Surging GDP masks economic pitfalls

Friday's report on advance GDP showed that economic growth in the final quarter of 2009 jumped at its fastest pace in several years, surging at an annual pace of 5.7%. 4Q's increase is the second-straight rise in economic output following four consecutive quarterly declines.

By itself, the news is good given the deep economic recession that has caused the unemployment rate to spike past 10%. One piece of good news - capital spending posted a double-digit gain, suggesting companies are beginning to respond in a favorable way to the recovery.

But much of the rebound last quarter occurred as companies replenished dwindling stockpiles. Looking back over the past year, falling demand has been met sharp declines in production. This kept bloated inventory levels from soaring to untenable heights.

The painful cuts in production have brought inventories back to reasonable levels, and rising output accounted for 3.4 percentage points of the 5.7 point increase. But it seems implausible that 2Q will see the same level of growth if consumer spending does not noticeably pick up.

The Fed plans to end its purchases of government securities by the end of March, and fiscal stimulus may not provide the bang needed. Moreover, banks remain under pressure and have not loosened up on the purse strings in a way that might give the recovery the push needed to put it on a self-sustaining path.

I'm not expecting a double-dip recession, and the Leading Index and surveys of manufacturing are still suggesting further gains. But headwinds remains stiff and slow growth seems to be the most likely path.