Economic growth trimmed on business, consumer spending

Lucia Mutikani

WASHINGTON

WASHINGTON (Reuters) - U.S. economic growth was slower than previously reported in the first quarter on lower consumer spending on services, raising concerns the recovery would be too sluggish to bring down unemployment.

Gross domestic product expanded at a 2.7 percent annual rate instead of the 3 percent pace reported last month, the Commerce Department said in its final estimate on Friday.

Although the growth pace was below market expectations for a 3 percent rate, it still marked three straight quarters of expansion as the economy digs out of its worst downturn since the 1930s.

While analysts see little threat of another recession, they worry growth could prove too anemic to bring down a near 10 percent unemployment rate. Data on spending for May have pointed to a slowdown in the recovery pace.

"My concern is that the soft patch of data that we have seen through May looks like it will continue for at least another month and the economy takes half a step closer to stall speed, about two percent GDP growth," said Robert Dye, a senior economist at PNC Financial Services in Pittsburgh.

"We need to be generating growth at a minimum of two-and-a-half to three percent to generate the number of jobs we need to bring unemployment down in a way that is visible to the population."

Restoring the economy back to health is one of the key priorities for President Barack Obama, whose approval ratings have been damaged by stubbornly high unemployment.

Public dissatisfaction with the economy's performance after a record $787 billion stimulus threatens the Democratic Party's control of Congress in the November mid-term elections.

The Federal Reserve this week struck a cautious note on the economy and said the recovery was "proceeding." The U.S. central bank left overnight lending rates in a zero to 0.25 percent range and renewed its commitment to an ultra low interest rate policy.

Despite the tepid recovery pace, consumers are gradually feeling more confident in the economy. The Thomson Reuters/University of Michigan's consumer sentiment index rose to 76 in June, its highest level since January 2008, from 73.6 last month. Economists had expected a reading of 75.5.

CONSUMER SPENDING TRIMMED

Stocks on Wall Street fell as investors took a dim view of the GDP report, while the U.S. dollar dropped against the yen. Prices for U.S. government debt rose.

GDP, which measures total output within U.S. borders, has slowed from a 5.6 percent pace in the fourth quarter, when much of the lift came from government stimulus and a slowdown in the rate at which businesses were selling off inventories.

The new softer reading for the January-March period reflected a downward revision to the growth in consumer spending, which the department said rose at a 3 percent clip, not the 3.5 percent it had thought a month ago.

Spending on services was lowered to a 1.4 percent growth pace from 2 percent previously.

"Given a weaker growth path for service consumption, growth prospects for 2010 have been trimmed," said Mike Englund, chief economist at Action Economics in Boulder, Colorado.

Despite the downward revision, growth in consumer spending, which normally accounts for 70 percent of U.S. economic activity, was still double the 1.6 percent rate in the fourth quarter and the largest advance in three years.

A downward adjustment to business spending, which rose at a 2.2 percent rate instead of the 3.1 percent reported previously, also weighed on the GDP reading. Business spending had risen at a 5.3 percent pace in the fourth quarter.

A wider trade deficit and the biggest drop in spending by state and local governments since the second quarter of 1981 also restrained growth in the first quarter.

Home building also slumped after two straight quarters of growth, underscoring the fragility of the housing market's recovery from a three-year downturn.

Although a rebuilding of business inventories was a source of growth in the quarter, analysts expect the contribution from restocking to fade in the second half of the year.

Weak demand during the recession forced businesses to slash stocks to record low levels and the rise in inventories in the first quarter was the first in two years.

Excluding the boost from inventories, the economy grew at a 0.8 percent pace, far less than the 1.4 percent reported last month.

"Growth will soon slow as the rebound in world trade fades, inventory rebuilding slows and the size of the fiscal injection shrinks," said Paul Dales, a U.S. economist at Capital Economics in Toronto.

However, Dales noted that United States continued to outperform Europe, where austerity measures by some governments to cut huge budget deficits could stifle growth.

The GDP report showed after-tax corporate profits rose 5 percent in the first quarter, a much better performance than the 2.1 percent gain estimated last month. Profits increased 6.5 percent in the final three months of 2009.