Economy's Health Hinging on Credit Market Recovery?

(RTTNews) - The markets seem to be overwhelmed by worries over the state of the financial firms and its impact on the credit markets, and in turn the broader economy. The roller coaster ride witnessed recently by the market is being controlled by news about financial firms and the price of oil. On the economic front, things aren't any brighter. Wachovia Securities expects the second half of 2008 to be very challenging. The housing market is still in the throes of a downturn and is unlikely to resurge anytime soon, as mortgage rates are continuing to climb amid negative news on the health of financial firms.

Additionally, job growth is slowing significantly and along with it the income growth. When the two sources of financing available to the consumers, namely housing wealth and personal income are shrinking, they are left with little in the form of disposable income. A pullback by consumers could have a more serious impact on the economy, which is already teetering on the brink of a recession, having recorded a quarter of negative growth in the fourth quarter of 2007.

Wachovia forewarns of outright declines in economic growth in the next two quarters, given the tightening in the lending standards for all types of loans and the profit recession experienced by most firms, that have resulted in slower business investment.

Federal Reserve Chairman Ben Bernanke said in Jackson Hole earlier today, "The financial storm that reached gale force some weeks before our last meeting here in Jackson Hole has not yet subsided, and its effects on the broader economy are becoming apparent in the form of softening economic activity and rising unemployment." The statement sums up the concerns of the Fed. The central bank may go to any length in containing the crisis faced by the credit markets, thereby offering support to the economy.

Most of the bygone week's economic reports were in-line with the theory that the economy is still limping. A Commerce Department report showed that housing starts came in weaker-than-expected at 965,000, representing a 11% monthly decline. Single-family starts were down 2.9% and fell to its lowest level since January 1991. Building permits, a leading indicator of housing activity, also tumbled 17.7%.

Adding to the negative sentiment, the index of leading economic indicators fell by 0.7% on a monthly basis in July. The steep decline reflects a sharp drop in building permits, which was pushed lower due to a change in the building code for the New York City area making new multi-family constructions less favorable after July 1. Additionally, the recent extension of unemployment insurance benefits has served to increase the temporary filers. However, the coincident index was up 0.1% compared to the previous month.

The Philadelphia Fed's survey of manufacturing conditions in the Mid-western region showed that the index of manufacturing activity rose to -12.7 in August from -16.3 in the previous month, suggesting a slower rate of contraction.

Meanwhile, weekly jobless claims fell by 13,000 to 432,000 in the week ended August 16th, which was below the consensus estimate. Lehman Brothers believes that the decline was mainly due to the fading impact of the extension of unemployment insurance benefits. The National Association of Homebuilders' housing survey showed that builder confidence held steady in August. The housing market index remained unchanged at 16, while the indexes gauging current sales conditions and sales expectations for the next six months rose 1 point and 2 points to 16 and 25, respectively. The component gauging traffic of prospective buyers remained unchanged at 12.

However, there producer price inflation report released last week showed no signs of abatement in pricing pressures. Producer prices showed a 1.2% monthly gain, taking the annual inflation rate to 9.8%. The core producer price growth accelerated to a 0.7% rate. Lehman Brothers commented that continued signs of pass-through from past increases in commodity prices add upside risk to its CPI forecasts for the remainder of 2008. The firm is of the view that further upside surprises on the core CPI could spark a return of hawkish rhetoric from the monetary policymakers.

Among the economic reports to be released in the upcoming week, the markets are likely to stay tuned to the two reports on the housing market, personal income & outlays report for July, the Commerce Department's durable goods orders report and consumer confidence readings of the University of Michigan and the Conference Board. Additionally, traders could focus on the preliminary second quarter GDP report, the results of the NAPM-Chicago's purchasing managers' survey and the regularly scheduled jobless claims and petroleum inventory reports.

Going by the strengthening of the pending home sales index of late, economists expect existing home sales to improve from very depressed levels. That said, a decline cannot be ruled out. Nevertheless, the rate of decline has been stabilizing. Wachovia Securities expects tighter credit standards, higher mortgage rates and an increasing rate of foreclosures to weigh down on the housing market for all of 2009. Meanwhile, new home sales could decline, as builders vie with a glut of foreclosed homes to attract buyers.

