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Updated from 8:50 a.m. EDT

Amid soaring energy prices and fading tax stimulus, consumers tightened their purse strings in the second quarter, leaving gross domestic product well below economists' forecasts.

Real GDP grew at a 3% annual pace in the second quarter, far short of economists' 3.7% estimate, as consumer spending increased at its weakest pace since the first quarter of 2001.

Offsetting the disappointing news somewhat was an upward revision to first quarter GDP. The Commerce Department said the economy grew 4.5% in the first three months of the year, not 3.9% as originally reported. What's more, government revisions cast some doubt on whether the economy really experienced a recession in 2001.

Investors often consider the GDP report as a backward-looking indicator, but it can offer clues about the future.

"If you ended the quarter very soft, you have to dig your way back," said Steven Wieting, senior economist at Smith Barney. "We could have a very nice gain in consumption in July, but if June was down, you need a nice gain just to get back to flat."

Ed McKelvey, senior economist at Goldman Sachs, said the report suggests there is some downside risk to his estimate of 3.5% growth for both the third and fourth quarters. "It depends on what we see about the consumption path," he said.

Consumer spending rose at a sluggish 1% annual pace in the quarter, as oil prices jumped sharply and fiscal stimulus evaporated. Spending on durable goods fell 2.5%. Still, business investment rose 11.1% after a 4.5% gain in the first quarter and spending on equipment and software increased 10.0%.

Economic growth has slowed since the third quarter of 2003, when GDP rose a revised 7.42%. In the fourth quarter, the economy grew a revised 4.2%. Meanwhile, inflation has crept higher. The GDP price deflator rose at a 3.2% pace in the three months ended June 30, up from 2.7% in the first quarter and 1.4% in the fourth quarter.

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The personal consumption expenditure index, a measure of inflation favored by the

Federal Reserve

, increased 3.3% in the second quarter, matching the first quarter pace. But the core rate, which excludes food and energy, increased just 1.8%, down from 2.1% in the prior quarter.

"The report offers a sobering account of the softening in economic activity," said Ashraf Laidi, analyst at MG Financial Group.

In a move that could potentially help the Bush administration, the Commerce Department cast some doubt on whether the economy experienced a recession in 2001. In the revised data, the economy fell at a 0.5% annual pace in the first quarter of 2001, then expanded by 1.2% in the second quarter before contracting 1.4% in the third. In the prior data, the economy fell in all three quarters.

Technically, a recession occurs when GDP falls for two consecutive months. The National Bureau of Economic Research, which defines a recession as a broad decline in economic activity "lasting more than a few months," maintains that the U.S. was in a recession from March 2001 until November of that year. Whether the NBER changes its view in light of the GDP revisions remains to be seen.

While the GDP report was disappointing Friday, the University of Michigan's consumer sentiment index was more encouraging, rising to 96.7 from 95.6 in June and 96 in early July. Economists were expecting the index to hold steady at 96.

Recent surveys have shown a pickup in consumer confidence. Still, it's questionable whether that confidence is a result of an improving job market.

The Chicago purchasing managers index showed a big drop in its employment component on Friday. Employment fell to 45.6 in July from 53.6 in June and 54.8 in May. Some economists said this decline might be due to late auto-retooling shutdowns, but the decline is worrying nonetheless.

Otherwise, the Chicago PMI was quite positive, jumping to 64.7 in July from 56.4 in June. Orders rebounded to 68.7 from 56.8 and production rose 15.6 points to 69.5.