The week's economic reports

Robust retail sales and a trio of reports showing markedly higher inflation highlighted the week's economic data. Stocks and bonds ended with the S&P 500 Index down 2.5 percent to 1,468, now up just 3.5 percent for the year, and the yield of the 10-year U.S. Treasury note rose 12 basis points to 4.24 percent.
Pending Home Sales: Pending home sales rose 0.6 percent in October and the year-over-year decline narrowed slightly from -20.1 percent to -18.4 percent as the most recent data reflected activity just after the worst of the credit market tumult during August and September. The National Association of Realtors remains as the only major organization that is bullish on housing in 2008 and they look increasingly ridiculous as a result.

International Trade: Higher prices for imported oil offset higher levels of exports as the overall trade gap between the U.S. and the rest of the world widened slightly in October to $57.8 billion following a downwardly revised $57.1 billion in September. Current levels remain far above the monthly trade deficits near $70 million posted in 2005 and 2006.

The oil trade deficit rose from $24.2 billion in September to $26.3 billion in October as the price of imported crude oil jumped from $68.51 per barrel to $72.49 per barrel. The trade gap with the Euro area rose from $6.4 billion to $11.9 billion in October, with Japan from $6.2 billion to $8.0 billion, and with China from $23.8 billion to $25.9 billion.

Import/Export Prices: Prices of imported goods rose a sharp 2.7 percent in October, the biggest monthly increase in 17 years, and now stand 11.4 percent higher than a year ago. Higher oil prices and a weakening U.S. dollar were primarily responsible for the surge as fuel prices increased 10 percent on the month and 49 percent from year-ago levels.

Retail Sales: Retail sales rose more than expected in November, up 1.2 percent after a 0.2 percent increase in October. From year-ago levels, sales rose 6.3 percent, an improvement over the 5.0 percent annual gain in October. Excluding motor vehicle sales, which declined a full 1.0 percent last month, the increase was even greater than the headline number at 1.8 percent after an "ex-autos" gain of 0.4 percent in October.
Gasoline station sales rose sharply last month (up 6.8 percent) but other gains were broad-based, led by clothing (up 2.6 percent), electronics (up 2.5 percent), and sporting goods (up 2.2 percent). Sales excluding gasoline rose 0.6 percent for the month and if both gasoline station sales and automobile sales are excluded, sales rose 1.1 percent.

Recall that these figures are not adjusted for inflation or population growth, so sales are more an indication of the total price paid rather than the quantity of goods sold, but nevertheless, this report points to an American consumer that has not yet pulled back on spending in any meaningful way. Also factoring into this report was a slightly earlier start to the holiday shopping season due to Thanksgiving Day coming relatively early on November 22nd.

Producer Prices: Prices at the wholesale level posted their biggest gain in 34 years rising 3.2 percent in November after a mild 0.1 percent gain in October. The core rate, excluding food and energy, rose 0.4 percent after being flat last month. On a year-over-year basis, the overall PPI rose 7.7 percent and the core rate was up 1.9 percent. Surging energy prices led the way, up 14.1 percent for the month, with gasoline prices up 35 percent after declining last month.

Consumer Prices: Rising energy prices caused consumer prices to post their biggest monthly increase since late-2006 following Hurricane Katrina. Overall inflation rose 0.8 percent in November, following an increase of 0.3 percent in October, bringing the year-over-year gain to 4.3 percent, a rate that has not been exceeded in more than two years.
Core inflation, excluding food and energy, rose 0.3 percent in November, exceeding the important 0.2 percent mark for the first time in 10 months. From year-ago levels, the core rate is up 2.3 percent, still well below the late-2005 peaks but far above the 2.0 percent mark widely believed to be the comfort level of the Federal Reserve.
Energy prices led the way higher as the cost of gasoline rose 9.3 percent last month and 37.4 percent from year-ago levels while the overall energy index gained 5.7 percent in November and 21.4 percent on a year-over-year basis. There were a number of factors having to do with seasonal adjustments that made these increases even more than they would otherwise have been due to the fact that energy prices are usually declining at this time of the year.

Food prices rose 0.3 percent in November and 4.7 percent from year-ago levels, so senior citizens who spend most of their money to heat their home and put food on the table are experiencing double-digit annual inflation at the moment, a topic that may get increasing attention in an election year if prices remain high. Recall that last year at this time, the nation was in the midst of a virtual free-fall in energy prices that did not conclude until mid-January - in this respect, late-2007 is very different from late-2006.

Summary: A surprisingly strong report on retail sales followed last week's surprisingly strong labor report in what appears to be an economy that just doesn't want to slow down, at least not when measured using ordinary metrics. Both of these reports are crucial to the near-term outlook and, while economic growth will surely slow in the fourth quarter from its torrid third-quarter pace, recent estimates of late-2007 growth are now being revised upward modestly from previous estimates of between zero and one percent just a few weeks ago.

As for inflation, there seems to be little doubt that it is becoming a serious problem for policy-makers as evidenced by last week's trio of reports showing both monthly and yearly price increases that haven't been seen since the aftermath of Hurricane Katrina two years ago. There is a big difference, however, between 2005 and 2007.

In the post-Katrina period, price surges were related to twin natural disasters in the Gulf Coast whose effects were quite severe, but also quite temporary. Here in 2007, recent price increases have been more systemic in nature due to stubbornly high prices for both energy and food and are therefore not likely to recede as readily as those caused by disruptions to Gulf Coast energy production. Excluding 2005, you have to go all the way back to 1991 to find a higher level of overall annual inflation.

The Week Ahead: The week ahead will be highlighted by housing starts on Tuesday and the final estimate of third quarter GDP on Thursday. Also scheduled for release are reports on New York area manufacturing and the homebuilders' housing market index on Monday, leading economic indicators and the Philadelphia Fed survey on Thursday, and both consumer sentiment and personal income/spending on Friday.