Consumer confidence is expected to see a mild lift at least due to a drop in gas prices. Nevertheless, there isn't likely to be any significant improvement and consumer confidence is likely to be around these depressed levels in the coming months.

Many economists expect second quarter economic growth to be revised higher due to a narrowing in the trade deficit for June, which is expected to add a full percentage to the already estimated growth. Additionally, wholesale inventories and construction spending reports also point towards higher growth in the quarter. However, not many are optimistic about growth going forward, especially in the third and fourth quarters. Consumer spending is expected to act as a drag on growth.

Durable goods orders are likely to remain little changed. Although aircraft orders could see some strength, defense orders are likely to recede. The weakness in motor vehicle orders are set to continue, while economists expect non-defense capital good orders to see a pullback after their strong gains in June.

Lower contribution to transfer payments by stimulus rebates and weak wage and salary disbursements should result in a decline in personal income for July. Real consumer spending is also likely to show a decline. Global Insight expects a small inflation-adjusted gain of about 0.5% in the consumer spending for the third quarter. The firm also cautioned that there is a risk of third quarter consumer spending showing the first outright decline since the end of 1991.

Monday

The National Association of Realtors is scheduled to release its report on existing home sales for July at 10 AM ET on Monday. Economists estimate existing home sales of 4.90 million for the month.

In June, existing home sales fell 2.6% to a seasonally adjusted annual rate of 4.86 million units from a 4.99-million unit rate in May. Single-family home sales fell 3.2%, while existing condominium and co-op sales rose 1.7%. On a regional basis, existing home sales declined in the South, Mid-west and Northeast. On the other hand, sales improved in the West.

Housing inventories at the end of June rose 0.2% to 4.49 million existing homes available for sale, representing an 11.1-month supply at the current sales rate, up from a 10.8-month supply in May. The median existing home price declined 6.1% to $215,100 in June from a year-ago.

Tuesday

The Conference Board is scheduled to release its consumer confidence report for August at about 10 am ET on Tuesday. The survey, which is based on a survey of 5,000 US households, is expected to show that the consumer confidence index eased to 53 in August.

The consumer confidence index for July rose to 51.9 from an upwardly revised reading of 51 in June. While the expectations index rose to 43 from a record low of 41.4 in June, the present situations index was almost unchanged at 65.3.

The Commerce Department is due out to release its new home sales report for July at 10 AM ET on the same day. The consensus estimate calls for a drop in new homes sales to 523,000.

In June, sales of new one-family houses declined by 0.6% from the previous month to a seasonally adjusted annual rate of 530,000. Annually, new home sales were down a steeper 33.2%. The median sales price of new houses sold in June was $230,900, while new home inventories at the end of June was 426,000, representing a supply of 10 months at the current sales rate.

On the same day, the Federal Reserve is scheduled to release the minutes of its August 5th meeting at 2 PM ET.

As expected, the Fed left the fed funds target rate unchanged at 2% at its August meeting. Dallas Fed President Richard Fisher cast the only dissenting vote against the decision to pause. The post-meeting policy statement relayed a balanced outlook on growth and inflation, but it did not provide much clarity on the future rate outlook.

On growth, the Fed noted that economic activity expanded in the second quarter, partly reflecting growth in consumer spending and exports. That said, the central bank retained its comments that labor markets have softened further and remain under considerable stress, and while it also repeated its comments that tight credit conditions, housing and energy prices will weigh on growth over the next few quarters.

Compared to the previous statement, the FOMC shifted up the positioning of the phrase, "Over time, the substantial easing of monetary policy, combined with ongoing measures to foster market liquidity, should help to promote moderate economic growth."

While reiterating that it expects inflation to moderate later this year and next year, the committee also commented on the highly uncertain inflation outlook against the backdrop of continued increases in energy and commodities prices.

