Economic Highlights for the week ended March 14, 2008

Economic Week In Review: The Song Remains The Same

Vanguard 3/14 - Once again, the week's economic news was mostly unpleasant. Retail sales fell, the trade deficit grew, and business inventories rose. Even the good news—an easing of inflation pressure—was widely seen as bad news in disguise. For the week, the S&P 500 Index fell 0.4% to 1,288 (for a year-to-date total return of –11.9%). The yield of the 10-year U.S. Treasury note fell 12 basis points to 3.42%.

International Trade - January

Vanguard 3/14 - The weak U.S. dollar helped boost exports in January, but imports rose a bit faster. The monthly trade deficit in goods and services widened by 0.6%, to $58.2 billion, thanks in large part to an 8.0% rise in the value of crude oil imports. The U.S. imported 421 million barrels of oil in January, up from 387 million in December. With oil and oil-related products factored out, the goods deficit shrank 7.8%. Over the past year, total exports of goods and services rose 16.6%, while imports were up 11.9%.
Bear Stearns 3/11 - Though early in the quarter and subject to revision, the narrowing in the real trade gap in December versus the fourth-quarter average suggests that the current account has started the first quarter on track to add fairly significantly to GDP growth.  The regional data on exports continue to point to broad-based growth overseas.

NFIB Small Business Optimism Index - February

Bear Stearns 3/11 - The NFIB small business optimism index improved from 17-year lows in the prior month, rising slightly to 92.9 in February from 91.8 in January.
The percentage of firms raising prices and increasing employment both rebounded in February following declines in January.  In short, the report is consistent with fairly stagnant small business activity and rising inflation pressures.

Retail Sales Decline Unexpectedly - February

Vanguard 3/14 - Consumers tightened their purse strings in February, judging from a surprising 0.6% drop in retail sales. Most analysts had expected a slight increase. January's sales figure was revised upward to 0.4%, placing February's decline in sharp relief. Sales were down in almost every retail category—furniture stores, appliance stores, building material retailers, and so on. Even gas stations and grocery stores posted declines, suggesting that rising prices for food and energy have truly hit home. Compared with the same period last year, overall sales were up by a relatively weak 2.6%.
Bear Stearns 3/13 - The decline in core retail sales and overall retail sales over the last three months underscores the weakness of the consumer and is a further indication of an economy in recession.

Import Prices - February

Bear Stearns 3/13 - Import prices were lower than expected, rising 0.2% in February.  Surprisingly (given the increase in spot oil prices), imported petroleum prices fell 1.5% in the month.  Over the last 12 months, import prices have surged 13.6% (down slightly from the record-high 13.8% year-over-year increase in January).
Although import prices rose less than expected on a decline in imported oil prices, we are likely to see catch-up next month with crude oil up near $110 a barrel.  Despite the decline in overall price inflation, core inflation rose sharply in February as non-fuel import price inflation rose to 4.3% on a year-over-year basis.

Jobless Claims – Week ended March 8

Bear Stearns 3/13 - Initial jobless claims were lower than expected, remaining unchanged at 353,000 in the week ending March 8th.  The four-week average of claims fell 1,250 to 358,500.
Although below expectations, jobless claims remain elevated.  Given that we judge the economy to be in recession, we expect jobless claims to move up toward 400,000 over the coming months.

Business Inventories Rose 0.8% In January

Vanguard 3/14 - Warehouses got a little more crowded in January, with total business inventories rising by a bigger-than-expected 0.8%. Auto inventories were up 0.4%. The inventory-to-sales ratio, a measure of how long it would take for existing inventories to be depleted at current sales levels, dipped slightly, from 1.26 to 1.25.
Bear Stearns 3/13 - While the business inventory-to-sales ratio remains very low (and thus the inventory cycle is likely to play a smaller-than-usual role in any recession-recovery dynamics), the recent build-up in inventories will likely exert a dampening impact on economic activity over the coming few months.

Surprisingly Muted CPI in February

Vanguard 3/14 - The inflation threat seemed to ease a bit in February, with the Consumer Price Index (CPI) virtually flat. Few analysts celebrated the news, however. Two cautionary factors were cited: a temporary slowdown in oil-price hikes during late January and early February and, more discouragingly, an overall slowdown in economic activity nationwide. Most economists expect inflation to resume its upward creep in coming months. Over the past year, the CPI was up 4.1%. With food and energy factored out, the "core" CPI was up 2.3%.
Bear Stearns 3/14 - Overall CPI prices were well below expectations, remaining unchanged in February.  Food prices rose 0.4% in February and energy prices fell 0.5%.
Despite the surprisingly low inflation readings in February, there is no real change in the underlying inflation trends if you compare three-month core inflation trends with the inflation rate over the last year.  Moreover, with the dollar falling sharply and oil prices continuing to move significantly higher, we expect the inflation picture to deteriorate later in the year.  However, from the perspective of next week's FOMC meeting, this inflation report provides no obstacle to what we expect will be a 75-basis-point cut in the fed funds rate.

Univ. of Michigan Consumer Sentiment Weak, 5-year Inflation Expectations Moderated

Bear Stearns 3/14 - The University of Michigan’s consumer sentiment gauge fell by less than expected, to 70.5 in early March from 70.8 in February.  Current conditions rose to 84.6 in March from 83.8 in February, while expectations dropped to 61.4 from 62.4 in the prior month.
Consumer sentiment remains extremely weak in early March.  On the inflation front, the Fed will likely take comfort in the moderation in medium-term inflation expectations.

Fed Watch

Bear Stearns 3/12 - Although the Fed rolled out the Term Securities Lending Facility (TSLF) program, we still expect it to cut interest rates sharply next week.  However, we think that the Fed would prefer to cut rates by only 50 basis points given the cumulative reduction of 225 basis points in the funds rate to date and the obvious signs of inflation pressures.  Fed policy actions to date have commingled lender-of-last-resort and financial market stabilization actions with macroeconomic stabilization actions.  We think the reason the Fed has had to rely so heavily on monetary policy (lowering the funds rate) is because of important gaps in the lender-of-last resort safety net.
Bear Stearns 3/17 - Even before the latest stresses of the financial markets hit, we think the economy had fallen into a technical recession and these (weak manufacturing reports 3/17) data remain consistent with this theme.  With the velocity of events picking up markedly since the middle of last week, we expect the Fed to cut the funds rate by 100-basis-points tomorrow (a call we adopted on Friday) in addition to the funding facility that was announced for primary dealers.

The Economic Week Ahead: March 17 – March 21

Bear Stearns 3/14 - Events in financial markets and Tuesday’s FOMC meeting are probably far more important events for the markets than the upcoming economic data.  In light of the events of Friday, the fed funds futures market is now leaning in the direction of a 100-basis-point cut, which would lower the funds rate to 2%.  The implicit probability of a cut of a full percentage point versus a three-quarter point cut is now 56%.  In the current environment, we do not think the Fed will want to risk adversely surprising the market.

Vanguard 3/14 - Tuesday's scheduled meeting of the Federal Reserve's Open Market Committee will likely dominate economic headlines next week. Also making news will be reports on industrial production, residential construction, producer prices, and leading economic indicators. U.S. financial markets will be closed Friday in observance of the Good Friday holiday.