Business investment rises 14.3%, most in 6 years

By Rex Nutting, MarketWatch

The U.S. economy snapped back in the first quarter, growing at an annual rate of 4.8%, the fastest growth in more than two years, the Commerce Department said Friday.

The increase in the nation's real gross domestic product was close to market expectations of a gain of 4.9%, according to the survey of economists conducted by MarketWatch.

The as-expected GDP report should have little impact on the views of growth and inflation at the Federal Reserve.

A separate report from the Labor Department showing the slowest gain in employment costs since 1999 should encourage Fed officials that labor markets are not so tight that they are contributing to wage-push inflation. In nominal terms, GDP rose to $13.02 trillion annualized.

The economy has grown 3.5% in the past four quarters. The GDP had risen just 1.7% in the fourth quarter, held back by weak consumer and capital spending. Economists say the math of GDP made the fourth quarter look worse than it really was, while the first quarter wasn't quite as strong as it appeared.

The two quarters "probably ought to be averaged to get a better grip on underlying trends," said Josh Shapiro, chief economist for MFR.

Still, the improvement in the first quarter was widespread. Business investment increased at a 14.3% rate, the fastest growth in six years. Consumer spending increased 5.5%, the most since 2003, led by a rebound in auto sales.

Final sales increased 5.4%. Final sales to domestic purchasers increased 5.9%.

Inflation moderated. The core consumer price index (excluding food and energy) retreated to a 2% annual rate from 2.4%, pushing the year-over-year gain down to 1.9%, just below the top of the Federal Reserve's target range. The price index for domestic purchases, which includes prices paid by business and government, increased 2.7% in the first quarter after 3.7% in the fourth quarter.

Disposable income rose 3.8%. The savings rate fell to negative 0.5%, the fourth consecutive quarter of negative savings.

Looking ahead, economists (including those at the Fed) expect growth to slow, while inflation accelerates mildly and temporarily. Private forecasts see growth at about 3.2% in the second quarter.

"Overall, solid domestic final demand, but the second quarter will be much weaker," said Ian Shepherdson, chief U.S. economist for High Frequency Economics. "We expect growth to slow to 3% or less, led by a sharp slowing in consumption."

Mike Englund of Action Economics is more optimistic about the second quarter. The first-quarter report "revealed robust growth in U.S. aggregate demand on the quarter that outpaced production, and that set up GDP for another solid gain in the second quarter that we tentatively estimate at 4.6%," Englund said in a note to clients.

Higher energy costs and higher interest rates will take a bite out of both consumer and business spending. A fizzling housing market will also subtract from investment and consumer spending. But economists expect continued robust business investment, as well as decent income growth to keep consumer spending rising.

The details

Consumer spending increased 5.5% in the first quarter after a 0.9% gain in the fourth. Spending on durable goods rose 20.6% (the biggest gain since 2001), compared with a 16.6% decline. Consumer spending contributed 3.8 percentage points to growth.

Purchases of motor vehicles contributed 0.6 percentage points to growth, after subtracting 1.9 percentage points in the fourth quarter.

Business investment increased 14.3% in the first quarter compared with 4.5% in the fourth. It was the fastest increase in six years. Business investment contributed 1.1 percentage points to growth.

Investments in equipment and software increased 16.4% after a 5% gain. It was the fastest growth in equipment and software investment since the first quarter of 2000. Investments in structures rose 8.6% after 3.1%.

Residential investments rose 2.6% in the first quarter after 2.8%. Investments in residences contributed 0.2 percentage points to growth.

Businesses added $21.9 billion to their inventories after adding $37.9 billion in the fourth quarter. The change in inventories subtracted 0.5 percentage points from growth. With inventories relatively lean, businesses are likely to ramp up production to meet demand and to replenish stocks to desired levels, economists say.

Imports increased 13%, while exports rose 12.1%. The trade deficit subtracted 0.8 percentage points from growth.

Government spending increased 3.9% after falling 0.8% in the fourth quarter. Federal spending rose 10.8%, with defense spending up 10.3% and nondefense spending up 11.7%. State and local government spending was flat. Government spending contributed 0.7 percentage points to growth.