FEDERAL RESERVE CUTS FEDERAL FUNDS RATE

As many expected, the Federal Reserve cuts the Federal Funds rate, the rate at which banks can borrow from the Fed on an overnight basis, by one-quarter point on Wednesday. This may be the last rate cut for some time as concerns over inflation may cause the Federal Reserve to hold rates or even raise them going forward.

From The New York Times:

The Federal Reserve, mixing concern about the feeble economy with worries about rising inflation, reduced short-term interest rates Wednesday for the seventh time since September, while signaling a pause in any additional rate cuts for now.

The Fed’s action brought the federal funds rate — the rate it charges banks for overnight loans — to 2 percent, from 2.25 percent, the lowest level since November 2004. It defended that step as necessary to counter the ailing housing sector and the “considerable stress” shadowing financial markets.

The move followed new indications that the economy remained fragile at best. The Commerce Department reported early Wednesday that the economy expanded only 0.6 percent on an annualized basis in the first three months of 2008, short of an overall downturn but still far from healthy.

ASIAN INFLATION IMPACTS U.S.

With so many cheap goods imported from China, Vietnam, South Korea, and Japan, as inflation increases in those countries, shoppers at places like Wal-Mart in the United States are going to pay higher prices, putting pressure on U.S. consumers and increasing U.S. inflationary pressures.

From The New York Times:

The free ride for American consumers is ending. For two generations, Americans have imported goods produced ever more cheaply from a succession of low-wage countries — first Japan and Korea, then China, and now increasingly places like Vietnam and India.

But mounting inflation in the developing world, especially Asia, is threatening that arrangement, and not just in China, where rising energy and labor costs have already made exports to the United States more expensive, but in the lower-cost alternatives to China, too.

“Inflation is the major threat to Asian countries,” said Jong-Wha Lee, the head of the Asian Development Bank’s office of regional economic integration.

It is also a threat to Western consumers because Asian exporters, even in very poor countries, are passing their rising costs on to customers.

FEBRUARY CONSUMER INFLATION IS FLAT

The Consumer Price Index came in flat this morning, showing no change in consumer prices from January through February. According to The New York Times, economists had expected an increase of 0.3%.

Core inflation, which excludes food and energy, also came in unchanged.

From AP via The New York Times:

Consumer inflation, which had been pushing relentlessly higher, posted its mildest reading in six months in February as the costs of energy and food moderated. The relief was expected to be short-lived, given that energy prices have resumed their upward climb.

The better-than-expected February inflation reading will likely be reversed in coming months, considering the big surge in energy prices in recent weeks. Crude oil hit a record high this week above $110 per barrel and gasoline pump prices jumped to a national record of $3.267.

PRODUCER PRICES UP 1% IN JANUARY

The Producer Price Index (PPI) was up a whopping 1.0% in January due to rising energy, food, and medicine prices. The gain was more than double what economists had been expecting.

From USA Today:

Producer prices were up 7.4% from January of last year, the steepest climb since October 1981, the Labor Department said.

The worse-than-expected performance is certain to capture attention at the Federal Reserve. Fed officials have chosen to combat a threatened recession by aggressively cutting interest rates, believing that they have room to do so because weak economic growth will keep a lid on prices.

HIGHER FOOD PRICES HURT CONSUMERS

Retail food prices increased 4% in 2007, the largest increase in 17 years. This NBC News video examines the issue.

STAGFLATION MAY BE BACK

We are all aware of the definitions of inflation and deflation, price increases and decreases over time; however, there is another 'flation, stagflation, which many college students today are not familiar with, but those who lived through the 1970s wish they could forget. Stagflation is made up of two words, stagnation and inflation. The stagnation refers to a stagnating economy, in other words one in which there is slow or no growth. That is combined with inflation to form stagflation, a period of slow or no growth and rising prices, an unpleasant combination that the United States has been happy to avoid for decades, but one that may be happening again right now.

From The New York Times:

Lately, many people are hearing an echo — faintly perhaps but distinctly audible — of the stagflation of the 1970s.

