Economy Shrinks in Third Quarter; Markets Start Off Strong

Economy Shrinks in Third Quarter; Markets Start Off Strong

The U.S. economy shrank by .3 percent in the third quarter, government data released this morning shows, confirming an economic slowdown that was already showing itself through steady job losss and declining consumer sales.

The contraction was not as sharp as the .5 percent drop many analysts had predicted, and investors appeared to take comfort in that news, pushing the stock market to a strong start. After climbing more than 200 points at the open, the Dow Jones industrial average was up 86 points, or just under one percent, at 11:33 a.m. The Standard & Poor's 500 and the tech-heavy Nasdaq were both up more than one percent.

The drop in personal consumption was a particular drag on growth. Consumer spending accounts for about 70 percent of U.S. economic activity, and it dropped at a 3.1 percent annualized rate between July and September -- the biggest quarterly decline in more than 20 years.

That change alone depressed GDP by more than 2 percent.

But it was more than consumers who scaled back: Business investment fell 5.5 percent, while housing investment fell nearly 20 percent, reflecting that industry's ongoing decline.

It was in large part a jump in government spending -- at the federal, state and local levels, with a more than 18 percent annualized increase in defense spending -- that held off an even steeper decline. Overall government spending added 1.15 percent to GDP.

"Today's GDP report is weak, but it is not unexpected," White House press secretary Dana Perino said in an e-mail statement. "A number of things contributed to the slowing economy in the third quarter -- record high energy prices, housing and credit concerns, two major hurricanes, and a prolonged Boeing strike. The President is taking forceful actions to return the economy to growth and job creation by early next year. While we continue to face serious challenges, the United States remains the best place to do business, and we're positioned to bounce back."

The data released by the Commerce Department is an initial estimate of growth for the third quarter and could be changed in coming months.

Today's report marks the second time in the past year that economic growth has been negative. GDP dipped in the final quarter of 2007, crept forward slowly at the start of 2008, and surged to a 2.8 percent annualized rate in the middle of the year as a $100 billion government stimulus plan took hold.

But the impact of those tax rebates was expected to fade, and in the meantime the economy continued to shed jobs and a global credit crisis took hold.

Yesterday, the Federal Reserve unleashed its latest weapon to unlock credit by announcing a half-point cut of its key federal funds interest rate to 1 percent.

"I think that helped put a lot of the credit concerns behind us, which I think were the most acute," said Jack Ablin, senior vice president of Harris Private Bank. "Now we're faced with the economic reality and the short selling."