The U.S. economy contracted early this year as businesses imported a massive trove of goods before President Donald Trump’s sweeping tariffs took effect, widening the trade deficit and curtailing growth.
Excluding the tariff effects, the underlying economy turned in a solid showing in the first quarter despite tumbling consumer confidence and rising business uncertainty over the import fees.
But forecasters expect the economy to slow dramatically later this year, with many predicting a mild recession, as the duties boost prices and hamper spending.
“A period of stagnation now likely lies ahead if the current set of tariffs is maintained, with recession the most likely outcome if the additional reciprocal tariffs are imposed in full in July,” Pantheon Macroeconomics wrote in a note to clients. Trump’s sweeping reciprocal levies on dozens of nations were paused for 90 days to allow for negotiations.
Is the US economy actually growing?
The nation’s gross domestic product, the value of all goods and services produced in the U.S., shrank at a seasonally adjusted annual rate of 0.3% in the January-to-March period, the Commerce Department said Wednesday. That’s down from a 2.4% increase in the third quarter and a 2.8% advance for all of 2024.
Economists surveyed by Bloomberg had projected a meager 0.4% rise in output.
Is the U.S. in a recession?
It marks the economy’s worst performance since early 2022. But the drop in output doesn’t mean the nation has slipped into a recession.
A recession is informally defined as two straight quarters of declining gross domestic product, and the pullback in activity early this year marks just one quarterly decrease. More broadly, a recession technically is considered “a significant decline in economic activity that is spread across the economy and lasts more than a few months,” according to the National Bureau of Economic Research, which calls recessions, typically many months after they begin.
Key pillars of the economy, such as consumer and business spending, performed well in the first quarter, and the slide in growth was caused by the tariff impacts.
Forecasters widely expected the import surge ahead of the tariffs — a strategy known as frontloading — to dim the first broad snapshot of the economy in Trump’s second term. But its extent surprised many analysts.
Goods imports spiked at an annual rate of 50.9% the first three months of the year and the nation’s trade deficit widened by $14 billion to a record $162 billion in March. All told, the first quarter’s yawning trade gap subtracted about 5 percentage points from economic growth.
While imports should translate to overflowing business stockpiles that lift growth, that offsetting effect may take a few months to play out, said economist Michael Pearce, of Oxford Economics. Since companies pulled forward their imports, much of the effect will likely be reversed in the current quarter, helping lift growth, said economist Paul Ashworth, of Capital Economics.
A more telling economic gauge that captures consumer and business spending but strips out trade, inventories and government outlays — called final sales to private domestic purchasers — grew at a sturdy 3.9% annual rate.
Yet many experts figure the economy will stagnate within a few months and a growing share foresee a recession by the second half of 2025. They cite Trump’s tariffs as well as his sweeping federal layoffs and deportations of hundreds of thousands of migrants who lack permanent legal status.
Are people spending less money right now?
Consumer spending softened, increasing 1.8%, down from a 4% rise in the fourth quarter, but it was a decent performance in light of stock market turmoil and poor weather early in the quarter. Consumption makes up about 70% of economic activity.
American households are still benefiting from relatively low debt and healthy wage growth that has outpaced inflation for nearly two years as a result of pandemic-related labor shortages.
This year, consumption was already poised to moderate following a post-COVID burst of activity. Low- to middle-income households are grappling with historically high credit card delinquencies after a historic inflation run-up and the Federal Reserve’s sharp interest rate hikes.
The tariffs are expected to substantially deepen the drop-off by sapping consumers’ buying power. Higher-income Americans are likely to reduce their spending following the trade war-induced stock market sell-off, according to Moody’s Analytics.
In April, consumer confidence fell to the lowest level since May 2020, the Conference Board said this week.
How other parts of the economy fared
Government outlays fell 1.4% after rising 3.1% late last year. Federal government spending tumbled 5.1% as Elon Musk’s Department of Government Efficiency began hefty budget cuts and layoffs. The government also has frozen hiring.
State and local spending increased 0.8%.
Business investment jumped 9.8% after falling 3% the previous quarter. Company purchases of computers, delivery trucks, factory machines, and other equipment grew 22.5%. Businesses investment leaped largely because firms imported capital goods before tariffs take effect, economist Samuel Tombs of Pantheon Macroeconomics wrote in a note to clients.
Spending on buildings, oil rigs and other structures edged up 0.4%.
Company outlays are expected to decline later this year amid lingering uncertainty over tariffs.
Housing construction and renovation increased 1.3% after rising 5.5% in the fourth quarter. Residential investment has been sluggish in part because builders are concerned that tariffs will sharply increase the cost of lumber, steel, aluminum and other building materials.
Also, high mortgage rates — a byproduct of inflation and Fed rate hikes — have discouraged many potential homebuyers.
Will the Fed lower interest rates in 2025?
A dismal economic report theoretically could spur the Fed to lower interest rates again sooner. But since much of the weak showing was triggered by an import surge — rather than weak consumer or business spending — the Fed is likely to maintain its wait-and-see approach.
Also, a key inflation measure surged 3.7% in the first quarter, further dissuading the central bank from cutting rates.
After chopping rates by a percentage point late last year, the Fed has paused as it determines how much Trump’s tariffs could increase inflation and how much they may hobble the economy. Officials are grappling with an unusual period of “stagflation” — high inflation and a weakening economy — as their missions of keeping inflation contained and unemployment low are in conflict.
The Fed lowers rates to support a weak economy but raises rates, or keeps them high, to fight inflation.
The report “is the worst of both worlds for the Fed, as it raises recession risks while also reaffirming stagflation risks,” said economist Jason Schenker, of Prestige Economics.
Read more at usatoday.com.