Even as economic growth sags, oil and gasoline prices are surging to new heights. Gold is on the rise, along with the prices of such basic commodities as wheat and steel. And on Wednesday, with the latest government report on consumer prices, there are signs that overall inflation, after years of only modest increases, may be breaking out of its box.

“They are cutting rates with a bill to be paid later," said John Ryding, chief United States economist at Bear Stearns. “The question is not, will we get inflation, but how much will it cost to stuff the genie back in the bottle. This has the feel of 1970s stagflation.”

Over the last 12 months, consumer prices are up 4.3 percent on average, according to the Labor Department. The core index of consumer price inflation, which excludes food and oil, was 2.5 percent higher in January than a year earlier, significantly above the Fed’s unofficial comfort zone of a 1 to 2 percent underlying inflation rate. That’s a far cry from the double-digit inflation rates that battered the economy at times in the 1970s, but still worrisome.

CONSUMER PRICE INDEX UP 0.4% IN JANUARY

Consumer prices rose more than expected in January led by sharp increases in food, gasoline, and transportation. This data shows that inflationary pressures are gaining, causing many to predict that the Federal Reserve will be forced to keep key interest rates at current levels or potentially raise them, thus fighting inflation, but potentially causing the economy to stall or worse during what many already see as a weak economy.

From The New York Times:

The Consumer Price Index rose 0.4 percent in January, a bigger gain than economists had predicted. Over the last 12 months, the index has surged by 4.3 percent, one of the highest year-over-year rates in decades, the Labor Department said.

The rise was led by increases in the costs of food, gasoline, shelter, and transportation. The so-called core inflation rate, which excludes food and gasoline prices, ticked up 0.3 percent last month.

The core rate is 2.5 percent above its level in January 2007, above the Fed’s recognized comfort zone ceiling of 2 percent.

INFLATION HEATS UP IN CHINA

Consumer inflation in China was reported at 7.1% today, while producer inflation was reported to be at 6.1% on Monday in a separate report. Both measures are annual inflation rates that compare prices in January of 2007 to January of 2006. Some economists believe these figures actually underreport true inflation in China due to the price controls that have been put on some products by the government.

For comparison, the United States consumer inflation rate reported through the Consumer Price Index (CPI) was 4.1% in 2007 versus 2.5% in 2006, while the Producer Price Index (PPI) was 6.3% in 2007 versus 1.1% in 2006.

From The New York Times:

Yu Yongding, the influential director of the Institute of World Economics and Politics at the Chinese Academy of Social Sciences and until 2006 a member of the monetary policy committee of China’s central bank, said that high inflation in January meant that the Chinese government was likely to continue pursuing austerity policies.

To fight inflation, China is likely to allow its currency to “appreciate continuously” so as to hold down the cost of imports, despite signs that economic slowdowns in the United States and elsewhere may cool demand for Chinese exports, Mr. Yu said.

“Inflation is the No. 1 enemy for China,” he said in a telephone interview. “It’s affordable for us to sacrifice a little on the growth side to bring inflation under control.”

Chinese exporters are trying to pass on their rising costs to overseas customers, which could contribute to inflation in the United States and Europe.

BANK OF ENGLAND CUTS RATE, ECB HOLDS STEADY

The Bank of England, the central bank of the United Kingdom, cut its key interest rate from 5.5% to 5.25% today while the European Central Bank (ECB) held firm at 4.0%. This is the second rate cut for the Bank of England while the ECB has been at 4.0% since June of 2007.

From USA Today:

Many say the bank [ECB] may have to cut rates later this year despite the rising level of inflation in the 15-nation euro zone — a bloc of more than 318 million people that accounts for more than 15% of the world's gross domestic product.

The Bank of England's decision was expected given that its governor, Mervyn King has acknowledged that the bank is facing a "difficult balancing act," with inflationary pressures from higher energy and food prices and a falling British pound weighed against data showing slowing economic activity and turbulence on financial markets.

"The prospects for output growth abroad have deteriorated and the disruption to global financial markets has continued," the Bank of England said in the statement explaining its rate cut.

