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Kimberly Amadeo

Economy Contracts in Q4, But Don't Be Alarmed

By January 30, 2013

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The initial estimate of GDP growth for the fourth quarter 2012 (October -December) was an alarming drop of .1%. This is the first time the economy contracted since the 2008 financial crisis.

Does this mean we are headed for a double-dip recession? Possibly, if the economy also contracts in the first quarter 2013 (January-March). However, the chances of this happening are highly unlikely, for three reasons.

  1. This is an initial estimate. The Bureau of Economic Analysis will issue two more revisions in the next two months. I would bet that it will revise growth up.
  2. Most of the drop was due to a cutback in Federal defense spending.
  3. The fourth quarter was plagued by uncertainty from the fiscal cliff and the Presidential election.

There are reasons for concern, however, since this was a dramatic drop from the 3.1% growth rate in the third quarter.  Furthermore, growth could be slowed this quarter by Obamacare taxes and the fiscal cliff deal, which ended the 2% payroll tax cut. Furthermore, an economic contraction is NEVER a good thing.

It's just that the good outweighs the bad in the GDP report. Residential investment (housing construction) was up 15.3%. Spending on big-ticket items, also known as durable goods, was up across the board:  consumer spending on dishwashers and furniture, was up 13.9%, while business spending on equipment and softwarewas up 12.4%. This growth in three important legs of the economic tripod outweighs a one-time downturn in defense spending. It means that Main Street is chugging away, despite what's happening on Pennsylvania Avenue.  (Source: BEA, GDP Advance Estimate, January 30, 2013)

What It Means to You

This bull market has overcome all kinds of headwinds. The Dow is now near its all-time high. Stock investors are not likely to want to miss being there when it happens, which it will sometime in the next six months if not sooner. Even if there's a pull-back, it will be temporary.This means that plenty of money is flowing into corporate coffers. And that's the most important point.

Businesses will continue to invest, now that they know what the tax rates will be for the year. In those markets where real estate has recovered, it's taking off like horses to the barn. Commercial real estate will follow sometime soon The markers for a solid economic recovery are finally in place. By Q2 2013, if not sooner, the ideal GDP growth rate will once again prevail.

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