed to the decline in GDP.  Business inventories, largely overstocked since the fourth quarter of 2013, were allowed to diminish as companies invested less money into maintaining their stocks.  This drop in investment, which allowed businesses to stabilize their inventories after the last year’s surplus, may actually bode well for future investment. “The economy is in the process of reaccelerating,” stated David Rosenberg, chief economist and strategist at Gluskin Sheff & Associates. The businesses’ dwindling inventories provide an incentive for companies to accelerate the rate of their inventory accumulation for the second quarter of 2014. Investment is likely to rebound as firms rebuild and adjust their inventories to meet consumer demand.

More than just the economic analysts, the consumers themselves seem to be undeterred by the faltering economy. The Consumer Confidence Index rose to 83 in May, up 1.3 percentage points from April. Despite bad economic news, United States consumers are more optimistic about the future than they were in the month prior. These positive expectations may, in fact, become a self-fulfilling prophesy. Real personal consumption expenditures was revised up for the first quarter of 2014, surpassing the advance estimate of 3 percent to a total increase of 3.1 percent. Since private consumption accounts for approximately 70 percent of GDP, the momentum building behind consumer spending signals that the economy will recover in the second quarter of 2014. Although the official estimate from the Commerce Department will not be released until the end of July, the economic forecasting firm Macroeconomic Advisors predicted the economy will bounce back the second quarter of 2014, with GDP expanding at a 4 percent annual rate.

The nation’s declining GDP, while most likely only a temporary setback, highlights the frailty of the United States’ economic recovery.  According to
Robert Hall, the chairman of the National Bureau of Economic Research:

“The probability of going negative is much higher when the economy is growing slowly and the growth rate is close to zero even before the hiccup.“

This economic setback, coupled with the anemic recovery since the Great Recession, could prove troublesome for President Barack Obama and fellow Democrats. With midterm elections approaching this November, voters may decide that new leadership is required to fix the faltering economy. While the economic consequences of the drop in GDP are likely to be minimal and short-lived, the political implications of an economic contraction could be anything but.

Sources

• US consumer confidence at 83.0 in May, matching expectations (CNBC.com staff, CNBC, 27 May 2014)

• U.S. GDP Dropped 1% In The First Quarter 2014, Down From First Estimate (Samantha Sharf, Forbes, 29 May 2014)

• Why the GDP Drop Is Good for the U.S. Economic Outlook (Peter Coy, BloombergBusinessWeek, 29 May 2014)

• Economy Shrank, U.S. Now Says (Ben Leubsdorf, The Wall Street Journal, 29 May 2014)

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