INFLATION IN CHINA LIKELY TO INCREASE INFLATION IN U.S.

For years Americans have come to rely on inexpensive imports from China, and China has happily delivered. Inflation, long tame in China, is roaring again and American consumers can expect to pay higher prices for Chinese imported goods this year.

From The New York Times:

American consumers could see prices increase by as much as 10 percent this year on specific products — including toys, clothing, footwear and other consumer goods — just as the United States faces a possible recession.

In the longer term, higher costs in China could spell the end of an era of ultra-cheap goods, as well as the beginning of China’s rise from the lowest rungs of global manufacturing.

Chinese imports constitute 7.5 percent of spending by Americans on consumer goods, but they make up much bigger shares of several popular categories, including about 80 percent of toys, 85 percent of footwear, and 40 percent of clothing.

While no reliable figures exist on average Chinese wages, experts say that factory wages have risen 80 percent or more in many coastal areas in recent years, with the lowest wage about $125 a month.

To reduce costs, some factory owners are considering moving to inland China, where wages are lower, or to other parts of Asia, like Vietnam and Indonesia.

CHINA EXPERIENCING PROBLEMS TAMING INFLATION

From The New York Times:

Consumer prices unexpectedly surged again last month in China despite price controls on a wide range of industries, and this month holds the prospect of even higher inflation.

For years, flat or falling prices for Chinese goods helped restrain inflation in the United States. But now rising costs for American imports from China are complicating the task of the Federal Reserve. The Fed has been cutting interest rates to help weak housing and credit markets in the United States, but has been wary that low rates might permit inflation to creep back into the economy.

Prices were 6.5 percent higher in October than a year earlier, accelerating from 6.2 percent in September, China’s statistical agency announced on Tuesday. The October inflation rate matched an increase of 6.5 percent in August, China’s highest inflation rate in nearly 11 years.

Rising prices are an especially dangerous problem for China, where public acceptance of one-party rule depends to a considerable extent on ever-rising prosperity. With food prices increasing the fastest — they were up 17.6 percent in October from a year earlier — many poor and working-class families are struggling to make ends meet.

Just this past Saturday in Chongqing, people began lining up before dawn when a Carrefour store offered a discount on large jugs of cooking oil, an essential for a lot of Chinese cooking. When the doors opened, a stampede ensued, killing 3 people and injuring 31. China’s commerce ministry responded on Monday by ordering a ban on limited-time sales promotions.

PPI INCREASES SLIGHTLY IN OCTOBER

From Reuters via USA Today:

Producer prices advanced by a smaller-than expected 0.1% in October as prices for energy and light trucks fell, Labor Department data showed Wednesday, while a key measure of core inflation at the producer level was flat with September.

The October gauge of prices paid at the farm and factory gate was below economists' forecasts for a 0.3% rise after a 1.1% increase in September.

Energy prices fell 0.8% in October after a 4.1% rise in September, while prices for light trucks, which include slow-selling sport-utility vehicles and pickups, fell 2.7% in October.

Core producer prices, which strip out volatile food and energy costs, were unchanged from September. They had been forecast to rise 0.2% after a 0.1% rise in September.

Core prices excluding cars and light trucks, however, rose 0.2% in October.

FEDERAL RESERVE CUTS KEY RATE QUARTER POINT

From The New York Times:

The Federal Reserve gave investors what they wanted today, lowering short-term rates for the second time in two months.

But it quietly warned Wall Street not to expected to assume that more reductions are ahead.

The move, to reduce short-term rates by a quarter point to 4.5 percent, was aimed at preventing the meltdown in housing from crippling the rest of the economy. But the vote was not unanimous, reflecting disagreement among policymakers about the risks that confront the economy.

Investors were generally pleased, and stocks were up modestly after briefly giving up most of their gains for the day immediately after the announcement. But Treasury prices fell, reflecting some concerns that lower interest rates could stoke inflation. Oil prices surged nearly 4 percent and gold futures were up about 1 percent. The dollar modestly weakened against other major currencies.

