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Economy Surged 4% Before Credit Crunch Hit

Reuters
Thursday, 30 Aug 2007 | 1:23 PM ET

Strong business investment and higher exports drove the U.S. economy ahead at a robust 4 percent annual rate in the second quarter before turmoil in credit markets struck that is expected to brake growth ahead.

The Commerce Department Thursday boosted its initial estimate of second-quarter growth in gross domestic product -- the measure of total goods and services output within U.S. borders -- from the 3.4 percent that it estimated a month ago.

While the second quarter pace was the fastest since the start of 2006 and eclipsed the first quarter's anemic 0.6 percent rate, analysts said growth has peaked and will slow sharply in coming quarters.

"It was nice to see that strong growth in the spring," said Joel Naroff of Naroff Economic Advisors in Holland, Pennsylvania. "But that is history and the credit problems...imply that the third quarter could be extremely slow."

Since the April-June quarter, a credit squeeze stemming from rising defaults for subprime mortgages has disrupted financial markets worldwide, raising concern that consumers will trim spending and cause expansion to slow.

Bernanke in the Wings

Financial market participants are closely watching for signs the Federal Reserve may be willing to cut official interest rates to keep a slowdown from tipping into recession.

Fed Chairman Ben Bernanke is scheduled to speak Friday morning at a global central bankers' annual retreat in Jackson Hole, Wyoming, but it is unclear whether he will offer any hints on policy direction.

A separate report on Thursday from the Office of Federal Housing Enterprise Oversight underlined how a previously strong gain in housing prices, which analysts said had bolstered consumers' willingness to spend, was fading.

U.S. house prices rose 3.2 percent in the second quarter from a year ago, the slowest rise in a decade, OFHEO said. The OFHEO index measures purchase prices and refinancing appraisals on so-called conforming loans purchased by the two largest U.S. residential mortgage financing companies, Fannie Mae and Freddie Mac, but not loans over $417,000 or subprime loans.

On another ominous note, the Labor Department said new claims for jobless benefits unexpectedly rose last week, and the number of unemployed still on benefit rolls after drawing an initial week of aid was the highest since mid-April.

"We need to see more data, but there must now be a real suspicion that companies have started to recognize that maintaining earnings growth in the current environment will be difficult with their current staffing levels," economists at High Frequency Economics wrote in a note to clients.

Markets Tread Water

Stock prices were mixed at mid-day, bolstered to some degree by hope that strong business spending might offset the deepening housing slump. Bond prices rose as investors once more bulked up on what are regarded as safe-haven assets.

The government's core personal consumption expenditure price index, a measure of inflation that strips out volatile energy and food prices, rose at a 1.3 percent annual rate in the second quarter, compared with a rise of 2.4 percent in the prior three months.

The main sources of the upward revision in second-quarter economic growth were healthier business investment and a better trade performance than the department estimated a month ago.

Businesses boosted spending on expanded plant and equipment at an 11.1 percent annual rate instead of the 8.1 percent initially reported, the strongest since the beginning of last year and far ahead of the first quarter's 2.1 percent rate.

Exports grew at a 7.6 percent rate instead of 6.4 percent previously estimated compared with a slim 1.1 percent in the first quarter. Imports shrank at a 3.2 percent rate rather than 2.6 percent after growing at a 3.9 percent rate in the first quarter.

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