By Lucia Mutikani

WASHINGTON (Reuters) – The U.S. economy grew solidly in the second quarter, pulling the level of gross domestic product above its pre-pandemic peak, as massive government aid and vaccinations against COVID-19 fueled spending on goods and services.

The pace of GDP growth reported by the Commerce Department on Thursday was, however, slower than economists had expected. That was because businesses ran down inventories further to meet the robust demand. Supply constraints, which have caused shortages of goods such as motor vehicles and household appliances, are making it harder for business to replenish stocks.

“The U.S. economy is off and running,” said Scott Hoyt, a senior economist at Moody’s Analytics in West Chester, Pennsylvania. “Real GDP has fully recovered what it lost in the downturn. The economy is well ahead of much of the rest of the world, save China and some parts of southeast Asia, in its recovery from the pandemic recession”

Gross domestic product increased at a 6.5% annualized rate last quarter, the government said in its advance estimate of second-quarter GDP. The economy grew at a 6.3% rate in the first quarter, revised down from the previously reported 6.4% pace.

The level of GDP is now 0.8% higher than it was at its peak in the fourth quarter of 2019, marking the shortest recession and fastest recovery in the nation’s history. After the 2007-09 downturn, it took the economy 3-1/2 years to return to its pre-recession peak.

“The economy has achieved escape velocity from which there is no going back,” said Chris Rupkey, chief economist at FWDBONDS in New York.

Economists polled by Reuters had forecast GDP rising at an 8.5% rate last quarter. Inventories contracted at a rate of $165.9 billion, slicing 1.13 percentage points from GDP growth.

Trade, housing and government spending were also drags on GDP growth last quarter. Excluding inventories, trade and government spending, the economy grew at a 9.9% pace. This measure of domestic demand rose at an 11.8% pace in the first quarter.

Annual revisions to GDP data showed the economy shrinking 3.4% in 2020, instead of 3.5% as previously estimated. That was still the biggest drop in GDP since 1946. The revisions to growth in other years and quarters were minor.

The National Bureau of Economic Research, the arbiter of U.S. recessions, declared last week that the pandemic downturn, which started in February 2020, ended in April 2020.

Even with the second quarter marking the peak in growth this cycle, the economic expansion is expected to remain solid for the rest of the year. Economists expect growth of around 7% this year, which would be the strongest performance since 1984.

The International Monetary Fund on Tuesday boosted its growth forecasts for the United States to 7.0% in 2021 and 4.9% in 2022, up 0.6 and 1.4 percentage points respectively, from the forecasts in April.

A resurgence in COVID-19 infections, driven by the Delta variant of the coronavirus, however, poses a risk to the outlook. Higher inflation, if sustained, as well as ongoing supply chain disruptions could also slow the economy.

Inflation soared in the second quarter, with the Federal Reserve’s preferred measure – the personal consumption expenditures price index, excluding the volatile food and energy components – surging at a 6.1 % rate after increasing at a 2.7% pace in the January-March quarter.

The Fed on Wednesday kept its overnight benchmark interest rate near zero and left its bond-buying program unchanged. Fed Chair Jerome Powell told reporters that the pandemic’s economic effects continued to diminish, but risks to the outlook remain.

Stocks on Wall Street rose, with the S&P 500 and the Dow indexes scaling record highs on the GDP data and a slate of strong corporate earnings reports. The dollar fell against a basket of currencies. U.S. Treasury prices were lower.

Graphic: U.S. economy back at a record level: https://graphics.reuters.com/USA-ECONOMY/akpezgnzkvr/chart_eikon.jpg

ROBUST CONSUMER SPENDING

President Joe Biden’s administration provided $1.9 trillion in pandemic relief in March, including sending one-time $1,400 checks to qualified households, bringing the amount of government aid to nearly $6 trillion since the pandemic started in the United States in March 2020.

Nearly half of the population has been vaccinated against COVID-19, allowing Americans to engage in services-related activities that were curbed early in the pandemic.

Consumer spending, which accounts for more than two-thirds of the U.S. economy, grew at an 11.8% rate in the second quarter after rising at an 11.4% pace in the prior period.

Americans frequented restaurants, stayed at hotels and visited casinos. They also bought motor vehicles and clothing.

Though the fiscal boost is fading and COVID-19 cases are rising in states with lower vaccination rates, consumer spending will likely continue to grow. Households accumulated at least $2 trillion in excess savings during the pandemic. Record-high stock market prices and accelerating home prices are boosting household wealth. Wages are also rising as companies compete for scarce workers amid a strengthening labor market.

A separate report from the Labor Department on Thursday showed initial claims for state unemployment benefits fell by 24,000 to a seasonally adjusted 400,000 for the week ended July 24. Claims hit a two-month high in the prior week, but that was likely due to difficulties stripping out seasonal fluctuations from the data.

Businesses maintained a robust pace of investment, buying light trucks, aircraft and machinery. They invested in research and development as well as software, but cut back on spending on commercial and health care structures.

Government spending was weighed down by weakness in nondefense services as the processing and administration of Paycheck Protection Program loan applications by banks on behalf of the federal government declined.

“Supply chains allowing, the need to rebuild off of the currently very low level of inventories should set up for inventory investment to boost GDP in coming quarters, but the availability of certain goods will be the key constraint determining the timing of that recovery,” said Ellen Zentner, chief U.S. economist at Morgan Stanley in New York.

(Reporting by Lucia Mutikani; Editing by Dan Burns and Andrea Ricci)

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