August 2009 - Fed and Economy Watch

Government incentives to boost the economy appear to be working, as consumers decided to cut the savings rate and spend more (mostly on cars) in July, even as incomes failed to move forward. Personal incomes rose less than 0.1% in the month, with wages & salaries recovering just 0.1% following a 0.3% loss in June. Compared to last year, incomes are down 2.4%, but the minor gain in wages is the first positive number in close to a year. Spending edged up 0.2%, a decent gain following a 0.8% advance in June, but consumption will have to advance another 1.6% to match last year’s levels. The upward movement wasn’t broad-based, but rather a reflection of the Cash for Clunkers program, which boosted durable goods spending on cars by 1.8%.

A weekly look at applications for jobless benefits showed fewer people filing for initial claims than the previous week, but the change is marginal and doesn’t change the bigger story: the labor market remains awful. First-time claims for jobless benefits fell by 10k last week to 570,000, the lowest level since the first week of August. The prior week’s data was pushed up 4k to 580,000.

A ten-point rebound in consumer expectations caused a closely-watched measure of consumer confidence to rebound beyond expectations in August. However, the component tracking consumer assessments of present conditions remains deeply pessimistic. The Conference Board index climbed to 54.1 this month, after moderating to 47.4 in July. Equity markets, already trading higher since the open, moved upwards on the release, as the consensus among analysts was for a 47.9 reading.

Two reports half an hour into the trading session indicated that the economy is turning for the better. The Leading Indicators Index (LEI) moved up for its fourth straight month in July, and the regional manufacturing report from the Philadelphia Federal Reserve rose to its highest level since November 2007. The LEI is a composite index that uses a broad gauge of economic data to track turning points in the economy. The 0.6% advance in July puts the six-month index at an annualized pace of +6.2%, marking a substantial improvement from the -5.4% annualized decline seen in the second half of 2008.

Producer prices were sharply declined in July, in contrast to last week’s consumer inflation report, which indicated prices were flat in the month. Total PPI fell 0.9% in the month, triple what the market was expecting, as food prices fell 1.5% in the month and the energy index sunk 2.4%. In June, food prices had advanced 1.1% while energy prices surged 6.6%. No one is calling it a deflationary spiral as the fluctuations are confined to energy and food, which have pushed producer prices down 6.4% since last year.

Stock markets opened sharply lower on Monday morning with all three major indexes more than 2% lower in the early minutes of trading. Losses could have been even worse but equity futures moderated somewhat before the bell, following an upside surprise in the New York Fed’s manufacturing survey. The Empire State Manufacturing Survey indicates that conditions for New York manufacturers are at their most optimistic level since November 2007. The headline Business Conditions index expanded by 13 points to a +12 reading in August, with New Orders jumping almost 8 points to +13.4, and Shipments advancing 3 points to +14.1

The monthly Consumer Price Index failed to provide much excitement this morning as prices were unchanged in July, after advancing a startling 0.7% in June. But prices have fallen 2.1% since last year, which marks the biggest descent since 1950. Plus, July marks the 5th straight month in deflationary territory, “the longest string since 1995,” as Jennifer Lee from BMO points out. She said the only surprise in the report was a 0.5% uptick in prices for new vehicles, which should be reversed in August.

It’s up for interpretation whether this is good or bad news. Businesses slashed their inventories by the 10th straight month in June and by a greater margin than expected ― -1.1% versus expectations of -0.8%. On the surface that’s bad news. But it’s now mid-August, the economy is thought to be stabilizing, and the more inventories were slashed in the past, the more they can grow in the future. So reduced inventories are bad for second-quarter GDP, but for the current quarter the report suggests businesses will have to restock as soon as executives are confident that recovery is underway.