CONSUMER INFLATION UP 0.3% IN SEPTEMBER

From The New York Times:

Inflation stayed steady in September, indicating that the Federal Reserve has room to cut interest rates again, but most likely not this month.

Prices of consumer goods ticked up 0.3 percent in September, slightly faster than expectations and a reversal of a 0.1 percent decline in August. The core rate, a key gauge of inflation that excludes more volatile food and energy prices, held at 0.2 percent, where it has stood since June, the Labor Department said this morning.

Core inflation rose 2.1 percent since last September — the lowest year-over-year growth in 18 months — suggesting that pricing pressures have stayed in check. But the Fed, which keeps close tabs on inflation to determine its benchmark interest rates, prefers a rate between 1 percent and 2 percent. A bubbling-up of inflation, coupled with recent reports that point to a more resilient economy than analysts had expected, makes it more likely the Fed will keep rates unchanged when it issues its decision on Oct. 31.

CHINA TRYING TO COOL ECONOMY, FIGHT INFLATION

Many observers had wondered for years how China's economy could grow at 10+% per year and yet only encounter minimal inflation. Some suspected, and many still suspect, that the Chinese have simply underreported inflationary data. Others think that while China may have actually enjoyed low inflation in the past, that the country now will have to grapple with rapidly rising inflation. What is clear, is that China is now trying to slow the economy and fight inflation.

From USA Today:

China's central bank said Saturday it was boosting the amount of money that its banks must hold in reserve for the eighth time this year, reducing the amount available for lending in an effort to cool an investment boom.

The bank said in a statement on its website that it had raised the rate by half a percentage point to 13% to "strengthen liquidity management in the banking system and check the excessive credit growth."

The change takes effect Oct. 25, the People's Bank of China said.

The order, which had been expected by industry analysts, comes on top of repeated interest rate hikes and investment curbs imposed on real estate, auto manufacturing and other industries in an effort to cool a boom that Chinese leaders worry could ignite inflation or a financial crisis.

The rate rise also follows the recent release of government figures on inflation.

The inflation rate jumped 6.5% in August — its highest monthly rate in 11 years — propelled by a double-digit rise in food prices, including pork, the country's staple meat.

That follows a rise in consumer prices in July of 5.6% over the same month last year.

The central bank has already said it expects the inflation rate for the year to exceed the government's 3% target.

China announced on Friday that the trade surplus, a key source of domestic liquidity, remained high at US$23.91 billion in September.

The last reserve ratio hike took effect Sept. 25.

PRODUCER PRICE INDEX UP IN SEPTEMBER

From The New York Times:

The Producer Price Index, which measures wholesale prices paid by businesses, rose 1.1 percent in September after a 1.4 percent dip in August. The core rate of inflation, a less volatile gauge that excludes food and energy costs, rose 0.1 percent, a slight deceleration from the month before, the Labor Department said this morning.

Prices for raw materials, or so-called crude goods, continued to increase, with the core rate jumping 1.6 percent last month. Overall crude prices are up 11.4 percent from last September, compared with a 4.4 percent year-over-year increase in finished goods. These costs, located higher up the production pipeline, are typically passed on to consumers, signaling a likely increase in retail prices in the months ahead.

CPI DROPS IN AUGUST

Check out the Bureau of Labor Statistics CPI Report here.

From USA Today:

Consumer prices in August fell for the first time in 10 months as another big drop in energy costs offset higher food prices.

The Labor Department reported Wednesday that its closely watched consumer price index dipped 0.1% last month, slightly better than the flat reading that had been expected. It was the first decline in consumer prices since a 0.4% fall in October.

Overall inflation through August is rising at an annual rate of 3.7%, up from a 2.5% increase for all of 2006.

n addition to higher food costs, consumers have also been hit by surging energy prices, which are up 12.7% at an annual rate this year, even with the declines in the past three months. Analysts are worried that further price increases are in the pipeline given the fact that oil prices have now surged to record levels above $80 a barrel.

Core inflation, which the Fed closely monitors, is better behaved this year, rising at an annual rate of 2.3% through August, down from an increase of 2.6% for all of 2006.

