Economic Highlights for the week ended March 7, 2008

Economic Week In Review: March Arrives As Wounded Lion, Growling Bear

Vanguard 3/7 - A new month brought more bad economic news. The labor market report was the week's most negative. Construction spending, factory orders, productivity and labor costs, and both the manufacturing and nonmanufacturing sectors didn't offer any solace. For the week, the S&P 500 Index fell 2.8% to 1,293 (for a year-to-date total return of –11.9%). The yield of the 10-year U.S. Treasury note rose 3 basis points to 3.56%.

Nonfarm Payrolls: Employment Situation Worse Than Feared

Vanguard 3/7 - U.S. nonfarm payrolls tumbled 63,000 in February, their second straight drop and the largest decline since March 2003, according to the Labor Department. The report was a surprise as economists were expecting a gain of 25,000 jobs and provided further evidence the nation may already be in a recession. Private industry payrolls fell 101,000, while government payrolls added 38,000. Manufacturing, construction, and retail trade accounted for much of the weakness.
Bear Stearns 3/7 – January payrolls were revised to show a 22,000 drop in employment (there were net downward revisions to payrolls in the prior two months totaling 46,000).  The weakness in payrolls was broad based as the employment diffusion index fell to 45.6%, the lowest since August 2003.
The unemployment rate fell to 4.8% in February from 4.9% in January.  The decline in the unemployment rate was the result of a 450,000 drop in the civilian labor force as labor force participation fell to 65.9% from 66.1%.  Household employment fell 255,000 in February.
Back-to-back nonfarm payroll declines and three consecutive private payroll contractions are a strong indication that the economy has fallen into recession.  The decline in the unemployment rate does not conflict with this message because it is a result of reduced labor force participation (less willingness to look for a job), which likely reflects a deteriorating assessment of the labor market (as supported by the Conference Board's consumer confidence survey).  We think the recession began in December 2007, which makes the last economic expansion six years and one month long.  This report raises the odds that the Fed will either cut by 75 basis points on March 18th, or deliver an intermeeting 50-basis-point rate cut and follow up with another cut at the March meeting.

Jobless Claims Fell By More Than Expected In Final Week Of February

Bear Stearns 3/6 - Initial jobless claims fell by more than expected, declining 24,000 to 351,000 in the week ending March 1st.  The four-week average of claims fell 1,500 to 359,500.
Initial jobless claims have risen toward 360,000 in February, suggesting that layoffs have picked up in the month. 

Construction Spending Continues Retreat

Vanguard 3/7 - The Commerce Department reported January's construction spending slid 1.7% from December and 3.3% from a year ago. A 2.9% drop in residential construction drove a 2.2% decrease in private construction. Public construction dipped 0.2%. The fall in construction spending is a symptom of the weak U.S. housing market.
Bear Stearns 3/3 - No good news here in January with all three components of construction spending pulling down growth.  We will have to watch private nonresidential construction outlays closely going forward given January's drop in spending in this area (nonresidential structures investment has provided important support to growth, adding an average of 0.5% point per quarter to growth in 2007 and thus offsetting half the drag from residential construction).

Productivity, Unit Labor Costs Upwardly Revised

Vanguard 3/7 - The Labor Department reported nonfarm business productivity and unit labor costs were both upwardly revised in the fourth quarter from previous estimates. Nonfarm business productivity climbed 1.9%, revised from last month's 1.8% estimate. Unit labor costs grew 2.6%, revised from 2.1% last month. The rise of labor costs in a weak economy is a concern because of inflationary threats. Productivity increased 2.9% in the fourth quarter of 2007 from the previous year.

Factory Orders Fall For First Time In Five Months

Vanguard 3/7 - New orders for manufactured goods dropped 2.5% in January, according to the Commerce Department. This figure matched expectations and was the first decline after four straight monthly gains, another sign the economy is slowing. Durable goods orders decreased a revised 5.1%, while nondurable goods orders increased 0.3%. Also rising were shipments of durable and nondurable goods, unfilled orders, and inventories.
Bear Stearns 3/5 - Inventory accumulation has picked up over the last two months and, although Inventory-Sales ratios remain fairly low by historical standards, this rising inventory investment may act as a brake on manufacturing growth in the coming months.

ISM: Manufacturing Sector Worsens

Vanguard 3/7 - February's ISM Index—a monthly survey of purchasing managers by the Institute of Supply Management—decreased to 48.3% after hitting 50.7% in January. This is its lowest number since April 2003, and the second time in the past three months it's been below 50%. (Readings below 50% generally indicate the manufacturing sector is declining.) The outlook wasn't entirely bleak. Despite falling to 56.0% from 58.5% in January, new export numbers were solid.
Bear Stearns 3/3 - Although weak, this report was not as weak as we had feared and still leaves us shy of making a call that the economy has already slipped into recession.  The two pockets of good news are that inventory levels are contained and the global economy continues to support growth.  The bad news is that new order levels have fallen for three straight months, which has not happened since the 2001 recession.

Nonmanufacturing Sector Continues Struggle

Vanguard 3/7 - The Institute of Supply Management's Non-Manufacturing index rose 4.7% to 49.3% in February, above January's reading of 44.6%. The news wasn't necessarily good. Figures of 50% or less indicate a contraction, and the index is still below December's 53.2% figure. Business activity rose to 50.8% from 41.9% the previous month, but is still off 2007 levels.
Bear Stearns 3/5 - Although this survey rebounded in February from recession-like readings in January, it nonetheless points to flat-to-modestly contracting nonmanufacturing activity. 

Beige Book Reports Slowing

Vanguard 3/7 - The Beige Book, the Federal Reserve's anecdotal survey of regional economies, showed a generally sluggish economy sprinkled with some bright spots. The release was based on economic conditions from January and the first half of February. Weakness in the retail and real estate markets and difficult credit conditions contributed to the malaise. Manufacturing, the nonfinancial services sector, and agriculture were mixed. Tourism propped up consumer spending, and the Manhattan condominium market was an oasis in the otherwise poor real estate market.

Consumer Credit Debt Rises

Vanguard 3/7 - The Federal Reserve reported consumer credit outstanding grew $6.9 billion in January to $2.5 trillion. Revolving credit (credit card balances) was responsible for most of the increase, which equaled a 3.3% annual rate. While revolving credit grew at a 7.0% annual rate, nonrevolving credit (loans) rose 1.1%.

Fed Activity: TAF Increase

Bear Stearns 3/7 - The Fed announced an increase in the size of the TAF program from $60 billion to $100 billion in March, with the first auction being a $50 billion auction of March 10th, followed by a second $50 billion auction on March 24th.
In addition, beginning today, the Fed will initiate a term repo program expected to cumulate to $100 billion.  At the present time, there are roughly $50.8 billion in outstanding repos.  Primary dealers can deliver Treasury, agency debt, or agency mortgage-backed securities as collateral  for the repos.
This action to ease liquidity problems in the market is the correct one and the liquidity projections will be counterbalanced by a rundown in the Fed's holdings of Treasury securities.  Given the size of the TED spread, market prices are telling us that this is the correct action from the Fed and may be followed by the ECB reconsidering the use of its outstanding currency swap line with the Fed.

The Economic Week Ahead: March 10 – March 14

Vanguard 3/7 - A variety of economic news will be available next week. Scheduled for release are reports on wholesale trade (Monday), international trade (Tuesday), retail sales and business inventories, weekly jobless claims (Thursday), and the consumer price index (Friday).