GDP report shows U.S. economy grew 2.6% in the third quarter, but recession fears loom

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The US economy grew at an annual rate of 2.6 percent in the third quarter, marking its first increase of 2022 and a sharp turnaround after six months of contraction – despite ongoing fears that the country is facing a recession.

The gross domestic product report, released Thursday by the Bureau of Economic Analysis, revealed a more optimistic snapshot of the economy less than two weeks before the midterm elections, even as high inflation has proven to be an ongoing problem for Democrats.

“The irony is that we’re seeing the strongest growth of the year when things are actually slowing down,” said Diane Swonk, chief economist at KPMG. “There are some real cracks in the foundation. Housing construction is shrinking. The consumer slows down. GDP is growing, but not for the right reasons.”

Financial markets were mixed after the news, with the Dow Jones Industrial Average rising and the Nasdaq falling.

Although consumers were buying fewer goods, they continued to spend on health care, which helped lift the value of GDP, which summarizes the goods and services produced in the US economy. Increases in federal, state and local government spending also contributed to the gains.

But the biggest boost came from a narrowing trade deficit as American retailers import fewer items and export more goods and services like travel. That’s a sharp reversal from earlier in the year when the gap between incoming and outgoing goods was at an all-time high.

However, trade-related benefits are likely to be short-lived. Economists generally expect GDP growth to slow in the coming months as consumers and businesses continue to retreat amid rising interest rates and uncertainty. By next year, many are predicting a prolonged slump and maybe even a recession.

Other Democrats have criticized the Fed’s rate hikes

“The composition of GDP isn’t necessarily as positive as it appears on the surface,” said Jefferies Chief Financial Analyst Aneta Markowska, who expects a recession in the second half of 2023. “It’s more of a one-off boost than growth is expected to continue.”

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A number of recent indicators are pointing to a broader slowdown in the economy, particularly in the housing market. Home sales have plummeted for eight straight months and are likely to fall further as interest rates rise. And average mortgage rates on 30-year loans topped 7 percent for the first time since the early 2000s, Freddie Mac reported this week.

Meanwhile, Amazon was the latest tech giant to report disappointing earnings on Thursday. A slowdown in online sales and a weak fourth-quarter guidance sent the company’s shares down nearly 20 percent in after-hours trading. (Amazon founder Jeff Bezos owns the Washington Post.)

Still, the turnaround in GDP comes at a crucial time for Democrats, who are scrambling to allay voter concerns about the economy ahead of mid-November elections. Inflation — particularly in gas prices — has been one of the biggest policy challenges facing the White House.

Post reporters Damian Paletta and Rachel Siegal explain how economic downturns begin. (Video: Hope Davison, Drea Cornejo/The Washington Post, Photo: Michael S. Williamson/The Washington Post)

On Thursday, President Biden praised the upbeat GDP report but acknowledged that inflation remains an issue.

“Today we received further evidence that our economic recovery is moving forward,” Biden said in a statement, adding, “Our economy has added 10 million jobs, unemployment is at a 50-year low and U.S. manufacturing is booming. …Now we must make further progress on our greatest economic challenge: bringing down the high prices facing American families.”

The Republican legislature quickly hit back. Economic growth, they said, is volatile and likely to reverse in the coming months.

“Key drivers of the economy, such as investment and consumer spending, have contracted again,” said Texas Rep. Kevin Brady, the top Republican on the House Ways and Means Committee, in a statement. “These are alarming red flags for the currently stagnant economy, indicating the worst is yet to come.”

Biden touts shrinking deficit as GOP braces for spending fights

Consumer spending, which accounts for more than two-thirds of the economy, grew more slowly in the most recent quarter. Though Americans continued to see wage increases, their savings took a hit as families tried to keep up with decades of inflation. Overall prices have risen 8.2 percent over the past year, although the cost of many necessities, including groceries and petrol, have risen much more.

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Other headwinds included a slowdown in the housing market and a drop in retail sales, particularly online.

Real final sales to domestic buyers, a measure that excludes volatile components such as government spending and trade, rose slightly at an annual rate of 0.1 percent. That’s significantly lower than earlier in the year, when it rose 2.1 percent, and shows that underlying economic growth is slowing.

“We’ve seen very clearly a slowdown in consumer spending throughout the year,” said John Leer, chief economist at Morning Consult. “Due to the elevated inflation rate, there has been a rather dramatic redistribution of spending. Consumers are spending more of their wallets on groceries, gas and housing, while retiring in other areas.”

The upbeat report follows two quarters of contraction. These declines met a definition of a recession, although the official finding is made by a private group of experts. According to revised government estimates, the US economy shrank by 1.6 percent in the first quarter and by 0.6 percent in the second.

The recovery in manufacturing comes at a time when the Federal Reserve is aggressively raising interest rates in hopes of slowing growth enough to curb decades of inflation. The central bank has hiked borrowing costs five times since March and is expected to do so again next week. The longer the labor market remains tight — and inflation persists — the Fed may have to hike rates higher and longer, increasing the likelihood of a recession.

For the time being, however, new hires remain brisk and the unemployment rate is 3.5 percent, close to the historic low. And while consumers are pulling back on some items — like homes, cars and appliances — they continue to spend on travel and food, which is helping to prop up the economy.

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A number of large companies, including Bank of America, Johnson & Johnson and Lockheed Martin, have reported better-than-expected sales and earnings in recent weeks, reflecting the strength of the corporate sector. However, many leaders say they are bracing for the uncertainty ahead as inflation and higher interest rates drag through household budgets.

At McDonald’s, for example, customers buy fewer items per transaction and switch from meals to cheaper items. Executives there said this week they expect a “mild to moderate” recession in the United States and a deeper one in Europe.

“It goes without saying that we are facing global macroeconomic challenges that we have not experienced in many years,” Ian Borden, the company’s chief financial officer, said in a earnings call on Wednesday. “Inflationary pressures and associated central bank rate hikes are combined to put significant pressure on consumers and our industry.”

As the Fed fights inflation, concerns are growing that it is over-correcting

Other business owners say they are yet to see any changes in consumer behavior. Smaller farms in particular say they are still struggling to find enough workers and are doing everything they can to keep the existing ones, even if demand falls slightly.

After an early pandemic lull, business is booming at Stowe Mercantile in Stowe, Vt. Owner Marc Sherman hired two employees last month to keep up with strong sales at his general stores.

Now he’s hoping the momentum will carry through the holiday and ski season and into the quieter months of winter and spring. His plan is to keep as many staff as possible, even as tourism slows, so he doesn’t have to find and retrain new staff by the summer.

“Our sales are strong as always and we have a solid workforce so the increased sales support the increase in all of those wages,” Sherman said. “At the same time, we have not noticed any real slowdown. The drumbeat for a recession seems to be getting louder by the week and yet we see nothing in our business.”

Rachel Siegel contributed to this report.

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