U.S. ECONOMY : CONTRACTION SLOWS AS "SLUGGISH" RECOVERY BECKONS / BLOOMBERG

U.S. Economy: Contraction Slows as ‘Sluggish’ Recovery Beckons

By Shobhana Chandra

July 31 (Bloomberg) -- The worst U.S. economic slump since the Great Depression abated in the second quarter as government spending programs started to kick in, while the deepest retrenchment by consumers since 1980 augured a muted recovery.

Gross domestic product shrank at a better-than-forecast 1 percent annual pace after a 6.4 percent drop the prior three months, Commerce Department figures showed today in Washington. A survey of purchasing managers showed separately that business contracted less than estimated this month.

Stabilization in homebuilding and the liquidation of unsold goods sets the stage for gains in GDP starting this quarter, analysts said. At the same time, rising unemployment and weakening income growth threaten to erode household finances; the International Monetary Fund today said policy makers must be ready to employ further stimulus if needed.

“We’re heading to a sluggish recovery,” said Nigel Gault, chief U.S. economist at IHS Global Insight in Lexington, Massachusetts. “We’ll get more support from government programs in the second half, but if you want a strong recovery you need a stronger consumer , and we are not seeing that.”

Stocks fluctuated between gains and losses, Treasuries gained and the dollar remained lower against the euro after the report. The Standard & Poor’s 500 Stock Index was up 0.2 percent at 988.38 at 10:37 a.m. in New York. Benchmark 10-year note yields fell to 3.56 percent, from 3.61 percent late yesterday, and the dollar dropped 0.7 percent to $1.4166 per euro.

Economists’ Forecasts

The economy was forecast to shrink at a 1.5 percent pace, according to the median estimate of 78 economists surveyed by Bloomberg News.
Government spending rose at a 5.6 percent pace last quarter, the most since 2003, as President Barack Obama’s $787 billion stimulus program began to take effect. The funds are aimed at helping states retain workers, financing infrastructure projects and reducing tax payments.

Profits reported for the second quarter by companies from Caterpillar Inc. to Dow Chemical Co. have reinforced signs the slump is coming to an end. The Commerce Department’s figures today, which included benchmark revisions to past years, showed that GDP has tumbled 3.9 percent since the second quarter of last year -- the biggest drop since quarterly records began in 1947. GDP has fallen four straight quarters, the longest ever.

Worst Since 1980

Consumer spending, which accounts for about 70 percent of the economy, fell at a 1.2 percent pace following a 0.6 percent increase in the prior quarter. It was forecast to drop 0.5 percent, according to the survey median.

Purchases slid 2 percent since the peak at the end of 2007 -- the most since a 2.4 percent decline in the 1980 recession.

“It’s important to put it in perspective,” Christina Romer, who chairs the White House Council of Economic Advisers, said in a Bloomberg Television interview. “We are seeing some sign the consumer is stabilizing and, of course, the tax cut that was included in the recovery act I think is going to help consumers feel more confident.”

The IMF, in an annual review of the U.S. economic outlook, today said it anticipates a “gradual” recovery.

“If downside risks materialize, additional credit easing and a strengthened commitment to maintaining a highly accommodative monetary stance could be considered,” the IMF’s board said in a statement.

Compensation Weakens

The Labor Department reported separately today that employment costs -- a measure that includes wages, salaries and benefits -- rose 1.8 percent in the second quarter from a year before, the smallest gain in figures dating to 1982.

GDP contracted a revised 1.9 percent in the fourth quarter of 2008 from the same time the prior year, compared with the 0.8 percent drop previously on the books.

The GDP report is the first for the quarter and will be revised in August and September as more information becomes available.

The economy has lost 6.5 million jobs since the recession began in December 2007, and economists surveyed by Bloomberg this month forecast the jobless rate will exceed 10 percent by early 2010.

“The United States economy has found bottom but will be slow in recovering as unemployment continues to be a drag on consumer spending,” Andrew Liveris, chief executive officer of Midland, Michigan-based Dow, said in a statement yesterday.

Second-quarter profit at Dow and at Peoria, Illinois-based Caterpillar, topped analysts’ estimates. Caterpillar, the world’s largest maker of construction equipment, said last week that stimulus programs in countries such as China were helping stabilize sales.

Trade Deficit

The trade gap shrank last quarter, preventing a steeper decline. The gap between exports and imports fell to $339.3 billion at an annual pace from $386.5 billion.

Inventories dropped at a record $141.1 billion annual pace, after a $113.9 billion decline.
Leaner stockpiles set the stage for recovery in production.

“With inventory levels in an ultra-lean state, businesses should start adding inventories in the second half of the year as the economy begins to show signs of life,” said Ellen Zentner, senior economist at Bank of Tokyo-Mitsubishi UFJ Ltd.

Reflecting that outlook, the Institute for Supply Management-Chicago Inc. today said its business barometer increased to 43.4, the highest level since September, from 39.9 in June. Readings below 50 signal a contraction.

Auto Rebound

General Motors Co. and Chrysler Group LLC, both out of bankruptcy, are among firms set to ramp up production as government efforts lift demand.
The “cash-for-clunkers” trade-in program begun this month has spurred 16,351 new-vehicle sales so far, the Transportation Department said on July 29. The plan, which set aside $1 billion, ran through the money six days after it began, a sign of its success, Senator Debbie Stabenow said yesterday. Lawmakers had expected the program to generate about 250,000 vehicle sales and to have enough money to last to about Nov. 1.

Today’s GDP report showed the slump in business investment slowed last quarter, while residential construction kept plummeting.

Recent reports showed the housing slump, which helped trigger the financial crisis, and the decline in manufacturing have eased. Housing starts rose in June and industrial production shrank at the slowest pace in eight months, according to government reports this month.

The Federal Reserve’s preferred inflation gauge rose at a 2 percent annual pace last quarter, less than forecast. The measure, which is tied to consumer spending and strips out food and energy costs, rose at a 1.1 percent annual pace the prior quarter.

Economists project the economy will grow at an average 1.5 percent pace from July to December, according to a Bloomberg survey taken in early July.

To contact the reporter on this story: Shobhana Chandra in Washington at schandra1@bloomberg.net Last Updated: July 31, 2009 11:33 EDT