Good Growth News, Bad Inflation Tidings

by BusinessWeek, Standard & Poor's, and Action Economics staff

Reports on May retail sales and April business inventories released on June 12 point to stronger second-quarter U.S. economic growth, while an update on trade prices in May points to some potential strengthening in inflation in the months ahead.

The mix of data cheered the U.S. stock market: The Dow Jones industrial average, though still well below its earlier highs, was up 0.5% in afternoon trading on June 12. The dollar was also higher, while bond prices fell.

U.S. retail sales climbed 1% in May—1.2% excluding autos—according to the reports. In addition, April's 0.2% decline was revised up to +0.4%. April sales minus autos were revised up to +1%, vs. the +0.5% originally posted. The figures are much higher than expected. Sales were up 3% from May, 2007, vs. a 2.6% year-over-year gain in April.

May Retail Better than Expected

While rebate checks gave sales a big boost, the solid data indicate the consumer pocketbook is still open, says S&P Economics. Gains were broad-based in the report. Gas station sales rose 2.6%. Building materials were up 2.4%. Sales, excluding gas, autos, and building materials rose 0.8% from 1% the month before (revised from 0.4%). General merchandise rose 1.2%.

"The May retail sales results were considerably better than anticipated, and there were sizable upward revisions to both March and April," wrote Morgan Stanley (MS) economist David Greenlaw in a June 12 note. Morgan Stanley raised its second-quarter GDP forecast to growth of 0.5%, vs. its prior estimate of a 0.2% decline. Also, the firm expects first-quarter GDP to be revised up to 1.2%, vs. the previously reported reading of 0.9%.

U.S. import prices surged 2.3% in May, just above the 2.2% pace that markets had expected. April's 1.8% import price surge was revised higher to 2.4%. May export prices were up 0.3%, while April's 0.3% increase in export prices was revised to 0.5%.

Soaring Prices Will Continue

Import prices are up a hefty 17.8% over last year, vs. a 15.4% pace in April. Export prices rose at an 8% year-over-year pace in May, vs. 7.7% in April. Petroleum import prices were up 7.8%—that's a 68.8% year-over-year increase. Excluding petroleum, import prices were up 0.5%. Agricultural export prices rebounded 0.3%, after a 2.12% decline in April, and are up 33.3% over last May.

Soaring prices will continue to plague the Fed, notes Action Economics, and keep the central bank's policy on hold at the June FOMC meeting. "Unless price pressures alleviate, we believe the market will push the Fed to 'put its money where its mouth is,' and tighten by 25 basis points at the August meeting," according to a posting on the Action Web site.

U.S. business inventories rose 0.5% in April, and sales were up 1.4%. March's 0.1% increase in inventories was revised up to 0.2% (though February was revised down a bit to 0.4% from 0.5%). The March 1% sales jump was revised higher to 1.2%. Retail inventories rebounded 0.4% after a 0.6% decline in March (revised from –0.5%). The inventory-sales ratio slipped to 1.25 from a revised 1.26 in March (1.27 previously).

Jobless Claims Jump

The combination of upside surprises in retail sales through May and business inventories through April prompted Action Economics to boost its estimates for final first-quarter GDP growth to 1.2%, from the 0.9% figure in the previous report, and its second-quarter GDP estimate to 1.7%, from 1.2%.

"Oddly, though the markets braced for a housing and credit market-related downturn in the first half of the year, what we might see is an inflation and policy-induced downturn as we approach 2009 that is more in keeping with prior business cycles," says Action.

One other report of note was released on June 12. Initial jobless claims unexpectedly jumped 25,000, to 384,000 in the week ended June 7, from 359,000 the week before. Markets expected a more modest increase to 366,000. The May 31 continuing claims surged 58,000, to 3,139,000, from 3,081,000 a week before.

"The trend in claims this year implies a softer labor market than in 2007, but less than what would typically be expected in a recession," says S&P Economics.