Economic Perspectives with Hopeton Hay on KAZI 88.7 FM in Austin, TX

U.S. Economy Shrinks In First Quarter But Consumer Spending Rises

Posted by Hopeton on April 30, 2009

By Dr. Christian E. Weller

It’s a rare occasion when the economy declines by 6 percent or more in any given quarter. This has only happened four times before this recession since 1947, when the Bureau of Economic Analysis started to collect these data. And, this is the first time that the U.S. economy has shrunk by more than 6 percent for two consecutive quarters since the Bureau of Economic Analysis began collecting these data. Yet that is exactly where we are today. According to estimates released by the Bureau of Economic Analysis, the economy shrank by an annual rate of 6.1 percent in the first quarter of 2009, after falling 6.3 percent in the fourth quarter of 2008.

Christian Weller

Christian Weller

Using absolute figures helps to illustrate this point. In the first quarter of 2009, the U.S. economy generated $84 billion less in economic resources than in the third quarter of 2008, before the latest contractions of the Bush recession started and before the impact of inflation is accounted for. This is a deep hole that needs to be filled before an expanding economy can once again generate enough jobs to reduce the highest unemployment rate in more than a quarter century.

It’s hard to find a silver lining amid this tale of economic woe, but one does exist. Consumers started to increase their consumption again in the first quarter of 2009, largely before the American Recovery and Reinvestment Act became law. In that period, consumption expanded at an annual rate of 2.2 percent. This is even more surprising since Americans also increased their personal saving rate to 4.2 percent at the same time, up from 3.2 percent at the end of 2008 and the highest personal saving rate in more than a decade, since the third quarter of 1998.

This silver lining may become brighter in the next few months and quarters, since the economic stimulus was largely aimed at getting consumers back on their feet. Specifically, lower taxes and more government transfers helped to boost personal after-tax incomes and consumption spending in the first quarter of 2009. Lower taxes for families and more transfer spending in the form of higher unemployment benefits, among other factors, are also at the heart of the American Recovery and Reinvestment Act of 2009. Consequently, consumer spending could see further gains in the coming months and quarters and thus help to stabilize growth and jobs.

I could twist the numbers further to show that there is another silver lining, but this next indicator falls into the category of “bad news disguised as good news.” The U.S. trade deficit fell precipitously in the first quarter of 2009 to 2.4 percent of gross domestic product, down from 3.8 percent in the fourth quarter of 2008 and its lowest level in exactly 10 years.

This sharp decline, though, should not be cause for celebration. It simply means that U.S. imports dropped much more sharply—by 34.1 percent in the first quarter of 2009 due to the very weak U.S. economy—than U.S. exports, which dropped by 30.0 percent at the same time. In fact, this was the largest decline in U.S. exports in exactly 40 years, since the first quarter of 1969. Much of the decline in imports was due to lower oil prices, which hovered around $40 per barrel for much of the first quarter of 2009, but which have also increased to an average near $50 per barrel in April 2009. Not only is the shrinking trade deficit actually a sign of a very weak U.S. economy, it may also be short lived.

The rest of the new figures are outright bad news. All sectors, including the federal government, which until now had been expanding, contracted in the first quarter of 2009. Business investment fell by 37.9 percent in the first quarter of 2009, the largest decline on record. In particular, commercial construction dropped by 44.2 percent, far exceeding the previous record contraction of 33.2 percent in the fourth quarter of 2001, when business investment suffered from the double onslaught of a recession and terrorist attacks.

The staple of bad news, the residential housing sector, also provided yet another disappointing quarter. It contracted by 38.0 percent, its largest drop in this housing market decline so far and its unprecedented 13th decline in a row. In inflation-adjusted terms, spending on residential real estate was at its lowest level since the end of 1991.

Finally, there is government spending. Federal, state, and local governments all reduced their consumption and investment spending in the first quarter of 2009. Federal government spending fell by 4.0 percent, while state and local government spending dropped by 3.9 percent in the first quarter. Again, these figures reflect a period before the economic stimulus from the American Recovery and Reinvestment Act of 2009 had become a reality. The government sector will likely see a quick turnaround, since state and local governments are already getting some money to maintain or even increase their spending, especially in health care and education.

The need for government intervention to help stabilize the economy should be apparent by now. The mixture of tax cuts and spending increases in the American Recovery and Reinvestment Act should help to maintain the resurgence in consumer spending and provide a turnaround on government spending at the local, state, and federal level. With more consumption and government spending, businesses may ultimately have an incentive again to increase their investments, too. Yet given the severity of the crisis, it will take some time until growth will be strong enough to support a sustained reduction in unemployment

Christian Weller is a Senior Fellow with the Center for American Progress and an Associate Professor for Public Policy at the University of Massachusetts-Boston. The Center for American Progress is a nonpartisan research and educational institute dedicated to promoting a strong, just and free America that ensures opportunity for all.

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