US economy contracts… or does it?

The headlines in the financial media are predictably focused on the latest GDP data from the US. The principal focus is on the 0.3% contraction in the first quarter (annualised), the first decline since 2022 (the expectation was a decline of 0.2% by the way). As you can imagine, this data point has re-energised those confidently predicting a US recession, and I am sure much more will be made of this headline number in the next few days.

My advice to those jumping on this particular bandwagon, if they were minded to listen, is hold your horses. The data, or, more precisely, the headline contraction, is not what it appears to be. What happened in the US was that before Trump’s announcement on 2 April, businesses were front-loading imports to avoid the initial tariff imposition. This meant that imports surged and net trade reduced GDP by a record 5%. In fact, imports were up an astonishing, annualised rate of 41.3%.

GDP is calculated as the sum of consumption, investment, government spending, and net exports (X-M), where X is exports and M is imports. Imports are deducted from GDP because the measure is designed to calculate the total value of all goods and services produced domestically, and so it excludes spending on goods and services produced abroad.

Interestingly, the underlying picture is much more robust despite weaker-than-expected government spending. In fact, excluding the distorting influence of net trade and higher business inventories (which added 2.25% to GDP), the preferred measure of the economy, final sales, grew at 3% in Q1, compared with a rate of 2.9% in the final quarter of 2024. In other words, the underlying economy, as measured by final sales, accelerated in Q1. Not quite so grim, then.

Consumer spending, which grew at 1.8% in Q1, was the lowest growth rate since 2023, but, again, very interestingly, was well ahead of consensus expectations of 1.2% growth. Another very interesting aspect of the data was that business investment grew at a remarkable, annualised rate of 22.5% in Q1. To my rather simple mind, that statistic begs the question: if businesses were so concerned about the impact of Trump’s tariffs, would they invest so much just ahead of the announcement? My answer is that they clearly wouldn’t, which suggests that despite the headlines and the siren calls, the broader US economy is still in good shape, and importantly, business confidence is robust.

Since the end of the first quarter, we have seen the initial tariff announcement followed by umpteen announcements effectively either delaying or reducing the original menu of rates. Indeed, in the last 24 hours, we have seen a further announcement from President Trump that effectively softened the 25% tariff on imported car components for two years by providing a sliding scale of rebates. At this point, it is hard to know where tariffs will actually end up, and secondly, when we do know what the levels will be, what precise impact they will have on the economy. In the short term, there will be some disruption, and some industries will be hit hard. However, it will be some time before clarity emerges and the underlying economic data returns to a more normal state. For example, headline GDP data in Q2 will again be distorted by the after-effects of what happened in Q1 as the import surge unwinds (which will be positive for GDP). Higher inventories will still be a feature in Q2, which will also boost the data. Regardless of the ongoing distortions in the headline data, I remain convinced that the consensus view that the US economy slides into a recession later this year due to the tariffs is wrong. I still expect growth this year of at least 1.5%.