US growth slows sharply as Fed raises rates in the first quarter

Consumers spend heavily to combat inflation, resulting in a 1.1% annualised increase in GDPUS economic growth slowed sharply in the first quarter of 2023 despite strong consumer spending, as the Federal Reserve ploughed ahead with its historic monetary tightening campaign.

According to preliminary figures released on Thursday by the Commerce Department, the world’s biggest economy increased 1.1% on an annualised base between January and march.

The figures were a sharp deceleration compared to the 2.6% pace recorded in the last three months of 2022, and well below the expectations of economists for a 2% increase.

China has outperformed the expectations of other countries in the first three months, growing at a rate of 4.5 percent, mainly due to a rebound in consumer spending after Beijing ended its zero-Covid policy.

Eurozone figures from January to March are due to be released on Friday. It is expected that the annual growth rate will be 1,4%. Gross domestic product (GDP) figures for Belgium and Sweden were better than expected on Thursday.

The Fed’s long-term battle against inflation has begun to bear fruit, as the US slowdown indicates. Since March of last year, US central bank raised its benchmark policy rates from near zero, to just below 5 per cent. This is the fastest increase since decades.

The officials are planning another quarter-point increase in the rate next week. This would raise the federal funds rate up to a target range of 5% to 5.25 %. Then, they are expected to take a break from their tightening campaign.

Prices are also rising in other major western economies. Inflation in the UK fell less than anticipated in March and remained stubbornly at double digits.

After the US GDP data were released, US government bonds fell in price. The yield on two-year Treasury notes — which closely tracks expectations of interest rates — rose by 0.16 percentage points to 4,01 percent. The benchmark 10-year rate rose by 0.1 percentage points, to 3.53 percent.

The US economy is losing momentum but the data released on Thursday showed that it still has pockets of strength. The strong growth in consumption was able to offset the drag of falling inventories, a slowdown in business and housing investment and the fall in inventory.

Kristina Hooper, Invesco’s chief global market strategist, said: “Really peeling away the layers it is very good in terms of consumers spending.” She added that “seeing a robust amount consumer spending can raise concern that this will fuel more Fed rate increases.”

Consumer spending, inflation-adjusted, increased at a rate of 3.7 percent per year. This is up from a rate of 1 percent in the final quarter 2022.

Aditya Bhave is a senior US economist with Bank of America. He said, “At first sight this report looks robust despite the low headline number.” “The concern is that much of the strength came from what happened in January. The second quarter’s outlook is not particularly promising.

Fed Chair Jay Powell said that the credit crunch resulting from the collapse earlier this year of Silicon Valley Bank could have an effect similar to tightening rates on the economy.

Some officials claim that a pause to the US central banks’ campaign against inflation in June will allow policymakers the opportunity to evaluate this question and gauge the impact of their actions in the last year. Some officials say that they do not rule out future rate increases if the data warrants it.

The surprising resilience of US consumers, boosted by a tight labor market, has officials on edge. Early signs of a cooling of monthly job gains and wage increases have given some comfort that inflation has not reached its peak.

Officials have said that in order to return inflation to the Fed’s 2 per cent long-standing target, a period of “below trend growth” and some easing of labour market conditions will be required. However, they stopped short of predicting a recession.

Most officials, as of March, expect inflation-adjusted growth in the GDP to slow down to 0.4% by 2023 before rebounding to 1.2% the following year. Most officials predict that the unemployment rate will peak at 4.6% in 2024. This is up from its current 3.5% level.