U.S. economy goes into reverse in Q1, shrinks at 0.7% pace

The U.S. economy went into reverse in the first three months of this year as a severe winter and a widening trade deficit took a harsher toll than initially estimated.

The overall economy as measured by the gross domestic product contracted at an annual rate of 0.7 percent in the January-March period, the Commerce Department reported Friday.

The revised figure, even weaker than the government's initial estimate of a 0.2 percent growth rate, reflects a bigger trade gap and slower consumer spending. It marked the first decline since a 2.1 percent contraction in the first three months of 2014, a slump that was also blamed on winter weather.

Rebound expected

Economists expect a rebound in the current quarter to growth of around 2 percent and expect the economy to strengthen later this year.

Much of the new-found weakness came from a widening trade deficit, reflecting weaker exports and a bigger jump in imports than first estimated. Trade subtracted 1.9 percentage point from growth, up from the 1.25 percentage point drag initially estimated. American manufacturers are struggling with a stronger dollar, which hurts exports by making their goods more expensive on overseas markets and makes foreign goods cheaper for American consumers.

Consumer spending, which accounts for about 70 percent of economic activity, slowed to growth of just 1.8 percent in the first quarter, slightly below the 1.9 percent growth initially estimated. The government said consumers spent less on their cell phone services than first thought.

One of the biggest hits to the economy in the first quarter came from huge cutbacks in drilling activity by energy companies, a fallout from the big drop in oil prices over the past year. The government said that investment in the category that covers energy exploration plunged at a rate of 48.6 percent, the biggest drop since spring of 2009, when the country was still in recession.

We got hit with a double-whammy in the first quarter- Sung Won Sohn

Though falling GDP can be a sign of a recession, economists see little cause for concern with the first quarter drop. They are forecasting solid GDP growth the rest of the year, with steady job gains propelling the economy. A harsh winter is gone. So is a labor dispute that slowed trade at West Coast ports. Home sales and construction are rebounding. Business investment is picking up.

Many economists also suspect that the government's calculations have tended to underestimate growth in the first quarter of each year. The GDP has contracted in three quarters since the recession ended six years ago and all three declines came in the first quarter of the year.

While there is optimism that growth will revive as the year progresses, some sectors of the economy do remain subpar. Energy drillers, for example, have been damaged by persistently low energy prices and are still cutting jobs and slowing production, weakness that is expected to persist in the current quarter. The rise in the dollar is still making U.S. manufactured goods pricier overseas.

Gas prices a factor

Yet the outlook has brightened considerably since winter. Most economists expect lower gas prices eventually to accelerate consumer spending, the main fuel for the economy.

Analysts generally foresee the economy growing at an annual rate of 2 percent to 2.5 percent in the current April-June quarter, with further strengthening later in the year.

"We got hit with a double-whammy in the first quarter," said Sung Won Sohn, an economics professor at California State University, Channel Islands. "We had a lot of adverse factors, from the harsh weather and consumers unwilling to spend their gas savings to a stronger dollar and weak economies overseas making the trade deficit larger."

So far, most consumers haven't used their gasoline savings to spend much more on other goods and services. The average U.S. pump price reached $2.03 a gallon in January, the lowest level in eight years. Though the average has risen back to $2.74, according to AAA, that's still nearly a dollar below its point a year ago.

"Even with the recent rise in gas prices, they are still well below the levels of a year ago, and eventually consumers will start spending those savings," said Joel Naroff, chief economist at Naroff Economic Advisors. "We are already seeing gains in restaurant sales."

Analysts also say that steadily solid hiring, which has helped cut the unemployment rate to a seven-year low of 5.4 percent, will continue to put money in more people's hands and fuel spending gains.

Some of the first quarter weakness may be revised away by government statisticians, who are studying whether their methods for making seasonal adjustments tend to overstate slowdowns during winter. The Bureau of Economic Analysis has said some adjustments will be reflected in the annual updates to economic growth it will issue in June.

Mark Zandi, chief economist at Moody's Analytics, said he expects growth to reach an annual rate of around 3.5 percent in the second half of the year on the strength of job growth and consumer spending. For the full year, Zandi foresees growth of around 2.5 percent, roughly equal to last year's 2.4 percent.

Before the first quarter pullback, many economists had thought growth for the full year might hit 3.5 percent. That would have been the best showing in a decade and evidence that the economy had broken out of the subpar pace that's marked the first six years of the recovery.

Still, Zandi said he thinks "we are on track to get to full employment"- a roughly 5 percent jobless rate - "by this time next year, something we haven't seen in a decade."