Two-front trouble
Econoday Simply Economics 1/17/03
By Evelina M. Tainer, Chief Economist, Econoday
The Fed's Beige Book, covering anecdotal evidence through the first week of January, suggests manufacturing remains in a slump, labor market conditions are stagnant and holiday sales were disappointing. Housing remains the highlight of growth, although some regions noted a slight moderation of activity. Other economic news reported this week confirmed the Beige Book. Industrial production fell in December; nonauto retail sales were unchanged for the month. The international trade deficit surged as West Coast ports operated at full throttle. It seems that consumer demand is satisfied by imports. Perhaps the best news? Inflation is subdued.
Equity investors began the year on a positive note, believing that economic activity would be on the mend in 2003. Each time war talk comes to the forefront, stock prices tumble. With potential problems on two fronts, it is no wonder investors are skittish.
Markets at a Glance
Weekly percent change column reflects percent changes for all components except interest rates. Interest rate changes are reflected in simple differences.
Bad news bears
Once again, stock prices reverted to their old bear trend this week. Prices rose early in the week but trended lower from Wednesday. Economic figures were generally dismal (aside from friendly inflation news), which bodes poorly for profit margins. At the same time, investors are concerned about issues of war with Iraq and North Korea.
The President's fiscal stimulus plan is in public (and congressional) debate. Who knows what will remain of the original plan and whether there will be any stimulus left? Typically, the economic need of a fiscal policy boost passes before the legislation is enacted. However, sometimes the positive psychology from simply putting forth a plan can benefit markets and consumer attitudes. Nevertheless, stock prices were lower on Friday from the previous Friday's close.
Treasury rally
Yields on Treasury securities generally headed lower this week. Recently, Treasury yields have tended to decline each time stock prices have tumbled. In addition, economic data were generally sluggish suggesting that inflation is not a near term problem. There is also little worry that the Fed will start raising rates any time soon. Finally, Treasury securities benefit as a safe-haven security. Any time talk of war comes to the forefront, investors turn away from increased risk and toward Treasury securities.
Production takes a hit in Q4
The index of industrial production fell 0.2 percent in December, more than reversing the 0.1 percent gain posted in the previous month. Production dropped in September and October as well, thus setting the stage for a tumble in the fourth quarter. Production declined at a 2.4 percent rate in the fourth quarter, retracing two-thirds of the third quarter gain. Production of consumer goods fell as steeply in December as business equipment. Production of nonindustrial supplies as well as construction supplies both posted declines not only in December but for several months. The decline in construction supplies may suggest that soaring housing market is ready for a rest and activity will likely moderate in coming months. It doesn't appear that the nonresidential sector is gearing up for a rebound yet, either. The decline in industrial production in the fourth quarter doesn't mean that the U.S. recovery will stop short, but growth prospects are reduced without a strong industrial sector.
The outlook for January may be improved. The Philadelphia Fed's business outlook survey remained virtually unchanged in January from the December level at just over 11. Any level above the zero mark suggests that manufacturing activity is growing. The business outlook survey has remained above the zero mark for three straight months. It could mean that industrial production will stage a revival soon. Note that the percent change in industrial production tends to move in the same direction as the level of the outlook survey.
International trade spurt
The international trade deficit on goods and services widened sharply in November to $40.1 billion after recording a smaller $35.2 billion shortfall in October. Imports jumped 4.9 percent as ports on the West Coast were once again operating at full capacity now that the labor dispute has ended. Imports surged for capital goods and consumer goods, including autos. Imports of industrial supplies declined, reflecting a reduction in oil imports for the month of November. Exports increased a modest 1.1 percent in November, more than offsetting last month's 0.6 percent drop. The upward trend in export growth is continuing, albeit at a snail's pace compared with the rise in import demand.
The sluggish pace of export demand is one factor that is holding down U.S. production growth. Even with our modest recovery, the U.S. is growing more rapidly than our trading partners. As a result, the trade deficit is continuing to widen. Also, as the foreign exchange value of the dollar weakens, it means that our imports become more costly in dollar terms. The benefit of higher export demand, stemming from a weaker dollar, comes with a lag. It is very likely that the near term trade deficit will continue to widen.
Price Stability?
