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The Economy Sputters
Subject Economic Growth
Topic Productivity and Growth
Key Words Recession, Interest Rates, Investment, GDP, Economic Growth
News Story

The U. S. economy's rate of economic growth in the second quarter of this year was 0.7 percent, the lowest rate of expansion in more than eight years. Despite a slowdown in consumer spending and a steep decline in business investment, the gross domestic product (GDP) did increase, extending the current expansion to its 11th year - the longest period of expansion on record. Analysts are hoping that the third quarter will be the turning point in this slowdown. The combination of $40 billion in tax refund checks that the government has started mailing and six interest rate cuts should provide needed stimulus to the economy.

A collapse in stock prices, rising energy costs and interest rate increases are blamed for the slowdown that began last spring. The developing pessimism about the economy led companies to reevaluate their business plans and sharply curtail new investment projects. From December to March, investment in new buildings and equipment fell slightly, but it plummeted during the last quarter, dropping by 13.6 percent. For much of the last 10 years, including the last quarter, business investment had expanded at a 10 percent annual rate.

The value of inventories fell for the second quarter in a row - by about 0.5 percent. The slowdown in consumer spending caused inventories to accumulate and production to slow. Firms have cut prices in order to sell the accumulated goods and analysts feel that the data from the past two quarters support the view that many companies will soon be able to increase production again.

The economy managed to avoid a recession primarily because consumer spending, especially on new homes and cars, continues to increase, albeit at a diminished rate. Consumer spending rose at 2.1 percent compared with 3.0 percent in the previous quarter. The increased consumer spending cancelled the decline in business purchases while a rise in government spending enabled the economy to grow for the quarter.

Most economists feel that the economy will grow at a 3.0 percent rate over the next 18 months. There are still few signs of economic strength and, as Alan Greenspan noted in recent testimony, further slowing remained a significant risk.

(Updated September 1, 2001)

Questions
1. Many economists are hopeful that the combination of interest rate cuts and tax rebates will spur consumer and business spending.
a. How would a reduction in taxes raise GDP?
b. How would a reduction in interest rates increase GDP?
2. The Commerce Department report also reported imports decreasing 6.7 percent in the last quarter. As the economy slows, why would imports be expected to decrease? How does a decrease in imports affect GDP?
3. The article attributes the expansion in GDP to an increase in government spending primarily at the state and local level. How does state and local government spending affect GDP? Is the impact of state and local government spending any different than for federal spending?
Source David Leonhardt, "U.S. Economy Grew At A Snail's Pace In Spring Quarter," The New York Times, July 28, 2001.

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