Consumer-Led Weakness Spilling Over into Rest of Economy

(RTTNews) - Confirming the worst fears, the Bureau of Economic Analysis announced that real GDP did decline in the third quarter. Early indication point to a weaker fourth quarter that appears on track to show a contraction, thereby satisfying the theoretical definition of a recession. A recession is 'two consecutive quarters of negative growth.'

Consumer spending that has thus far been the pillar of strength of the economy is set to turn into the Achilles' heel. Consumer spending declined 0.3% in September, which according to IHS Global Insight is reflective of the weakness among the key drivers of spending, namely employment levels and the growth of wages and salaries. Spending has also been limited by a further tightening in credit conditions and sharp declines in net household worth. In the words of Brian Bethune of the firm, " the economy is now navigating through the eye of the storm, with recession forces intensifying in the fourth quarter of 2008."

Although disposable personal income rose 0.2% in September, the real personal consumption expenditures after adjusting for inflation declined 0.4%. The metric is showing a 3.9% annualized decline for the three months ended September, marking the steepest decline since 1990-91.

A report released by the Conference Board this week showed that the U.S. consumer confidence index slumped to an all time low of 38 in October from 61.4 in September. While the present situation index declined to 41.9 from 61.1, the expectations index fell to 35.5 from 61.5 in September. The bleak reading was blamed on the financial crisis. The final reading of the University of Michigan's consumer sentiment index fell to 57.5 in October from 70.3 in September.

Against this backdrop, Wachovia Securities predicts a 3% annual rate of decline in GDP in the fourth quarter. The weakness forecast for the current quarter is likely to be more broad-based than had been witnessed in the third quarter. Apart from the weakness in consumer spending, business fixed investment, exports and state and local government spending are also likely to show weakness.

Among the other economic reports released last week, sales of new single-family houses rose 2.7% to a seasonally adjusted annual rate of 464,000 in September compared to the consensus estimate of 450,000. However, sales were down 33.1% from the year-ago period. The supply of unsold new homes was 394,000 in September, representing a supply of 10.4 months, while the median price of new homes slid 9.1% year-over-year to $218,400.

The NAPM-Chicago's survey showed that the business barometer index for October fell sharply to 37.8 from 56.7 in September. The production index slumped 40.5 points to 30.9 and the new orders declined to 32.5 from 53.9 in September. At the same time, the prices paid index also fell sharply.

In the recent week, the Fed announced a 50 basis point reduction in interest rates to 1%, an additional step to reinvigorate the flailing economy. In the post-meeting policy statement, the Fed acknowledged that the pace of economic activity has slowed markedly due to a decline in consumer expenditures. The central bank also noted that business equipment spending and industrial production have weakened in recent months, while it also said it sees risks to U.S. exports from slowing economic activity in many foreign economies. Additionally, the FOMC said it expects spending to be curbed further due to tighter credit market conditions.

That said, the central bank expressed confidence that inflation will moderate in coming quarters due to weakening economic growth and declines in the prices of energy and other commodities. The FOMC offered comfort by suggesting that it will act as needed to promote sustainable economic growth and price stability.

Wachovia Securities expects a 25-basis point easing in December to 0.75%, and the recession that appears underway is likely to keep the Fed ease on liquidity provision going forward until mid-Spring of next year. Therefore, short-term interest rates are likely to remain low for an extended period of time.

As everyone keep their fingers crossed over the likely time frame for a recovery, each piece of economic evidence will be scanned for clues. The upcoming week's calendar is moderately heavy and has some key economic reports that will help gauge the degree of weakness experienced by the economy. Traders are likely to focus on October's non-farm payroll employment report and the results of the Institute for Supply Management's manufacturing and non-manufacturing surveys for October.

Additionally, market participants could also attach some significance to the National Association of Realtors' pending home sales index for September, the Commerce Department's factory goods orders report for September, the construction spending report and the Labor Department's preliminary third quarter productivity & costs report. Other reports that could draw attention are the regularly scheduled weekly oil inventory and jobless claims reports, the Commerce Department's wholesale inventories report and the Federal Reserve's consumer credit report.

