Economy shrank at steep 2.9 percent rate in Q1

WASHINGTON - The U.S. economy shrank at a steep annual rate of 2.9 percent in the January-March quarter as a harsh winter contributed to the biggest contraction since the depths of the recession five years ago. But the setback is widely thought to be temporary, with growth rebounding solidly since spring.

The first-quarter contraction reported Wednesday by the Commerce Department was even more severe than the 1 percent annual decline it had estimated a month ago. Two-thirds of the downward revision reflected a drop in health care spending. Another factor was a bigger trade deficit than initially estimated.

Though such a sharp economic decline would typically stoke fears of another recession, analysts see it as a short-lived result of severe winter storms that shut factories, disrupted shipping and kept Americans away from shopping malls and auto dealerships. They say the economy is rebounding in the April-June quarter. Some expect growth to approach a robust 4 percent annual rate this quarter.

Most analysts also foresee the economy expanding at a healthy annual rate of around 3 percent in the second half of this year.

Last quarter's 2.9 percent annual decline in economic activity, as measured by the gross domestic product, followed a 2.6 percent gain in the fourth quarter. It was the weakest showing since the economy shrank at a 5.4 percent annual rate in the first quarter of 2009 in the midst of the Great Recession.

Most of the downward revision from the previous estimate of a 1 percent decline reflected a change in the estimate of spending on health care. The government had previously estimated a strong gain in this category reflecting implantation of provisions of the Affordable Care Act.

But data derived from an actual survey showed the government's estimate was far too optimistic. Health care spending, instead of rising at a 1 percent rate, had fallen in the first quarter at a 0.2 percent rate.

Analysts say solid hiring, growth in manufacturing and surging auto sales are contributing to a stronger economy. A stumbling housing recovery has been a concern but even there, recent data on home sales and construction have been more encouraging.

"We have ample evidence that the first quarter was just a temporary setback for the economy, and we are climbing out of the hole in the current quarter," said Stuart Hoffman, chief economist at PNC Financial.

If economists are correct that annual growth will reach around 3 percent in the second half of the year, it would be a significant improvement from the 2 percent pace of the first five years of this sub-par economic recovery.

"We should have a much better second half this year and a much better 2015 than 2014," said Mark Zandi, chief economist at Moody's Analytics.

Zandi said he was forecasting growth of 3.5 percent to 4 percent in 2015. That would be the best year since the economy grew 3.8 percent in 2004.

"In past recoveries, we have always gotten a year of very strong growth," Zandi said. "I think we will get that in 2015," helped by a long-awaited improvement in wage growth.

Of course, the optimistic projections could prove too rosy. Analysts see risks to their forecasts, primarily the possibility that tensions in the Middle East could cause oil prices to surge, especially given the deteriorating situation in Iraq.

Surging energy prices have preceded earlier economic slowdowns, including the most recent recession.

"If Iraq remains a problem through the remainder of the year, it will subtract from growth at the margin," Zandi said. "If events unravel and the insurgency goes south into Iraq's oil fields, then oil prices will spike. That is the biggest concern."