AN AutoNation Inc

By Jeffrey Sparshott 

A sharp pullback in business investment and weak global demand dragged down an already-lackluster U.S. economy in the opening months of 2016, the latest setback in a bumpy expansion entering its seventh year.

Consumers and the housing market kept the U.S. from sliding backward, though only barely. Gross domestic product, the broadest measure of economic output, advanced at a 0.5% seasonally adjusted annual rate in the first quarter, the Commerce Department said Thursday. That marked the economy's worst performance in two years.

Corporate executives and economists say turmoil across global financial markets in the opening weeks of the year may have restrained U.S. economic activity, with conditions improving somewhat after the Federal Reserve scaled back its expectations for rate increases and commodity prices began stabilizing.

"While all is not well with the U.S. economy, neither is the economy as moribund as the print on the first-quarter GDP report implies," said Richard Moody, chief economist at Regions Financial Corp. "Consumer spending and housing will provide the main support going forward."

Slow first quarters followed by a rebound have been common in recent years, leaving hope for better months ahead. The U.S. economy contracted in the opening quarter of 2014 and barely grew at the outset of 2015, only to bounce back and leave the economy on the same staid trajectory seen during much of the expansion. For all of 2015, GDP advanced 2.4%, the same as 2014.

Yet stronger global headwinds over the past year have served as an added restraint. Among the forces working against the U.S. expansion in recent months: Tepid demand from overseas and a strong dollar have led to a drop in exports, subtracting from growth. Cheap oil, meanwhile, has thrown business spending into disarray. Outlays for mining exploration and wells contracted the most on record in the first quarter.

The latest worry about the global outlook came Thursday when the Bank of Japan surprised many investors by declining to launch fresh stimulus measures despite a weak economic outlook. The BOJ and the European Central Bank have been among the institutions pushing interest rates into negative territory to boost their economies, moves that had weakened their currencies and pushed the dollar higher.

The Fed hasn't budged on interest rates since December, when it raised its benchmark for the first time in nearly a decade. Fed officials initially expected to raise interest rates by a full percentage point this year, but in March downgraded their expectation to just half a percentage point amid the global economic turbulence.

After its latest meeting concluded Wednesday, the central bank highlighted the domestic economy's mixed signals and remained ambiguous about whether it would move its rate target from a range of 0.25% to 0.5% in June.

Despite the cause for concern, the outlook isn't entirely bleak. For example, business investment in computers, software, research and development and nonenergy structures all rose during the first quarter.

"In the U.S., just about any market that is away from oil is doing pretty good," Doug Oberhelman, chairman and chief executive of Caterpillar Inc., said last week.

Housing has been a particular bright spot, buoyed by low interest rates and strong demand as more Americans find jobs. Spending on residential investment, such as new-home construction and home remodeling, climbed 14.8% in the first quarter, the fastest pace since the end of 2012.

"All the macroeconomic indicators that we look at for our business are all green," said Todd Bluedorn, chairman and CEO of Lennox International Inc., a manufacturer of heating and cooling systems. "So I think consumers are ready to spend money."

The labor market has been especially robust. U.S. payrolls have grown by an average of 234,000 a month over the past year, layoffs are near their lowest level in more than 40 years and wages are showing some signs of acceleration.

"Do we expect the U.S. economy to perform at higher growth rates in the quarters ahead? We do," Arne Sorenson, president and CEO of Marriott International Inc., said Thursday. "It seems reasonably clear that sentiment was profoundly negative early in this year and that it has improved significantly since January."

Still, while the first-quarter slowdown was predicted and a second-quarter rebound is expected, it isn't assured. GDP growth has deteriorated steadily since hitting a 3.9% pace in the second quarter of 2015. The economy expanded at a 2% pace in the third quarter and 1.4% in the fourth quarter of last year.

Consumer spending, which accounts for more than two-thirds of economic output, has been decelerating for three consecutive quarters. Relatively low gasoline prices and steady job gains apparently haven't been enough to spur consumers to splurge instead of save.

Taken together, those trends have crimped corporate profits. The S&P 500 is likely to mark a third consecutive quarter of declining earnings, the longest streak since the financial crisis.

Business at Vermeer Corp. reflects some of the broader forces playing out across the global economy. The Pella, Iowa, firm manufactures equipment used in agriculture and mining, two sectors buffeted by a precipitous fall in commodity prices.

The company's exports have been crimped by a strong dollar and slow growth overseas. But domestic demand for machinery used in waste processing, utility work and home landscaping remains robust alongside steady gains for the housing market. That should allow the family-owned firm to remain on steady footing as the economic ground beneath continues to shift, said Jason Andringa, Vermeer's president and CEO.

But expectations remain subdued. "I don't think we aspire to more than moderate growth at this point," Mr. Andringa said.

Write to Jeffrey Sparshott at jeffrey.sparshott@wsj.com

(END) Dow Jones Newswires

April 28, 2016 18:20 ET (22:20 GMT)

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