The U.S. economy stumbled badly in the fourth quarter of 2012, according to the Commerce Department, which reported on Wednesday that GDP shrank at an annual rate of 0.1 percent, compared with 3.1 percent growth in the third quarter. It is the first time since the second quarter of 2009 — when President Obama was just starting his first term, and the labor market was shedding hundreds of thousands of jobs per month — that the economy has contracted. By all accounts, the miserable report came as a shock to economists, with most predicting at least some growth in the fourth quarter.
What happened? The main drag on the economy was a huge dip — 15 percent — in government spending, led by the military, which cut expenditures by 22 percent. According to The Wall Street Journal, "the decline in federal spending was the largest drop since 1973." Exports were also down, a trend that was attributed to slowing growth in China and an economic malaise in Europe. Business inventories fell, which could be an indication that companies are anticipating weak sales in the future.
However, the report contained several bright spots that indicated the economy is stronger than the headline number would suggest. Consumer spending rose, a sign that Americans are opening their wallets to buy goods. Business investment in equipment and software also showed strong gains. Investment in residential investment jumped 15.3 percent, the latest evidence that the housing market is making a comeback. And a significant chunk of the economic damage could have been caused by Superstorm Sandy, which destroyed billions of dollars worth of private business assets.
Indeed, when you take into account that inventories, already a volatile measurement, were expected to decline after a big buildup in the third quarter, the report had some economists smiling. "Frankly, this is the best-looking contraction in U.S. GDP you'll ever see," Paul Ashworth, an economist at Capital Economics, told the Associated Press.
However, no matter how you slice it, a contraction means the economy simply isn't growing fast enough to significantly bring down the unemployment rate. And there are some gathering thunderclouds on the horizon. Congress recently allowed a payroll tax cut to expire, which may affect consumer spending in the first quarter of 2013. And if Congress fails to act, $1.2 trillion in across-the-board spending cuts — half of which will target the Pentagon — will begin to take effect in March.