The US economy experienced a contraction in the first quarter, with GDP declining at a rate of 0.3% on a quarter-on-quarter annualized basis. This marks the first output decrease since the second quarter of 2022. Following a series of disappointing economic indicators, the consensus on growth had shifted to a negative outlook, with a significant trade deficit in goods impacting expectations.
Consumer spending, however, exceeded forecasts, rising by 1.8%. Non-residential fixed investment also showed strength, increasing by 9.8%, notably driven by a 22.5% jump in equipment investments. In contrast, government spending took a hit, dropping by 5.1%, which contributed to an overall decline of 1.4% in government expenditures.
The primary source of economic weakness was the net trade component, heavily affected by businesses stockpiling imports ahead of anticipated tariffs. Imports surged by 41.3% while exports increased by only 1.8%, resulting in a substantial negative impact of 4.8 percentage points on overall growth. This influx of imports subsequently led to a significant rise in inventories, contributing 2.25 percentage points to headline growth and likely enabling the rise in equipment investment.
Concerningly, inflation indicators were higher than expected, with the core PCE deflator increasing by 3.5%, compared to a consensus of 3.1%. This suggests a more persistent inflation issue, particularly with anticipated price hikes due to tariffs and supply disruptions later in the year. The economic landscape points towards an ongoing stagflation scenario, with weak growth and persistent inflation.
Consumer confidence surveys indicate a potential slowdown in spending as households grapple with rising costs and job market uncertainties. With continued government spending cuts and business hesitancy in investment and hiring, a cautious outlook prevails as inflation constraints limit the Federal Reserve’s immediate intervention options. The expectation is that if the Fed decides to cut interest rates later this year, they will do so aggressively.