The U.S. economy is expected to show job losses for the tenth consecutive month in October. Initial and continuing claims for unemployment benefits showed sharp gains, pointing to weakness in non-farm payroll numbers. Wachovia expects broad based weakness in the employment numbers for October, which is consistent with past recessions. The unemployment rate is likely to tick up to 6.2%, with Wachovia predicting an unemployment rate of 8% by 2010.

The ISM's manufacturing purchasing managers' index is likely to decline further, with a possible decline in new orders and order backlogs signaling more weakness in the pipeline. The regional surveys, namely the New York Fed's empire state manufacturing survey, the Philadelphia Fed's survey and the NAPM-Chicago survey showed deterioration in manufacturing activity in the month.

Monday

The Commerce Department's construction spending report to be released at 10 AM ET on Monday is expected to show that construction spending remained unchanged in September.

In August, construction spending was unchanged compared to expectations for a 0.5% decline. Residential construction spending, excluding improvements, which is used for calculating GDP, fell 4.1%, while private non-residential spending fell 0.8% following a 1.1% drop in July. On the other hand, public construction spending rose 0.8% in August, extending the 1.3% increase in July.

The results of the manufacturing survey of the Institute for Supply Management, which are based on data compiled from purchasing and supply executives nationwide, are due out at 10 AM ET on the same day. Economists expect the index to show a reading of 42 for October.

The index declined sharply to 43.5 in September from 49.9 in the previous month, marking the biggest monthly decline since 1984. The new orders index fell by about 10 points to 38.8, while the production index also plummeted to 40.8. However, BMO Capital Markets noted that the weakness may have been overstated due to the Boeing strike and the impact of the hurricanes, as the regional surveys did not point to a slowdown anywhere close to the national survey.

On a positive note, the prices paid index slumped 23.5 points, representing the biggest drop on record. Although the export orders index slipped, it stayed above the '50' level at 52.

Tuesday

The Commerce Department is due to release its report on factory goods orders for September at 10 AM ET on Tuesday. Orders for manufactured goods are likely to have decreased 1.5% in the month.

In August, new orders for manufactured goods fell 4% to $444.4 billion, which marked the biggest drop since October 2006. The weakness was primarily due to a 9.1% drop in transportation equipment orders, which dragged down the durable goods orders by 4.8%. While shipments fell 3.5%, unfilled orders edged up 0.4%. Inventories improved 0.6% during the month.

Meanwhile, durables goods orders for September released early this week showed a 0.8% increase in orders for goods that are designed to last for more than 3 years. The increase was mainly due to a jump in civilian aircraft and defense orders. Stripping off transportation orders, new orders fell 1.1%. Although core capital goods orders declined 1.4%, shipments of this category of goods rose 2%.

Wednesday

The ADP National Employment report, which sheds light on non-farm private employment, is scheduled to be released at 8:15 AM ET on Wednesday. The report is usually released two days prior to the Labor Department's employment report. Economists expect private employment to have declined by 80,000 in October.

The ISM is scheduled to release the results of its non-manufacturing survey at 10 AM ET on Wednesday. The non-manufacturing index is likely to show a reading of 48.5 for October.

Meanwhile, in September, economic activity in the non-manufacturing sector grew, albeit at a slower pace. The purchasing managers' index edged down 0.4 points to 50.2 in September. However, the business activity and the news orders indexes rose 0.5 points and 1.1 points, respectively to 52.1 and 50.8. Inventories and employment showed weakness, with the respective indexes falling by 8 points and 2 points, respectively to 45.5 and 44.2. While the prices paid index eased 2.9 points to 70, the backlog of orders index fell 2.5 points to 46.5.

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

The weekly oil inventory report for the week ended October 24th showed that crude oil stockpiles rose by 0.5 million barrels to 311.9 million barrels. Crude oil inventories are now in the upper half of the average range for this time of the year.

Gasoline stockpiles fell by 1.5 million barrels, while distillate inventories rose by 2.3 million barrels, but they are still in the lower half of the average range for this time of the year. Refinery capacity utilization averaged 83.3% over the four-weeks ended October 24th compared to 80% in the previous week.

