Sunday, February 27, 2005

Economic Week in Review

ECRI Weekly Leading Index 133.90 -.30%

Consumer Confidence for February fell to 104.0 versus estimates of 103.0 and an upwardly revised reading of 105.1 in January. However, Americans were the most optimistic about their current conditions than at any time since September 2001 and the fewest number in almost three years described jobs as hard to get, Bloomberg said. Consumers were less optimistic going forward. "Perhaps all the discussion in the media concerning potential shortfalls in Social Security has made individuals apprehensive about the future," said Michael Moran, chief economist at Daiwa Securities. US consumers spent at the fastest pace in more than four years during the last six months of 2004. Retail sales excluding autos rose twice as much in January as they did a month earlier, evidence shoppers are keeping their wallets open, Bloomberg reported. "Sales trends have improved in 2005, and I believe sales momentum will accelerate as the year progresses," Wal-Mart CEO Scott said.

The Consumer Price Index for January rose .1% versus estimates of a .2% increase and no change in December. The CPI Ex Food & Energy rose .2% versus estimates of a .2% increase and a .2% rise in December. "The inflation numbers today were quite tranquil," former Fed Governor Gramley, now an economic adviser at Stanford Washington Research Group, said in an interview. "We're in great shape," he said. Companies keep offering discounts to lure customers amid competition, excess capacity and rising costs, Bloomberg said. Consumer prices rose 3.0% the past 12 months, right at the historical long-term average. Fed Chairman Greenspan last week told lawmakers "the economy seems to have entered 2005 expanding at a reasonably good pace, with inflation and inflation expectations well anchored." John Shin, an economist at Lehman Brothers said, "One thing we haven't seen is wage pressure, so we're more sanguine about inflation." Finally, David Resler, chief economist at Nomura Securities said, "There is very little reason for the Fed to do anything different than they've been doing: raise rates a little at a time until they get to a neutral rate."

Durable Goods Orders for January fell .9% versus estimates of no change and an upwardly revised 1.4% gain in December. Durables Ex Transportation for January rose .8% versus estimates of a .3% increase and an upwardly revised 2.8% gain in December. The .8% rise in orders excluding transportation equipment prompted economists at Morgan Stanley and JP Morgan to boost first-quarter economic growth forecasts, Bloomberg reported. Except for transportation, "strength predominated" in today's report, said Stephen Stanley, chief economist at RBS Greenwich Capital. Concern that business spending would slow after tax incentives expired at the end of 2004 "can now be officially put to bed," Stanley said. Orders for electrical equipment, appliances and components rose 13% last month, the largest jump ever, Bloomberg reported. As well, orders for non-defense capital goods excluding aircraft, a sign of business investment, increased 2.9% and are up 20% from January 2004. "Almost everything we have got for January so far is coming in at the high side of expectations," said Robert Mellman, an economist at JP Morgan. Economist Bill Mulvihill at Griffin, Kubik, Stephens & Thompson in Chicago said US GDP growth may be about 4.5% during this quarter, Bloomberg reported.

Initial Jobless Claims for last week rose to 312K versus estimates of 309K and 303K the prior week. Continuing Claims fell to 2650K versus estimates of 2693K and 2712K prior. The four-week moving-average of claims, a less volatile measure, fell to 309K, the lowest since the week of Nov. 4, 2000, Bloomberg reported. "The low level of initial claims and the drop in continuing claims point to a pickup in hiring in February," said Wesley Beal, chief US economist at IDEAglobal. The economy probably added 225,000 jobs in February, the most in four months, according to the median forecast in a recent Bloomberg survey. "There are lots of jobs out there, but employers can't find the qualified employees they need," said Gina Martin, an economist at Wachovia Corp. "There is a disconnect between the education of the people that are unemployed and the skills that employers are looking for," Martin said.

The Help Wanted Index for January rose to 41, the highest level in almost 2 years, versus estimates of 38 and a reading of 38 in December. "There is now clear evidence that the labor market has shifted up a gear over the past couple of months," said Ian Shepherdson, chief US economist at High Frequency Economics. "Both jobless claims and the help wanted index improved materially in February," said Jay Feldman, an economist at CSFB. "We are revising up our payroll forecast to 275,000 from an earlier forecast of 190,000." Finally, Conference Board economist Ken Goldstein said, "If new jobs continue to open up, consumer expectations could turn even more positive this spring."

