US economy clocks solid growth in third quarter

The US economy grew at a faster-than-expected 3.5 percent pace in the third quarter helped by stronger exports and defense spending, suggesting enough momentum to do without Federal Reserve stimulus.

The Commerce Department report for the July-September period on Thursday came just a day after the Fed announced it would end its quantitative easing program of buying bonds this month, after pumping trillions of dollars into the economy over the past six years to shore up growth.

Though the world’s largest economy powered higher, it still slowed from the robust 4.6 percent expansion in the second quarter, a rebound from the harsh weather-related 2.1 percent contraction in the first quarter.

Economists on average predicted a slower 3.0 percent pace.

“Growth above three percent in four of the past five quarters is starting to look like a trend,” said Ian Shepherdson of Pantheon Macroeconomics.

The Fed, in its policy announcement Wednesday, expressed increasing confidence in a modestly expanding economy and cited “substantial improvement” in the labor market, where the unemployment rate has fallen to a six-year low of 5.9 percent.

Data released by the Labor Department on Thursday showed new claims for unemployment insurance, a sign of the pace of layoffs, were holding to the recent low levels that have bolstered the tightening jobs market.

The strong headline number for third-quarter growth in gross domestic product — the economy’s output of goods and services — fueled speculation that the central bank could hike interest rates earlier than the mid-2015 target that it has signaled up to now.

“If growth continues at this pace — we think it will — the first Fed tightening could easily come in the spring, especially if wage gains start to pick up,” Shepherdson said.

FT Advisors said in a research note that the GDP report “continues to show that the Fed should start raising rates earlier than the market now expects.” But they stuck with their expectation that the Fed would wait until the second quarter to raise rates.

On Wall Street, investors appeared to look past the GDP figure to focus on a slew of corporate earnings. Credit card Visa (Xetra: A0NC7B – news) ‘s strong results almost single-handedly lifted the Dow 1.3 percent higher.

Details in the Commerce Department report were not all rosy. The economy’s key driver, consumer spending, rose 1.8 percent after increasing 2.5 percent in the prior quarter.

But exports increased 7.8 percent, while imports fell 1.7 percent. The shrinking trade deficit added 1.32 percentage point to growth, the best gain since the 2009 second quarter.

Robert Brusca, chief economist at FAO Economics, raised concerns about how long that would last.

“The rising dollar and weak growth abroad will be undercutting US exports and adversely affecting US manufacturing sector that had been a source of some strength,” he said.

- Defense spending surge -

Overall government spending rose 4.6 percent following an increase of 1.7 percent in the prior quarter.

The federal government component jumped a hefty 10.0 percent, led by a 16 percent surge in defense spending.

“We can’t really think that this is good news that US growth is being underpinned and boosted by military activity,” Brusca said.

Inflation slowed in the second quarter to well below the Fed’s 2.0 percent comfort zone. The personal consumption expenditures price index, the central bank’s preferred inflation measure, fell to 1.2 percent from 2.3 percent in the prior quarter.

Research firm Macroeconomic Advisers said the lower-than-expected inventory investment, which subtracted 0.57 percentage point from GDP, points to less of a decline in the fourth quarter, while the leap in defense spending suggested “some reversal” in the fourth quarter.

“On balance, this left our tracking forecast of fourth-quarter GDP growth unchanged at 2.4 percent,” it said.

US economy clocks solid growth in third quarter