Economy Shrank 0.9% Last Quarter As Experts Warn ‘Worse To Come’

Topline

The U.S. economy unexpectedly shrank for a second quarter in a row this year, according to data released Wednesday, signaling the start of a technical recession even as economists predict signs of a slowdown will only grow in the coming quarters, likely prompting the government to officially declare the economy has entered a recession.

“It doesn’t make sense that the economy would be in recession,” Fed Chair Powell said on Wednesday, … [+] even as other experts say it’s likely only a matter of time until the government officially recognizes it.

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Key Facts

The U.S. economy shrank at an annual rate of 0.9% in the second quarter despite average expectations calling for a 0.3% increase—marking the second consecutive quarter of negative gross domestic product growth and thereby signaling the economy has entered a technical recession, the Bureau of Economic Analysis reported in a first estimate released Thursday.

The government blamed the worse-than-expected figure on declines in residential investments (or home-buying), federal government spending and business inventories, but said an uptick in exports and spending helped economic activity improve from last quarter’s decline of 1.6%.

Two consecutive quarters of negative GDP growth comprise one working definition of recession, says Wells Fargo senior economist Tim Quinlan—but it’s not the official one: Instead, the definitive call is up to the National Bureau of Economic Research, which defines a recession as “a significant decline in economic activity” lasting “more than a few months.”

Quinlan points out four of the six factors the NBER relies on to declare a recession—production, income, employment and spending—continued to signal expansion through May, but he notes production appears to be “losing steam” and income gains are struggling to keep up with inflation, all while unemployment claims rise and consumers start spending less.

Like other economists, Quinlan isn’t convinced economic indicators last quarter were indicative of a current recession, but he warns the economy is slowing and “it is starting to feel like [entering one]

is only a matter of time.”

The data comes one day after Federal Reserve Chair Jerome Powell downplayed the significance of early GDP figures, which can be revised “significantly,” and said “it doesn’t make sense that the economy would be in recession” given the labor market’s strength in the first half of the year, with some 2.7 million people hired and unemployment remaining near pre-pandemic lows.

Crucial Quote

“We do not think the economy is in recession at present, but if our forecast is correct, this is not so much of a head-fake as it is a harbinger of worse to come,” says Quinlan, who argues the negative GDP growth in the first half of the year isn’t likely a function of weak underlying demand but instead due to “one-off” volatile factors such as net exports and inventories. “We expect the loud wailing of an actual recession to begin early next year,” he adds.

What To Watch For

The government will update its estimate, based on more complete data, on August 25. A third and final figure will then be released in September.

Tangent

Stocks ticked down immediately after the economic release, with the S&P 500 trading down about 0.3% by 8:40 a.m. ET, while the tech-heavy Nasdaq fell 0.7%.

Surprising Fact

Though economist projections continued to call for a return to growth in the second quarter, the Federal Reserve Bank of Atlanta’s GDPNow model late last month began signaling the start of a technical recession, pushing its GDP forecast into negative territory after economic data showed consumer spending dropped in May. “The model’s long-run track record is excellent,” say DataTrek analysts Nicholas Colas and Jessica Rabe, pointing out its average error has been just 0.3 points since the Atlanta Fed started running it in 2011. Ahead of the GDP print, the model projected the economy shrank 1.2% last quarter.

Key Background

The Fed’s withdrawal of pandemic stimulus measures and interest rate hikes this year have fueled concerns of impending recession. Earlier this month, Bank of America economists warned clients that prolonged inflation and the resulting interest rate hikes have unleashed a “worrying deterioration” in the economy, and particularly in the once-booming housing market. “The Fed has become more committed to using its tools to help restore price stability, with a willingness to accept at least some pain in the process,” they said, predicting the economy will fall into recession over the next year.