Preliminary 4Q GDP rose 3.8% versus estimates of a 3.7% increase and a prior estimate of a 3.1% gain. The Preliminary 4Q GDP Price Deflator rose 2.1% versus estimates of a 2.0% increase and a prior estimate of a 2.0% gain. Preliminary 4Q Personal Consumption rose 4.2% versus estimates of a 4.6% increase and a prior estimate of a 4.6% gain. The better-than-expected GDP number was a result of a smaller trade deficit and increased business spending on equipment and software, Bloomberg reported. "Capital expenditures are developing a head of steam," said former Fed Governor Gramley. "First-quarter GDP is going to be well above 4%, maybe 4.5%," he said. Ted Wieseman, an economist at Morgan Stanley said, "There is good reason to believe that not only capital spending but hiring is picking up, and that is going to be a key driver for the economy." "The strength of the recovery in the face of a 25% run-up in oil prices is a testament to the recovery's resilience," said Robert DiClemente, chief US economist at Citigroup. Spending on equipment and software grew at an 18% annual rate in the fourth quarter, following a 17.5% increase in the prior quarter. The back-to-back gains are the strongest since the six months that ended in September 1997, Bloomberg reported. Finally, the core personal consumption expenditures price index, Greenpan's favorite measure of inflation, rose 1.6% during the fourth quarter, within the Fed's preferred range of 1-2%, Bloomberg said.

One-Family Home Re-sales for January fell to 5.94M versus estimates of 6.7M and a downwardly revised 5.97M in December. Sales were strongest in the South, rising 3.5% for the month. The median price of a previously owned home fell to $189,000 last month from $191,000 in December, Bloomberg said. However, the median price was up 10.5% from January 2004. "We do have characteristics of bubbles in certain areas, but not, as best as I can judge, nationwide," Greenspan said during Congressional testimony Feb. 17. "I don't expect that we will run into anything resembling a collapsing bubble," he said. Moreover, the supply of homes available for sale, another gauge of housing demand, declined to a record-low 3.7 months' worth in January, Bloomberg reported. The 30-year fixed mortgage rate in January averaged 5.66%, near its 40-year low reached in June of 2003 and down from 5.81% in December, Bloomberg said. "We're seeing a lot of first-time home-buyers on the market," said Scott Jones, a loan officer at Weichert Realtors in Oakton, Virginia.

Bottom Line: Overall, last week's economic data were positive. Consumer Confidence is definitely being dampened by the negative political rhetoric surrounding Social Security and talk of nuclear proliferation, even as consumer spending remains strong. However, as time passes the effects of this should subside. In the near-term, I expect confidence to rise modestly as increasing gas prices mostly offset better job prospects, low long-term interest rates and improvements in Iraq. The modest rises in the CPI and the Core PCE show that inflation is well in check. Companies are finding other ways to absorb rising costs, as evidenced by their very strong profit growth, without passing these increases on to the consumer. As well, the overcapacity generated during the 90's and global competition still makes it incredibly hard for companies in many sectors to raise prices. The airline, telecom, auto, technology and retail sectors are some of the main areas still facing immense pressure to keep prices low. Rising home values do not have the same negative effect on consumer psyche as increases in goods and services due to the fact that homes are an investment. I am still keeping a close eye on unit labor costs, which comprise two-thirds of inflation, as the job market appears to be accelerating. Any substantial increases in labor costs for a sustained period would prompt the Fed to accelerate their pace of rate hikes. I currently do not anticipate this to be a problem. The fact that Durable Goods Orders are as strong as they are so far this year is remarkable considering the many forms of stimulus that hit the US economy during the fourth quarter of 2004. I had expected that 4Q/04 growth stole from 1Q/05 growth, but this does not appear to be the case. This bodes very well for another strong year for the US economy. I now expect US GDP growth of a healthy 3.5% for the year. While the housing market in some areas of the country is exhibiting bubble-type characteristics, many other areas are not. Considering this winter has been one of the wettest on record, the housing market remains quite robust. I continue to expect a slowing from record levels to more sustainable healthy levels. Finally, the ECRI Weekly Leading Index fell .30% for the week, staying near its highest level since May of 2004.

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