• U.S. GDP in the first quarter was up 0.6% Q/Q annualized which was a touch better than expected. This is the second consecutive quarter of 0.6% growth.
• Personal consumption was a bit better than expected and exports remained buoyant in the first quarter.
• However, both residential and non residential investment were soft in the first quarter.

The first quarter GDP data was a bit better than expected with a 0.6%Q/Q annualized gain. This was more or less in line with market expectations and was the second consecutive quarter of 0.6% Q/Q annualized growth. The one surprise in the report was the resilience of personal consumption which posted a 1.0% Q/Q annualized gain, following a 2.3% gain in the fourth quarter of 2007. Given the mounting headwinds against the U.S. consumer, including sizable job losses, tight credit conditions and growing inflationary pressures, it is surprising that consumption was not worse. Nevertheless, consumer spending added 0.68 percentage points to growth in the first quarter, after adding a sizable 1.58 percentage points in the fourth quarter.

In terms of other key components of GDP, there were few surprises. Residential investment continues its freefall, posting a drop of 26.6% Q/Q annualized in the first quarter, following a 25.2% Q/Q annualized drop in the fourth quarter of 2007. This was the largest Q/Q annualized drop since the fourth quarter of 1981. And with no clear indication of a bottom forming in the housing market, the outlook for residential investment appears dim going forward and will continue to be a key drag on GDP growth. In addition, non residential investment has started to give way as well. In the first quarter, non residential investment fell 2.5% Q/Q annualized, following a nice 6.0% Q/Q annualized gain in the fourth quarter.

Exports were up 5.5% Q/Q annualized following a 6.5% Q/Q annualized gain in the fourth quarter, but the impact on net exports was muted by the bigger than expected 2.5% Q/Q annualized gain in imports during the quarter. In the first quarter, net exports only added 0.22 percentage points to GDP growth after adding 1.02 percentage points in the fourth quarter. But on balance, the resilience in exporting activity will remain one of the primary sources of growth for the U.S. economy going forward. The continued weakness of the U.S. dollar will underpin overseas demand for U.S. goods and services, so exports will have to shoulder the burden of growth in the near term as the other components of GDP correct.

Inventories were up $1.8 billion following a drop of $18.3 billion in the fourth quarter. On the whole, inventory investment added 0.93 percentage points to GDP in the first quarter, following a drag of 1.7 percentage points in the fourth. And while inventory accumulation may have contributed to growth in the first quarter, this accumulation will have to be worked off, which will ultimately give way to businesses scaling back production down the road.

On the whole, this was a slightly better than expected report, but one should not take too much comfort in the numbers. The writing is on the wall and there are continued signs that the economy is struggling against significant headwinds. As such, these gains could easily be revised away in future releases. Moreover, the GDP figures provide support for additional stimulus by the Fed when it meets today.

Charmaine Buskas
Senior Economics Strategist
TD Securities