| BUSINESSWEEK ONLINE : JUNE 14, 1999 ISSUE | ||||||||
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| BUSINESS OUTLOOK
U.S.: Wall Street Is Sweating Out Consumers' Next Move The markets seek signs of a slowdown that will ease inflation fears It's almost summertime, and the living isn't so easy on Wall Street. The markets are increasingly jittery over inflation fears and worries that the Federal Reserve is close to lifting interest rates. That's why the 30-year bond yield has climbed from 5.75% in mid-May to more than 5.90%, and why the Dow Jones industrial average is some 500 points below its May 13 peak. The sell-offs stem from worries that economic growth is so strong that cost and price pressures will become troublesome. Not so long ago, rapid growth was not a problem for Wall Street because inflation was so clearly under wraps. Now, though, the large increase in the April consumer price index--whether an aberration or not--in addition to new signs that global demand is firming up, have resurrected market worries about an overheated economy. That is especially true in the bond market, where yields have jumped to their highest levels in a year (chart). Given that the Fed is now leaning toward a rate increase, the market is starting to price in a rate hike, perhaps as early as the Fed's June 29-30 policy meeting. The markets are looking for some evidence that the economy is cooling off from its sizzling 5% growth rate averaged during the past two quarters. So far, the soundings from the second quarter show mixed results. New-home sales in April posted a big gain, but consumer spending in the quarter got off to a surprisingly slow start, and April construction outlays fell sharply. The consumer and construction data mean that two big contributors to growth in both the fourth and first quarters are adding significantly less punch in the second quarter. WHETHER THAT IS THE START of a slowing trend or a brief pause remains to be seen. Indeed, investors are especially nervous right now about the manufacturing sector, which is showing new signs of life after last year's moribund performance. The factory sector had been the economy's weakest area last year, as sagging exports took a toll on output and employment. That slack had allowed a lot of production capacity to stand idle while thousands of factory workers lost their jobs. Those trends helped to keep upward pressure off wages and prices. But manufacturing appears to be gathering some steam. Factory activity has been pulled along by the continued strength in domestic spending. And now that global demand outside the U.S. appears to have bottomed out, a significant weight has been taken off the factory sector. The latest evidence is the May report from the National Association of Purchasing Management. The purchasing managers' index closely tracked the slowdown in manufacturing last year, when output growth slowed to a crawl. Now, the index has rebounded, and other measures of factory activity are starting to look stronger as well. The NAPM index--a composite of output, orders, employment, inventories, and delivery speeds--jumped to 55.2% in May from 52.8% in April (chart). After eight months below the 50% mark, which is the NAPM's dividing line between contraction and expansion in the factory sector, the index has now been above 50% since February, and the May reading was the highest since October, 1997. The May NAPM report suggested a continuation of previous trends of improvement, including rising orders, output, and employment, along with firmer prices and slower deliveries. Export orders also strengthened further in May. AT THE SAME TIME that manufacturing is looking better, the construction industry seems to be flagging a bit. Construction spending in April dropped a sharp 2.4%, with declines in all three sectors--residential, industrial, and government building. The breadth of the drop suggests that much of the fall reflects a giveback after a warm winter boosted building activity in the first quarter. Construction activity, especially housing, accounted for nearly one-fifth of the growth in real gross domestic product in the first quarter, even though the industry accounts for only 7% of all output. For this quarter, however, construction's growth contribution is probably nil. Residential construction began the second quarter only a bit above its first-quarter average, and commercial building started the quarter down by 8.4%. Housing won't collapse, however. Solid consumer fundamentals, such as job and income growth and wealth gains, mean households have little need to reduce their spending. Indeed, sales of new single-family homes in April increased 9.2%, to an annual rate of 978,000, just below the record high of 985,000 hit last November. EVEN SO, A DIP IN BUYING POWER in April meant that consumer spending began the second quarter slowly. The question for the markets is whether the slowdown will be enough to cool the overall economy. Personal income rose a sturdy 0.5% in April, but because of the gasoline-related spike in inflation for the month, real aftertax income slipped 0.1%. That drop in buying power, along with the need of most Americans to settle up tax payments, contributed to a small 0.1% decline in real consumer spending, the first dip in nine months (chart). Still, on a yearly basis, spending is up 5.3%, far better than the 3.5% advance in aftertax incomes. The weakness in demand was concentrated in goods spending. Real durable-goods purchases were off 1.1%, while nondurable goods fell 1%. In particular, price-adjusted sales of gasoline fell a steep 3.2% as some families cut back in response to the recent sharp rise in gas prices. Service demand, meanwhile, rose 0.5% for the second straight month, thanks to a steep rise in fees paid to brokerage firms. They're up 28.2% from a year ago as more consumers decide to play the stock market. The April decline in total purchases meant that real consumer spending started the second quarter at an annual rate of just 1.9% above the average of the first quarter, when spending soared at a 6.8% rate. After that unsustainable sprint, some slowdown was likely. In addition, the recent sell-off in the stock market and rise in long-term interest rates, if sustained, will act to curb spending. The recent decline in the Dow isn't enough to cause consumers to retrench, but it has probably caught their attention. Indeed, it is hard to say how severe a market correction must become before households make drastic cuts in their spending. After all, the Dow plunged nearly 2,000 points in the fall, and consumers kept shopping. What is clear is that this economy cannot slow without help from consumers. And unless the markets see sure signs that growth is slacking off, Wall Street will not find much relaxation this summer. BY JAMES C. COOPER & KATHLEEN MADIGAN _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ BACK TO TOP |
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RELATED ITEMS U.S.: Wall Street Is Sweating Out Consumers' Next Move CHART: Bond Yields Climb Toward 6% CHART: Orders Help to Lift Factory Activity CHART: Households Took a Breather in April INTERACT E-Mail to Business Week Online | |||