The price of medical care continued to surge, rising 0.5% in August. Medical costs are up 4.5% over the past year.

IS THE U.S. DOLLAR IN SERIOUS TROUBLE?

From the International Herald Tribune:

Finance ministers and central bankers have long fretted that at some point, the rest of the world would lose its willingness to finance the United States' proclivity to consume far more than it produces - and that a potentially disastrous free-fall in the dollar's value would result.

But for longer than most economists would have been willing to predict a decade ago, the world has been a willing partner in American excess - until a new and home-grown financial crisis this summer rattled confidence in the country, the world's largest economy.

On Thursday, the dollar briefly fell to another low against the euro of $1.3927, as a slow decline that has been under way for months picked up steam this past week.

"This is all pointing to a greatly increased risk of a fast unwinding of the U.S. current account deficit and a serious decline of the dollar," said Kenneth Rogoff, a former chief economist at the International Monetary Fund and an expert on exchange rates. "We could finally see the big kahuna hit."

So long as Americans buy more than they earn from exports - and they did, creating a current account deficit of $850 billion last year - the rest of the world financed the binge by bringing dollars into the United States for investment in stocks, bonds, real estate or other assets, thereby preserving demand for the dollar.

While most economists just a few months ago would have dismissed the prospect of a dollar collapse outright, they now are debating the possibility that something on par with the dollar debacle of the 1970s might just happen again.

When a currency collapses, the central bank can push up interest rates to attract needed investment, but strangle the economy in the process. Alternatively, it can let the currency fall and watch prices of imports - and eventually competing domestic goods - rise sharply.

Double-digit inflation resulted in the 1970s and only a global recession brought it to an end.

The European Central Bank put off an interest rate increase it had planned for September, but is still inclined to tighten credit at least one more time by the end of this year. By contrast, the U.S. Federal Reserve has hinted at a rate cut at its meeting next Tuesday - a step that would diminish the appeal of dollar-denominated assets, almost certainly sending the dollar lower.

Pressed to make an educated guess, most economists opt for calm, believing the dollar is unlikely to go into a tailspin even as they mark up the odds of one.

The major holders of dollars - notably the Chinese, with their $1.3 trillion in currency reserves - have little incentive to see the dollar weaken, and their support provides the dollar with a bulwark of strength. And since investors need to stay diversified, and U.S. markets are deep and liquid, abandoning the dollar wholesale is hardly a realistic option.

"Rather than a precipitous decline, we are probably be looking at a move steadily lower," said Simon Derrick, chief currency strategist at Bank of New York in London.

U.S. GDP GROWTH SLOWS TO 1.3%

Many economists had predicted that first-quarter GDP growth would be 1.8%, but the data released this morning showed even slower growth coming in at 1.3%. That is the worst quarterly performance since Q1 2003.

From USA Today:

The fresh reading on gross domestic product, released by the Commerce Department on Friday, was even weaker than the 2.5% annual growth rate logged in the final three months of last year. The new figures underscored just how much momentum the economy has been losing as it copes with the strain of the troubled housing market, which has made some businesses more cautious in their spending.

A price gauge favored by the Federal Reserve — personal consumption expenditures excluding food and energy items — increased at a 2.2% annual rate in the first quarter, slightly ahead of forecasts for a 2.1% advance. That was up substantially from the fourth quarter's 1.8% annual rate and is likely to keep Fed policymakers wary about the potential for a pickup in inflation.

PPI UP WHOPPING 2.0% IN NOVEMBER

The Producer Price Index experienced a 2.0% gain in November, the biggest monthly advance since 1974. PPI is a measure of wholesale prices. Core PPI, which excludes energy and food, rose 1.3%, the biggest increase since 1980. The big jump in PPI caught economists and experts by surprise as the consensus estimate was for a 0.5% increase.

According to Kirk Shinkle of Investor's Business Daily, investors should not be overly concerned with the big jump as the majority of the increase in prices was due to volatility in the auto sector. Wholesale car prices rose 2.2%, while light truck prices jumped 13.7%.

Bureau of Labor Statistics