By Lucia Mutikani
WASHINGTON (Reuters) - The economy grew faster than initially thought in the third quarter as restocking by businesses provided a big boost, but consumer and business spending were revised lower in a sobering reminder of the recovery's underlying weakness.
Gross domestic product expanded at a 2.7 percent annual rate, the Commerce Department said on Thursday, with export growth also helping to offset the weakest consumer spending and first drop in business investment in more than a year.
It was the fastest growth since late 2011 and much quicker than the 2 percent rate the government estimated last month. But it was hardly a sign of strength as the lift from inventories will likely be lost in the fourth quarter.
Growth in consumer spending, which accounts for about 70 percent of U.S. economic activity, was cut by more than half a percentage point, suggesting the rise in inventories reflected unwanted goods piling up in warehouses.
The possibility of an inventory overhang, the drag from superstorm Sandy and fears over the so-called fiscal cliff look set to undermine the economy in the final months of the year.
Separately, retailers reported unexpectedly weak sales in November, which many pinned on the storm that ripped into the East Coast late last month.
"The headwinds for fourth quarter GDP have kind of intensified. At best, the economy may just coast its way into 2013," said Ryan Sweet, a senior economist at Moody's Analytics in West Chester Pennsylvania.
The fiscal cliff could suck $600 billion from the economy early next year and fuel a fresh recession, unless Congress and the Obama administration agree on a less-severe plan to cut budget deficits.
A separate report from the Labor Department showed initial claims for state unemployment benefits dropped 23,000 to a seasonally adjusted 393,000 last week. Still, they remain well above where they stood before Sandy hit.
There are fears the monster storm could severely dent employment growth in November, further undercutting the economy.
"Employment growth could slow dramatically in November to around the 100,000 range (from 171,000 in October)," said Millan Mulraine, a senior economist at TD Securities in New York. The government releases data on November employment on December 7.
Prices for U.S. government debt rose for a fourth straight day on the GDP data and lack of progress on the fiscal cliff talks in Washington. Stocks on Wall Street closed higher for a second day in a row on bargain hunting.
The dollar fell marginally against a basket of currencies.
INVENTORIES ADD, NOT SUBTRACT
Business inventories added more than three quarters of a percentage point to third-quarter GDP growth, rather than being a drag as previously reported.
Excluding inventories, GDP rose at a revised 1.9 percent rate, underscoring the sluggishness of demand. Final sales of goods and services produced in the United States previously had been estimated to have increased at a 2.1 percent pace.
A smaller trade deficit was also a factor behind the upward revision to GDP as export growth outpaced a rise in imports. But the trend in exports is unlikely to be sustained given slowing global demand, especially in China and debt troubled Europe.
Government spending rose sharply in the quarter, but that is not expected to last given belt-tightening in Washington.
Other details of the report were rather weak. Consumer spending was cut to a 1.4 percent growth rate - the slowest since the second quarter of 2011 - from the 2 percent gain previously reported.
Even more worrying, there were downward revisions to personal income and the saving rate, which suggests consumer spending will remain lackluster in the months ahead.
Business spending was revised to show a much deeper cutback, with equipment and software spending the weakest since the second quarter of 2009.
"It is hard to have a strong economy when households are not hitting the malls hard and businesses have assumed the turtle position fearful of a crash due to the fiscal cliff," said Joel Naroff, chief economist at Naroff Economic Advisors in Holland, Pennsylvania.
There was a modest downward revision to spending on residential construction, which continues to benefit from the Federal Reserve's ultra accommodative monetary policy stance, which has driven mortgage rates to record lows.
The firming housing market tone was captured by a third report showing contracts to buy previously owned homes surged in October.
(Additional reporting by Jason Lange; Editing by Neil Stempleman, Tim Ahmann and Andrew Hay)