The week's economic reports

A reversal of international capital flows out of the U.S. in August and disappointing reports on homebuilding in September highlighted the week's economic data.

Stocks and bonds ended the week with the S&P 500 Index down 3.9 percent to 1,501, now up 5.8 percent for the year, and the yield of the 10-year U.S. Treasury note fell 30 basis points to 4.40 percent.

Treasury International Capital Flows: For the first time since 1990, net foreign purchases of U.S. securities declined, falling from an inflow of $19.5 billion in July to an outflow of $69.3 billion in August. This report covers the beginning of the credit market tumult two months ago, so, it may be a one-off event, but according to data from the Treasury Department, China and Japan were net sellers of over $38 billion in U.S. Treasuries.

Housing Market Index: The National Association of Homebuilders housing market index fell two points to an all-time low of 18 in October, exceeding the pessimism of the previous low set in January of 1991 as consumers are showing very little interest in home purchases. The weakest component of the index was buyer traffic and the strongest component was the six-month outlook, perhaps reflecting the desire of potential home buyers to wait for prices to fall further.

Consumer Prices: Overall consumer prices rose 0.3 percent in September, led by higher energy and food costs, but the core rate of inflation (excluding food and energy) gained only 0.2 percent. On a year-over-year basis, overall prices have risen 2.8 percent and core inflation is up 2.1 percent.

Food prices rose 0.5 percent in September with a year-over-year gain of 4.4 percent - if you've been grocery shopping lately, even this number might sound low. The energy index rose 0.3 percent last month and is up 5.3 percent from year ago levels - retail gasoline prices have been fairly steady in recent weeks, but that may be about to change as $90 crude oil will make its way into higher gasoline and heating oil costs.

Next month will likely see an even larger number for the annual inflation since the energy-led October 2006 price decline of 0.5 percent will roll out of the year-over-year calculation and be replaced with October 2007 data that is expected to be positive, perhaps bringing the annual rate near four percent.

Housing Starts and Permits: Housing starts plunged to a 14-year low in September, falling 10.2 percent from the level in August, and building permits fell 7.3 percent to the lowest level since 1995. Most analysts now concur that credit market tightening and an increasingly skittish home buying public are likely to put more downward pressure on construction activity well into 2008 as homebuilders continue to try to clear their inventory. On a year-over-year basis, starts were down 30.8 percent in September and housing permits fell 25.9 percent from year ago levels.
One of the more alarming elements in this report was the sharp 34 percent decline in starts for multi-family housing. Over the last year or so, while single-family home construction has been spiraling steadily downward, construction of multi-family homes has been supportive of the overall construction industry. This trend reversed in a big way last month and is probably a sign of further weakness in construction employment in the months ahead.

Leading Economic Indicators: The Conference Board's Index of Leading Economic Indicators gained 0.3 percent in September after declining a downwardly revised 0.8 percent in August. Higher stock prices, better vendor performance, and more orders for capital goods were the largest positive components offsetting a big decline in permits for new home construction.

Summary: Once again, the huge impact of the credit market turmoil that began in August is clear for all to see. The report on capital flows, where Asian investors were net sellers and a net outflow occurred for the first time in 17 years, may be the most significant development last week - the September report will now be anxiously awaited to see if this is the beginning of a trend or a one-time event.

The sharp decline in construction activity and further erosion in the outlook of homebuilders should not be a surprise to anyone since the decline in housing has been one of the driving forces in the recent market turmoil. This condition was self-reinforcing in September as further housing market trouble made buyers even less willing to consider new home purchases.

Regional manufacturing reports were mixed, though generally positive, and the leading economic indicators showed improvement, though this was largely a result of higher stock prices that reversed on Friday. The uptick in jobless claims, seen many times over the last year but always proving to be a temporary phenomenon, may be more lasting this time around. Many have looked to the initial claims for unemployment as an advance indication of further weakness in the labor market and this has proved to be a reliable leading indicator - it will receive even closer scrutiny in the weeks ahead.

The Week Ahead: The week ahead will be highlighted by reports on existing home sales on Tuesday and new home sales on Wednesday. Also scheduled for release are reports on durable goods orders on Thursday and consumer sentiment on Friday.