Economic Indicators | Economic Growth

Consumption spending falls for first time in 17 years: Economy shrinks two of last four quarters

According to a Commerce Department report released today, U.S. gross domestic product (GDP) contracted 0.3% in the third quarter of 2008, following growth of 2.8% in the previous quarter. This marks the second quarter of negative growth in the past year and should settle any lingering debates about whether or not the U.S. economy is in recession.

Today’s contraction was led by a sharp fall in consumption spending, which fell by 3.1%, its first outright decline since 1991.

Besides the fall in consumer spending, perhaps the next most worrisome aspect of today’s report was further contraction in business investment in equipment and software, which contracted for the third straight quarter, falling 5.5%.

Residential investment fell for the 11th straight quarter and at a faster rate than the previous quarter (19% versus 13%).

Net exports contributed over 1% to growth in the third quarter, as 6% export growth was accompanied by a 2% fall in imports. The ability of U.S. exports to grow in the face of a slowdown in the global economy is in serious question, however, so net exports probably will not provide such large contributions to growth in the coming year.

A very large contribution in the third quarter came from federal defense spending, which grew by 18.1% and contributed 0.9% to growth. Overall federal spending grew 13.8% and contributed just under 1% to growth. State and local government spending, however, slowed to a crawl, growing at just 1.4% and adding less than 0.2% to growth this quarter. Given widely publicized budget shortfalls in many states, aid to state and local governments should be a top priority for any stimulus package if we are to avoid them becoming an outright drag on growth in the coming year.

Losses in the job market (760,000 since January) have predictably led to losses in aggregate measures of labor income evidenced in today’s report. Inflation-adjusted measures of economy-wide labor compensation have contracted for three straight quarters. Further, the rate of decline is accelerating; this quarter’s 2% fall follows a 1% fall in the second quarter and just under zero growth in the first.

Some of this weakness could be seen in figures on final sales to domestic purchasers, a measure of domestic demand strength (essentially removing the influence of exports and inventories). These sales contracted by almost 2% in the quarter, and the small year-over-year contraction in domestic demand is, like consumer spending, the first in 17 years. These trends in labor income and domestic demand weakness do not bode well for recovery in consumer spending anytime soon.

Lastly, year-over-year growth in the market-based “core” measure of inflation (excluding food and energy) remained moderate this quarter, rising by 2.2%.

See related work on Recession/stimulus | GDP

See more work by Josh Bivens