Economy Contracts by 0.4 Percent

By John M. Berry
Washington Post Staff Writer
Wednesday, October 31, 2001; 11:03 AM

Partly because of the terrorist attacks of Sept. 11, the U.S. economy contracted slightly in the July-September period, the first such decline in more than eight years, the Commerce Department reported this morning.

Economic activity declined at an 0.4 percent annual rate in the third quarter, substantially less than most analysts had expected given the sharp impact of the attacks on consumer spending, airline and vacation travel, factory production and business investment last month. Many forecasters had predicted a 1 percent to 1.5 percent rate of decline.

Now there is great uncertainty about the course of the economy in coming months. There has been some rebound from last month's shocks, especially in new car and light truck sales, but forecasters are looking for a larger economic decline in the final three months of the year. Consumer confidence is down, and if American households trim their spending, this quarter's drop could be much bigger than what was reported today.

White House Press Secretary Ari Fleischer said this morning's numbers indicate a contracting economy in the third quarter mean "it is imperative for the Senate to act" on a stimulus package. "Failure to act will mean our workers are being left behind."

Fleischer indicated no willingness to budge on Democratic demands for more spending to aid the unemployed. Pointing to an agreement this month to limit fiscall 2002 appropriations to $686 billion, Fleischer said: "The president knows he has an agreement with Congress and he expects that promise to be kept."

The small third quarter slump followed a full year of very weak growth, including a meager 0.3 percent rate of growth in the second quarter of this year, and the latest figures left open the question of whether the economy has entered the first recession in more than a decade. With some key indicators, such as industrial production and payroll employment, falling for months, many economists believe the current period eventually will be designated as one of recession.

However, for many Americans an extended period of such slow growth can be the equivalent of a recession. With both consumer and business demand for many goods and services faltering, many companies have laid off workers, and in a period in which the economic outlook is so uncertain, many of them have been unable to find new jobs. Over the past 12 months, the nation's unemployment rate climbed by a full percentage point, to 4.9 percent in September, and most analysts expect a further jump in joblessness to be reported Friday when the Labor Department releases figures for October.

Even while the unemployment rolls have swelled though, personal incomes have continued to increase. In the third quarter, every major type of income, including wages and salaries, rose except personal interest income, which has declined along with interest rates. Partly because of the large personal income tax rebates and rate cuts enacted earlier this year, after-tax incomes rose significantly in the July-September period.

According to the Commerce report, the major reasons economic growth fell into negative territory in the third quarter was a marked slowing of the gains in consumer spending – gains that had been the economy's mainstay for a year as business investment fell rapidly. Despite a very sharp drop in spending immediately after the attacks – retail sales fell 2.4 percent in September, for example – consumer purchases still rose at a 1.2 percent annual rate for the quarter as a whole. Without that increase, the slump would have been much more pronounced.

Even business investment in new plants and equipment, which declined at an 11.9 percent annual rate for the quarter, wasn't down quite as much as it was in the spring. Another drag on growth was the continued liquidation of business inventories as firms sought to bring their stocks of unsold goods back into line with weakening sales. This liquidation has been the single greatest factor in the past five quarters of slow growth.

Commerce's Bureau of Economic Analysis, which tracks the gross domestic product, a measure of all goods and services produced in this country, went to great lengths to estimate the impact of the terrorist attacks on GDP and its components. However, because many of the impacts are already embedded in the so-called source data – retail sales figures are an example – BEA did not attempt to quantify the total impact.

Purchases of some types of personal spending for services, such as auto rentals and spectator sports, declined last month, but others, including video rentals, were up: BEA estimated that the overall impact was to lower personal consumption spending for the quarter at a $700 million annual rate. But for GDP, that decline was offset by an increase in overtime wages for firefighters and police, which rose at an $800 million annual rate.

Other more significant adjustments were made to account for insurance payments to individuals and governments, a large share of which were made by foreign companies which shared in the losses in New York City. The net effects raised current-dollar GDP by $22.7 billion but had no impact on inflation-adjusted GDP, which is the measure of economic growth.

Washington Post Staff Writer Dana Milbank contributed to this report.