June 23, 2008
ECONOMIC NEWS: Sustained Inflation, Slowing Economic Activity
Producer price index moved upward in May. The Bureau of Labor Statistics reported that the May 2008 Producer Price Index for Finished Goods (PPI) — measuring the prices domestic producers receive for their products — rose 7.2 percent from a year ago. The increase in PPI is being driven in significant measure by changes in the costs of food and energy. The PPI less food and energy (core-PPI) rose 3.0 percent year-on-year during May, matching April’s rate. (See Chart)
Housing market weakness continues. Two measures of housing market activity both showed significant declines in May. Housing starts were 3.3 percent below April’s numbers and were down 32.1 percent since April 2007, according to the Census Bureau. The National Association of Home Builders/Wells Fargo Housing Market Index (HMI), which is based on home builder reports of sales, expectations, and buyer traffic, fell back to its historic low of 18,reached in Dec 2007.
Jobless claims still high after slight downtick. The Department of Labor reported that initial claims for unemployment insurance for the week ending June 14 were down 5,000 from the previous week’s revised level of 386,000. However, the 4-week moving average was up 3,250 from the previous week’s revised average of 372,000. One year ago initial claims were substantially lower at 324,000.
Industrial production and capacity utilization decline. The Federal Reserve index of industrial production showed a decline of 0.2 percent between April and May. Since January industrial production has declined 1.42 percent. Capacity utilization for total industry was down 0.2 percent points to 79.4 in May, a level 1.6 percentage points below the 1972-2007 average of 81.0 percent.
SNAPSHOT: Surging Oil Prices Affect Consumers and the Economy
Since 2002, real oil prices have risen dramatically and have reached record highs. Recently, oil futures traded for over $135/ barrel. According to the U.S. Energy Information Administration (EIA), the average crude oil price per barrel paid by refiners in April was $103.84 (in May 2008 dollars), up from a previous inflation-adjusted high of $95.01 in February 1981.
Most energy analysts believe that the recent rise in oil prices are caused by long-term structural factors, most notably greatly increased demand in developing countries such as China and India. Because growth in these developing countries is expected to continue, many experts believe that sustained high oil prices are likely for the foreseeable future. Some portion of the price run up has also been attributed to the weak dollar and negative real interest rates in the United States. And, as the amount of non-commercial trading has increased, analysts have questioned whether some of the run up can be attributed to speculative activity.
Energy analysts generally agreed that, due to increases in energy efficiency and the changing composition of output, the U.S. economy was less vulnerable to high oil prices than it was during the oil shocks of the 1970s. However, since the fraction of GDP spent on oil has now returned to 1970s levels (See Snapshot), a growing number of economists have concluded that the economy may not continue to shrug off increases in the price of oil.
The vast majority of U.S. petroleum consumption (nearly 70 percent in 2008) is used in the transportation sector, and the bulk of that consumption is gasoline for automobiles. After facing record prices during the winter for heating oil and gasoline, consumers are facing $4/gallon gasoline this summer. Consumers have a limited ability to reduce their consumption of gasoline in the short run. According to a recent study by the Congressional Budget Office, consumers are currently only about one-fifth as responsive to short-run changes in gasoline prices as they were several decades ago. Hence in the short run, as gasoline prices rise, consumer spending on products other than gasoline will tend to decrease, since consumers are spending a greater fraction of their disposable income on gasoline. For those living in distant suburbs the effects may be especially burdensome, since the costs of commuting may swamp the traditionally lower housing costs in those areas. As high gasoline prices persist, consumers are likely to drive less and switch to more fuel-efficient vehicles. However, adjustments of this kind take time.
Prices for diesel fuel have also increased in recent months. Those increases have started to have an impact on food and other consumer goods, because the cost to transport those goods has increased. These higher diesel prices increase the price of food through various channels, including increasing the costs of production, processing, packaging, and retailing food.
On the supply side, since the U.S. imports 58 percent of its crude oil consumption and holds only a small share of the world’s oil reserves, it is unlikely that increased exploration and drilling in the Arctic National Wildlife Refuge or in the Outer Continental Shelf will have an impact on world oil prices -- even in the long run. Recent Saudi announcements of increased oil production have had little effect on prices — perhaps due to offsetting declines in other production, such as recent Nigerian shut-ins.
The causes and future of crude oil price increases and the effect on the economy will be the topic the JEC hearing “Oil Bubble or New Reality: How Will Skyrocketing Oil Prices Affect the U.S. Economy?” on Wednesday, June 25 at 9:30 a.m.
THE WEEK AHEAD
|Tuesday, Jun 24||Consumer Confidence (June 2008)|
|Wednesday, Jun 25||JEC Hearing — Oil Bubble or New Reality: How Will Skyrocketing Oil Prices Affect the U.S. Economy?” Room 106, Dirksen Senate Office Building, 9:30 a.m.|
|FOMC Policy Statement|
|Durable Orders (May 2008)|
|New Home Sales (May 2008)|
|Friday, Jun 27||PCE Core Inflation (May 2008)|
ECONOMY AT A GLANCE
|Economic Activity||May||Apr||Mar||Feb||Q1 2008||Q4 2007||Q3 2007||Q2 2007||2007||2006||2005|
|Real GDP (% growth)||0.9||0.6||4.9||3.8||2.2||2.9||3.1|
|Unemployment (% of Labor Force)||5.5||5.0||5.1||4.8||4.9||4.8||4.7||4.5||4.6||4.6||5.1|
|Labor Productivity Growth (%)||2.6||1.8||6.0||2.7||1.8||1.0||1.9|
|Labor Compensation Growth (%)||3.0||3.4||3.1||3.5||3.4||3.1||3.3|
|CPI-U Inflation Growth (%)||7.4||2.4||3.7||0.0||4.3||5.0||2.8||4.6||2.9||3.2||3.4|
|Core CPI-U Inflation Growth (%)||2.4||1.2||2.4||0.0||2.5||2.5||2.5||2.0||2.3||2.5||2.2|