The economyThe little dipper

With luck, the fourth quarter was an aberrationFeb 2nd 2013 |From the print edition

IT IS is hardly news that America’s economic recovery has been sluggish. After all, last year’s presidential election was waged largely over the issue. Yet it still came as a shock to most forecasters, let alone the public, when the government reported on January 30th that the economy actually shrank in the fourth quarter, for the first time since the recession ended in mid-2009.

The decline in gross domestic product, at 0.1%, was slight, and could easily be revised away. The swing in growth from a healthy 3.1% in the third quarter was down to several components whose behaviour probably says little about the future. Private stock-building fell sharply, subtracting 1.3 percentage points from growth. Federal defence spending, which had surged in the third quarter, fell back sharply in the fourth, wiping out another 1.3 points.

Defence spending is always lumpy (planes and destroyers are not purchased on a daily basis), but its behaviour recently has been especially strange. Ben Herzon of Macroeconomic Advisers, a consultancy, said the fluctuations were concentrated in contracts for installation, weapons and personnel support services, which rose by the largest on record in the third quarter and fell by the largest on record in the fourth. Finally, exports fell, a victim of the febrile state of the global economy.

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There had been widespread fears a few months ago that business investment and consumer spending would crumble as the fiscal cliff, a collection of steep year-end tax increases and spending cuts, approached. Yet Mr Herzon notes those were in fact the strongest sectors of the economy, growing at a combined brisk 3.3% rate, faster than in the third quarter. Housing construction and machinery investment were especially robust. The “underlying acceleration in private domestic consumption is the silver lining,” he said. More timely indicators such as first-time claims for unemployment benefits and the stock market show, if anything, an increase in momentum. The Federal Reserve, which wrapped up a meeting on January 30th, blamed the “pause” in growth on “weather-related disruptions and other transitory factors.” (Superstorm Sandy, which devastated parts of New Jersey and New York in October is a case in point.) Employment growth in the last year has been much more stable than GDP (see chart).

Yet it would be unwise to dismiss the fourth-quarter weakness as pure anomaly. Economists did the same when Britain’s economy posted a surprise contraction at the end of 2010. Yet within a year Britain was back in recession and with another surprisingly large contraction last quarter, may be once again. While America is almost certainly not slipping back into recession, the ease with which special factors tipped it into negative territory is a reminder of the recovery’s underlying fragility.

It already faces several challenges. While the biggest part of the fiscal cliff was averted, a temporary payroll tax cut and George W. Bush’s tax cuts on the rich have still expired, which has harmed consumer confidence. In March automatic federal spending cuts, worth some $85 billion this year, kick in if Congress and president cannot agree on delaying or replacing them,

which is looking increasingly unlikely. Those factors together represent fiscal drag worth some 1.5% of GDP this calendar year.

The Fed, meanwhile, still sees “downside risks” to the economy, and consequently said it would keep buying $85 billion of bonds per month with newly created money until the labour market improves “substantially.” The strategy is not without risks. Esther George, president of the Kansas City Federal Reserve Bank, dissented, out of concern the Fed was fostering future “imbalances.” Her colleagues, contemplating the GDP news, evidently consider that the lesser of two evils.

From the print edition: United States