Understanding the Second-Quarter Fall in GDP

Understanding the Second-Quarter Fall in GDP

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INSIGHTi
Understanding the Second-Quarter Fall in
GDP
August 10, 2020
On June 8, 2020, the National Bureau of Economic Research (NBER), an independent, nonprofit research
group, official y declared that the U.S. economy entered a recession in February of this year. On July 31,
the U.S. Department of Commerce’s Bureau of Economic Analysis (BEA) released estimates that the
economy, as measured by gross domestic product (GDP), contracted at an annual rate of 32.9% in the
second quarter of 2020 compared to the preceding quarter. In other words, if this pace of decline were to
continue for four quarters, the economy would have shrunk by about one-third compared to the first
quarter. It is expected that this figure wil be adjusted slightly in the coming weeks, as is common with
initial BEA advance estimates. Stil , the decline in GDP is significant and is in addition to the 5.0%
annualized contraction experienced in the first quarter of the year. As shown in Figure 1, the second-
quarter contraction is the largest decline since BEA first started compiling data in 1948, and more than
three times larger than the second-largest quarterly decline, which occurred in 1958. The second-quarter
2020 decline was driven by COVID-19, which caused widespread disruptions to supply (production) and
suppressed private demand (spending). However, BEA cannot isolate the precise effects of COVID-19 on
GDP.
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Figure 1. Quarterly Percentage Change in GDP, 1948-2020
(Annualized)

Source: BEA.
GDP and its Components
Figure 2 displays the percentage change in GDP from the preceding quarter for the second quarter of
2020 along with the percentage change in the five major categories used in the BEA’s “expenditure
approach” for computing GDP. The expenditure approach measures GDP as the purchases of final goods
and services in the economy by households (personal consumption), businesses (private investment),
foreigners (exports), and federal, state, and local governments (government consumption and investment).
The purchases by Americans of foreign-produced goods and services are subtracted to capture domestic
production. Summing the five categories displayed in Figure 2 captures the demand side of the economy.
Figure 2 shows that al of the individual components of GDP declined significantly in the second quarter,
with the exception of government spending, which increased slightly (2.7%). Although exports (-64.1%)
and imports (-53.4%) declined the most in Figure 2, it is the value of exports minus the value of imports
(i.e., net exports) that is a component of GDP. Both government spending and net exports tend to be
relatively stable over short periods. In the second quarter, a large increase in federal spending was partly
offset by a large decrease in state and local spending. This trend is likely to continue in the second half of
the year, as COVID-19 continues to put pressure on state and local budgets and federal stimulus already
enacted wil continue to be spent.

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Figure 2. Real Gross Domestic Product and Related Measures: Percentage Change in Q2
(Annualized)

Source: BEA.
Although a large decline in personal consumption was expected as consumers’ fears, along with
lockdown policies, kept shoppers home, the 34.6% decline was unprecedented in the post-WWII era.
Consumption accounted for nearly two-thirds of GDP in the second quarter and has historical y been quite
stable, staying between 65% and 70% of the economy over the past two decades. The decline in
consumption was concentrated in a 43.5% decline in spending on services, but spending in most
categories of goods also declined.
Gross private fixed investment, which consists of business and residential investment, declined by 49.0%.
Investment is typical y one of the primary sources of fluctuations in GDP, and its variability is wel
documented. Investment accounted for about 16% of GDP in the second quarter, implying its large
decline was a significant contributor to the overal decline in GDP. Both business and residential
investment experienced large declines.
Decomposing the Decline
The individual components displayed in Figure 2 influence GDP differently because they differ in terms
of their shares of the overal economy. To account for this, Figure 3 decomposes the 32.9% second-
quarter decline in GDP into the contribution of each of its components. That is, Figure 3 accounts for
both the size of the decline in the individual components (Figure 2) and the share of each component as a
fraction of the overal economy. It is clear that the declines in consumption and gross private investment
accounted for the entire decline in GDP. Specifical y, personal consumption accounted for 76% (-25.05%
divided by -32.9%) of the decrease in second quarter GDP, while private domestic investment accounted
for 28% (-9.36% divided by -32.9%) of the decline. The sum of the two exceeds 100% of the decline in
GDP because net exports and government spending made positive contributions to growth in the second
quarter, but these contributions were smal compared to the declines in consumption and investment.
Although exports and imports both experienced large declines, because imports declined more than
exports (in dollar terms), net exports made a positive contribution to growth.

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Figure 3. Contributions to Second Quarter Percentage Change in Real Gross Domestic
Product
(Annualized)

Source: BEA.
Looking Forward
Looking forward, forecasters expect GDP to grow rapidly once the pandemic has subsided, as
unemployed workers and idle resources return to work. It is, however, highly uncertain when that wil be.
For example, the Congressional Budget Office (CBO) projected that the economy would grow 17% in the
third quarter. But even if the economy grows rapidly in future quarters, forecasters expect it to take
several years before GDP returns to its potential and unemployment returns to full employment. Potential
GDP is an estimate of what output would be if the economy were operating at full capacity. If growth
were 17% in the third quarter, it would leave GDP about $1.5 tril ion below its pre-pandemic level.
Longer term, GDP would not return to within 1% of its potential until 2027, according to CBO’s
projections (see Figure 4).

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Figure 4. Actual and Projected GDP
2019:Q4-2030:Q4

Source: BEA, CBO.

Author Information

Mark P. Keightley
Marc Labonte
Specialist in Economics
Specialist in Macroeconomic Policy

Disclaimer
This document was prepared by the Congressional Research Service (CRS). CRS serves as nonpartisan shared staff
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