The producer price index was unchanged in December after declining 0.4 percent in November. Both energy and food prices rose modestly during the month. Excluding these volatile components, the core PPI declined 0.3 percent in December for the second straight month. Auto, light truck and computer prices recorded sharp declines and helped push down the overall index. As a result, the total PPI posted a modest 1.2 percent gain in December 2002 relative to a year ago, not quite reversing last year's 1.7 percent drop. The PPI excluding food and energy prices dipped 0.4 percent in 2002, the first annual decline in this series since it began in 1975. No doubt, the 20.5 percent drop in computer prices from a year ago, along with a 4.7 percent decline in passenger car prices and a 4.3 percent drop in light truck prices, helped dampen the overall index. Other categories which posted moderate declines in December 2002 versus year ago levels: women's apparel, men's and boy's apparel, textile home furnishings, household appliances, home electronic equipment, metal cutting machine tools, textile machinery, transformers and power regulators, communication and related equipment.
The consumer price index inched up 0.1 percent in December, matching the November gain. Energy prices dipped for the second straight month, although food prices edged up modestly. Excluding these two volatile components, the core CPI increased 0.1 percent in December after gaining 0.2 percent in each of the two previous months. Relative to last December, the CPI rose 2.4 percent, somewhat faster than the 1.5 percent gain posted in 2001 but well below the 2000 increase of 3.4 percent. Excluding food and energy prices, the core CPI increased 2 percent in 2002 (actually 1.96 percent since it doesn't quite reach the 2 percent mark on the chart below), its best showing since 1999 when the index rose 1.94 percent for the year. Prices of services rose 3.3 percent in 2002, an improvement over the past couple of years. Goods prices increased a more moderate 1.3 percent, but actually accelerated from a year ago due to a 10.7 percent spurt in energy prices.
Among the various components, medical care costs increased the most while apparel costs actually declined. Food and housing costs, bills that must be paid regularly, posted modest gains for the year. Even after accounting for the rapid price gains for gasoline prices (+24.8%), consumer price inflation was relatively stable last year.
Holiday sales disappointing, but not terrible
Total retail sales increased 1.2 percent in December after posting a solid 0.9 percent hike in November. Strong motor vehicle sales during the last two months of the year were behind this gain. Excluding autos, sales were unchanged in December after a 0.3 percent hike in the previous month. But after all is said and done, non-auto retail sales were pretty solid for the fourth quarter, rising at a 4.4 percent rate. Keeping in mind that higher gasoline prices boosted the dollar value of sales in the fourth quarter, one must also remember that a good amount of discounting was prevalent. From apparel to electronics, prices were marked down causing the dollar value of retail spending to be weak despite pretty goody volumes. At the end of the day, demand is measured in volume, not dollars. Sad to say, companies' profit margins were likely hurt by the sharp discounting.
THE BOTTOM LINE
Inflation news was favorable in December. Price pressures were subdued, thankfully trending upward and not downward. Deflation will not likely be a problem in upcoming months. From a policy standpoint, it is easier to "fix" inflation than deflation. Economic reports on growth were generally negative. Industrial production fell, retail sales were disappointing and the international trade deficit surged. These will all have a negative impact on fourth quarter GDP, dampening growth.
Looking Ahead: Week of January 20 to January 24
Market News International surveys between 10 and 15 Wall Street economists each week for their forecasts of economic indicators.
Tuesday
Housing starts are predicted to remain about unchanged in December at a 1.70 million-unit rate from November's 1.697-million unit rate. The overall level of activity remains strong since interest rates are low. (Forecast range: 1.65 to 1.70 million-unit rate)
Wednesday
Economists are predicting that the federal budget will post a $5 billion surplus for the month of December. In the past couple of years the surplus averaged $30 billion during the month. Economists are looking at a $225 billion budget deficit for fiscal year 2003 (Forecast range: $-1.0 to $5 billion)
Thursday
Economists are predicting that new jobless claims will increase 35,000 to 395,000 in the week ended January 18 from last week's level of 360,000. Changes in jobless claims are typically more volatile in the fall and winter because of a variety of holidays; it becomes more difficult to adjust the data for seasonal variation. (Forecast range: 25,000 to 40,000)
The index of leading indicators is predicted to remain unchanged in December after gaining 0.7 percent in the previous month. Declining stock prices as well as higher jobless claims for the month offset positive factors such as a longer manufacturing workweek, an increase in money supply and slower supplier deliveries. (Forecast range: -0.1 to 0.7 percent) |
