US economy slows in first quarter while inflation picks up

Washington — The US economy expanded at its slowest pace in almost two years in the first quarter amid some moderation in consumer spending and a wider trade deficit, though an acceleration in inflation reinforced expectations that the Federal Reserve wouldn’t cut interest rates before September.

The cooler-than-expected growth reported by the commerce department in its snapshot of first-quarter GDP on Thursday also reflected a slower pace of inventory accumulation by businesses and slower  government spending. Still, domestic demand remained solid, underpinned by business investment and a recovering housing market.

“This report comes in with mixed messages,” said Olu Sonola, head of economic research at Fitch. “If growth continues to slowly decelerate, but inflation strongly takes off again in the wrong direction, the expectation of a Fed interest rate cut in 2024 is starting to look increasingly more out of reach.”

GDP increased at a 1.6% annualised rate last quarter, the slowest pace since the second quarter of 2022, the commerce department’s bureau of economic analysis said. Economists surveyed had forecast GDP accelerating at a 2.4% rate, with estimates ranging from a 1% to 3.1%.

The economy grew at a 3.4% rate in the fourth quarter. The pace of growth in the first quarter is below what US central bank officials regard as the non-inflationary growth rate of 1.8%.

Still, price pressures heated up by the most in a year, with a measure of inflation in the economy increasing at a 3.1% rate after rising at a 1.9% pace in the October-December quarter.

PCE index surges

The personal consumption expenditures (PCE) price index excluding food and energy surged at a 3.7% rate — the fastest rise in nearly a year and followed a 2% pace of increase in the fourth quarter.

The core PCE price index is one of the inflation measures tracked by the Fed for its 2% target. Inflation was boosted by increases in the costs of services such as insurance and housing, which offset a decline in goods prices such as motor vehicles and parts. The strong readings pose an upside risk to March PCE inflation data due to be released on Friday.

The Fed is expected to leave its policy rate unchanged in the 5.25%-5.5% range next week, having hiked it by 525 basis points since March of 2022. It has kept the benchmark overnight rate at this level since July.

Financial markets initially expected the first rate cut to come in March, which then got pushed back to June and now to September as data on the labour market and inflation continued to surprise on the upside this year.

Stocks on Wall Street were trading lower. The dollar rose against a basket of currencies and US Treasury yields rose.

Tight labour market

A significant slowdown in the labour market isn’t evident yet. The labour department’s weekly jobless claims report showed initial claims for unemployment benefits fell 5,000 to a seasonally adjusted 207,000 in the week ending April 20.

The number of people receiving benefits after an initial week of aid, a proxy for hiring, declined by 15,000 to 1.781-million during the week ending April 13. The so-called continuing claims data covered the period during which the government surveyed households for April’s unemployment rate.

Continuing claims fell between the March and April survey periods, implying the unemployment rate was probably unchanged after dipping to 3.8% last month from 3.9% in February.

Low layoffs are keeping wages high, sustaining consumer spending, which accounts for more than two-thirds of economic activity. Consumer spending grew at a still-solid 2.5% rate, slowing from the 3.3% recorded in the October-December quarter. Spending was driven by health care, financial services and insurance, which more than offset a decline in goods, including motor vehicles and petrol.

Spending is likely to gradually cool this year. Lower-income households have depleted their pandemic savings and are largely relying on debt to fund purchases. Recent data and comments from bank executives indicate that lower-income borrowers are increasingly struggling to keep up with their loan payments.

Though income increased at a $407.1bn rate compared with the fourth quarter’s $230.2bn, the gains were eroded by inflation and higher taxes. Households disposable income after accounting for inflation and taxes rose by 1.1% compared with 2% pace in the October-December quarter.

That meant less saving. The saving rate decreased to 3.6% from 4% in the prior quarter.

Shrinking inventories

Inventories were whittled down amid the still-strong pace of consumer spending, rising by $35.4bn after increasing by $54.9bn in the fourth quarter. Inventories subtracted 0.35 percentage point from GDP growth.

Part of the spending was satiated with imports, which resulted in the trade deficit widening to $973.2bn from $918.5bn in the October-December quarter. Trade chopped off 0.86 percentage point from GDP growth.

Government spending decelerated to 1.2% from 4.6% in the October-December quarter amid a decline in federal government outlays, mostly defence.

Excluding inventories, government spending and trade, the economy grew at a 3.1% rate after expanding by 3.3% in the fourth quarter.

Domestic demand was supported by a pickup in business spending as companies invested in artificial intelligence.

Investment in nonresidential structures such factories contracted for the first time in more than year as the boost from policies by the government to bring the production of semiconductor manufacturing back to the US faded.

Residential investment recorded its fastest pace of growth since the fourth quarter of 2020, thanks to rising home sales and housing construction, despite higher mortgage rates.

Reuters