US 1Q revised GDP contracted 0.7% vs. 0.8% drop expected

The U.S. economy contracted in the first quarter as it buckled under the weight of unusually heavy snowfalls and a resurgent dollar, but activity has rebounded modestly.

The government on Friday slashed its gross domestic product estimate to show it shrinking at a 0.7 percent annual rate instead of the 0.2 percent growth pace it estimated last month.

A larger trade deficit and a smaller accumulation of inventories by businesses than previously thought accounted for much of the downward revision. There was also a modest downward revision to consumer spending.

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With growth estimates so far for the second quarter around 2 percent, the economy appears poised for its worst first-half performance since 2011.

Economists, however, caution against reading too much into the slump in output. They argue the GDP figure for the first quarter was held down by a confluence of temporary factors, including a problem with the model the government uses to smooth the data for seasonal fluctuations.

Economists, including those at the San Francisco Federal Reserve Bank, have cast doubts on the accuracy of GDP estimates for the first quarter, which have tended to show weakness over the last several years.

They argued the so-called seasonal adjustment is not fully stripping out seasonal patterns, leaving "residual" seasonality. The government said last week it was aware of the potential problem and was working to minimize it.

When measured from the income side, the economy expanded at a 1.4 percent rate in the first quarter.

A measure of domestic demand was revised up one-tenth of a percentage point to a 0.8 percent rate and business spending on equipment was much stronger than previously estimated, taking some edge off the slump in output.

Economists had expected GDP would be revised down to show it contracting at a 0.8 percent pace.

Dollar, energy drag

Apart from the statistical quirk, the economy, which expanded at a 2.2 percent pace in the fourth quarter, was hammered by labor disruptions at West Coast ports. Also dragging on growth was a sharp decline in investment spending in the energy sector as companies such as Schlumberger and Halliburton responded to the plunge in crude oil prices.

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Spending on nonresidential structures, which includes oil exploration and well drilling, was revised up to show it tumbling at a 20.8 percent rate instead of the previously reported 23.1 pace. Mining exploration, shafts and wells investment plunged at a 48.6 percent pace, the largest since the second quarter of 2009.

Economists estimate unusually heavy snowfalls in February chopped at least one percentage point from growth.

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Trade was hit both by the strong dollar and the ports dispute, which weighed on exports through the quarter and then unleashed a flood of imports in March after it was resolved.

That resulted in a trade deficit that subtracted 1.90 percentage points from GDP instead of the 1.25 percentage points reported last month.

The GDP report also showed after-tax corporate profits declined 8.7 percent. That was the largest drop in a year and the second quarterly fall, as the dollar weighed on multinational corporations and oil prices hurt domestic firms.

Multinationals like Microsoft, household products maker Procter & Gamble, and health care conglomerate Johnson & Johnson have warned the dollar will hit sales and profits this year.

While the economy has pulled out of its first-quarter stall, data on retail sales and industrial production have suggested only a modest pace of growth early in the second quarter. But reports on housing, consumer confidence and business spending plans indicated momentum could be building.

Unlike 2014, when growth snapped back quickly after a dismal first quarter, the dollar and investment cuts by energy companies continue to hamstring activity.

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But growth could accelerate as the year progresses.

The value of inventory accumulated in the first quarter was revised down to an increase of $95 billion from the lofty $110.3 billion increase reported last month. That meant inventories contributed 0.33 percentage point to GDP instead of the previously reported 0.74 percentage point, suggesting warehouses are not bulging with unwanted merchandise and that businesses have latitude to order more goods from factories.

While consumer spending, which accounts for more than two-thirds of U.S. economic activity, was revised down by one-tenth of a percentage point to a 1.8 percent rate, it could finally get a lift from the considerable savings households amassed because of cheaper gasoline.

Personal savings increased at a robust $726.4 billion pace.

The dollar rally has faded and the greenback is about 4 percent off its peak in March against the currencies of the main U.S. trading partners, easing pressure on U.S. exporters. In addition, rig counts suggest the energy investment rout is nearing its end.