Businesses grew their inventories more slowly in the first quarter. That dragged down GDP.
Businesses grew their inventories more slowly in the first quarter. That dragged down GDP.
The economy shrank at an annualized rate of 1.4% last quarter, according to the Bureau of Economic Analysis, which arrived at that number through a complicated but straightforward equation.
Gross domestic product is the sum of the country’s consumer spending, government spending, business investment and net exports. And last quarter, it was those last two categories that dragged GDP down, specifically, business inventories and a surge of imports.
When the pandemic started, businesses ran down their inventories, people bought a lot of stuff online. Meanwhile, many businesses shut down and didn’t need to maintain inventories. But then, things started reopening.
“And now businesses are trying to ramp them back up,” said Jennifer Lee, senior economist at the Bank of Montreal.
She said surging consumer demand and congested supply chains have made it difficult to build up inventories.
Take cars, for instance.
“They’ll sell very quickly, and it’ll take a while to get another round of new cars back onto the lot,” she said.
So businesses overcompensated by overordering. In the fourth quarter of last year inventories rose by the largest amount on record.
“So that set us up for a really tough level of inventory building to beat here in the first quarter,” according to Sarah House, senior economist at Wells Fargo.
Inventories did rise in the first quarter, a lot. But the GDP calculation only cares about how much they changed.
And since they didn’t set a record again, “that’s leading to this slower pace, and therefore the drag on headline GDP,” House said.
This is what’s known as a base effect. Since inventory growth was already high, that base is hard to beat.
But business inventories are going to keep rising this year, and that’ll be good for the economy according, to Kathy Bostjancic, senior U.S. economist at Oxford Economics.
“The need to replenish inventories should keep the manufacturing sector and industrial production still rather sturdy,” Bostjancic said.
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