The Committee left out the part on its belief that the monetary policy easing along with its ongoing liquidity boosting measures should help to promote moderate growth over time. Meanwhile, the Fed modified the statement on perceived risk to 'Although downside risks to growth remain, the upside risks to inflation are also of significant concern to the Committee.'

Wednesday

The Commerce Department is set to release its durable goods orders report, which gives the value of orders placed for goods designed to last for more than 3 years, at 8:30 AM ET on Wednesday. Economists look forward to a 0.1% increase in the durable goods orders for July.

In June, durable goods orders increased 0.8% to $215.3 billion following a 0.1% increase in May. The bulk of the increase was primarily due to a 5.2% jump in orders for primary metal. Shipments of durable goods rose 0.6% compared to a 0.9% increase in unfilled orders. Meanwhile, inventories also climbed 0.5%.

The Energy Information Administration is scheduled to release its weekly petroleum inventory report at 10:30 AM ET on Wednesday.

The EIA's weekly inventory report for the week ended August 15th showed that crude oil stockpiles rose by 9.4 million barrels to 305.9 million barrels, and inventory levels are now in the middle of the average range for this time of the year. Gasoline inventories declined by 6.2 million barrels, while distillate stockpiles rose by 0.5 million barrels. Refinery capacity utilization averaged 86.4% in the four weeks ended August 15th compared to 86.8% in the previous week.

Thursday

The Bureau of Economic Analysis is due to release its preliminary second quarter GDP report at 8:30 AM ET on Thursday. The economy is likely to have expanded at a pace of 2.7% in the quarter.

Advance estimates by the Bureau of Economic Analysis showed that second quarter GDP rose at an annual rate of 1.9%, which is faster than the revised 0.9% growth in the first quarter. Economists expected a 2.3% expansion in the second quarter. Revisions to the previous quarters resulted in negative growth in the fourth quarter. On a year-over-year basis, second quarter GDP growth was 1.8% compared to 2.5% in the first quarter

The increase in second quarter GDP compared to the previous quarter reflected positive contributions from exports, personal consumption expenditures, non-residential structures, federal government spending and state and local government spending. However, private inventory investment, residential fixed investment and investments on equipment and software deducted from growth. The GDP price index rose at an annual rate of 1.1%, significantly lower than 2.5% in the previous quarter.

The Labor Department is due to release its customary weekly jobless claims report for the week ended August 23rd at 8:30 AM ET on Thursday.

The number of individuals claiming unemployment benefits declined 13,000 in the week ended August 16th to 432,000 from the previous week's downwardly revised average of 445,000. Economists had expected claims to have ticked down to 438,000 from the originally reported 450,000 for the previous week.

The four-week average that removes volatility rose 7,250 in the recent week to 445,750 from the previous week's revised average of 438,500. Continuing claims, which is calculated with a week's lag, declined 17,000 in the week ended August 9th to 3.362 million.

Friday

The Bureau of Economic Analysis is scheduled to release its personal income & outlays report for July on Friday. Economists estimate the report, which is due out at 8:30, to show a 0.1% decline in personal income and 0.3% growth in personal spending.

In June, personal income rose 0.1% compared to economists' expectations that called for a decline of 0.1%. Meanwhile, personal consumption expenditure climbed 0.6%, a bigger-than-expected increase of 0.6%.

The spending growth was boosted by a 1.3% surge in the spending on non-durable goods, while spending on durable goods fell 1.5%. The core Personal Consumption Expenditure Index rose 2% year-over-year, the same pace as in the previous month.

The results of the National Association of Purchasing Management-Chicago's business survey for August are scheduled to be released at 9:45 AM ET on Friday. Economists expect the business barometer index, based on the survey, to be 49.9.

In July manufacturing activity in the region expanded. The business barometer index rose to 50.8 in July from 49.6 in June. The new orders index climbed 1.5 points to 53.5. However, on a very worrisome note, the prices paid index rise 5.2 points to 90.7 and the employment index eased 0.8 points to 45.9.

The final reading of the University of Michigan's consumer sentiment index for August is due to be released at 10 AM ET on Friday. The report is likely to show a reading of 63, higher than the mid-month reading of 61.7.

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