GDP growth misses expectations: Is Washington to blame?

The less-than-stellar economic growth comes in the wake of significant tax hikes and spending cuts

Even with the biggest increase in consumer spending, the U.S. economy falls short.
(Image credit: Peter Macdiarmid/Getty Images)

The U.S. economy picked up a little steam in the first quarter of 2013, but that growth still fell short of expectations.

Gross domestic product rose at a 2.5 percent annual rate in the first three months of the year, according to a Commerce Department report released Friday. However, economists had been predicting a 3 percent gain, raising concerns that economic growth could taper off as the year goes on and new federal policies take hold.

"It wasn't the bang-up start to the year we had hoped for, and the signals from March suggested that we will only decelerate from here into the spring trimester," Avery Shenfeld, chief economist at CIBC World Markets Economics in Toronto, told Reuters.

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Much of that pessimism is rooted in federal policy, most notably the expiration of the payroll tax cut and the automatic budget cuts that went into effect earlier this year. Combined, those policies mean less spending money for consumers and less federal outlays, both of which could sap money from the marketplace.

While there were positive signs in the report — such as a strong increase in home construction — a 4.1 percent reduction in government spending chipped away at those gains. The Commerce Department's report specifically notes that while consumer spending ticked up, that economic boost was "partly offset by negative contributions from federal government spending and state and local government spending."

A large part of that pullback comes from an 11.5 percent drop in defense spending in the first quarter of this year, following a 22.1 percent drop in the fourth quarter of 2012. As Bloombergs' Shobhana Chandra notes, defense spending plummeted faster in the last six months than during any other six-month period since the Korean War drawdown in the mid 1950s. Such drastic spending reductions may arguably help the nation get its long-term budget in order, but they certainly don't help short-term GDP growth.

Still, while legislative policy was widely blamed for last month's dismal jobs report, it's far less clear that Washington is the prime drag on the economy as a whole — at least not yet. The sequester cuts just went into effect, as did an expiration of the payroll tax holiday. It's possible that those policies did have some impact on first quarter growth, but mostly on the tail end. Retail sales began to shrink last month, a potential sign that the payroll tax holiday's expiration has just now begun to squeeze consumers. As the Wall Street Journal's Eric Morath and Sarah Portlock observe, that and other data in the Commerce report show that growth was strongest at the start of the quarter before tapering off near the end, suggesting that "at least initially, American's weren't hamstrung by a January tax increases."

But as consumers continue to feel the pinch on their wallets, and as deeper federal spending cuts kick in, that could place an even bigger weight on future economic growth.

"A larger government pullback is likely in the pipeline," says Reuters' Lucia Mutikani. "Across-the-board federal spending cuts, known as the sequester, began in March, though the impact could be more pronounced as the year progresses when agencies furlough employees and curtail contracts."

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