Thursday

The nine-member monetary policy committee of the Bank of England is due to hold a two-day meeting ending Thursday to determine the near-term direction of monetary policy. Any change in the policy is announced at 7 AM ET on Thursday.

The Bank of England had lowered its benchmark interest rates by 50 basis points to 4.5% on October 8th along with a few other central banks. With the U.K. economy contracting by 0.5% in the third quarter, many economists now expect another 50-basis point-reduction in November. Some have even factored a full one-percentage point reduction to 3.5%.

The European Central Bank's Governing Council is scheduled to meet at 7:45 ET on the same day to determine its interest rate policy. Any change in policy is announced immediately after the meeting, while a statement is read out at a press briefing about 45 minutes after the meeting, followed by a Question & Answer session.

On October 8th, in a coordinated with the world's other major central banks, the ECB announced a 50 basis point reduction in its key interest rates to 3.75%. However, at its regularly scheduled held on October 2nd, the ECB held interest rates steady at 4.25% after maintaining them unchanged at the previous meeting.

A Labor Department report on the number of individuals claiming unemployment benefits during the week ended November 1st is scheduled to be released at 8:30 AM ET on Thursday.

The number of individuals claiming unemployment benefits remained at 479,000 in the week ended October 25th. Economists had been expecting jobless claims to decline to 473,000 from the 478,000 originally reported for the previous week.

At the same time, the report showed that the less volatile four-week moving average declined to 475,500 from the previous week's revised average of 480,500. The report also showed a decline in continuing claims in the week ended October 18th, which fell to 3.727 million from the preceding week's revised level of 3.726 million.

The U.S. Labor Department is scheduled to release its preliminary report on third quarter non-farm productivity and unit labor costs at 8:30 AM on Thursday. The consensus estimates call for a 1% increase in non-farm productivity.

In the second quarter, non-farm productivity rose 4.3% compared with the previous quarter, faster than the expected increase of 3.5%. Productivity of the business sector rose 4.3%. However, manufacturing sector's productivity dipped 2.2%, dragged down by a 4.5% slump in the productivity of the durable goods manufacturing sector.

Unit labor costs of the non-farm business sector dipped by 0.5% in the second quarter, while those of the durable goods manufacturing sector and non-durable goods manufacturing sector climbing at an annualized quarterly pace of 9% and 3.1%, respectively.

Friday

The Labor Department is scheduled to release its monthly non-farm payroll report at 8:30 AM on Friday. The report sheds light on the number of paid employees working part time or full time in the nation's business and government establishments, the number of hours worked in the non-farm sector, the basic hourly rate for major industries and the number of unemployed as a percentage of the labor force. Economists estimate that the U.S. economy lost 198,000 jobs in October and look for an increase in the unemployment rate to 6.2%.

U.S. non-payroll employment shrank by 159,000 in September, worse than the 105,000 job losses predicted by economists. Employment continued to fall in the construction, manufacturing and retail trade sectors, while the mining and health care sectors added jobs. The unemployment rate based on the household survey held steady at 6.1%, in-line with the expectations of economists.

The average hourly earnings rose $0.03 or 0.17% to $18.17. The goods producing sector lost 77,000 jobs, with the construction and manufacturing sectors losing 35,000 and 51,000 jobs, respectively. Meanwhile, the service-providing sector lost 82,000 jobs.

Data on Pending Home Sales, which is a leading indicator of housing market activity released by the National Association of Realtors, is due out at 10 AM ET on Friday. A pending sale is one in which a contract was signed but not yet closed. Normally, it takes four to six weeks to close a contracted sale. The index is expected to show a 3.5% decline in September.

In August, the pending home sales index jumped 7.4% to 93.4 from an upwardly revised reading of 87 in July. On a year-over-year basis, the index is up 8.8% from the year-ago period, when it stood at 85.8. The strong increase that took the index to its highest level since July 2007 was due to people taking advantage of low home prices. The pending home sales index showed increases in all regions.

The Commerce Department is due to release its wholesale inventories report at 10 AM ET on the same day. Economists expect wholesale inventories at the end of September to show 0.4% growth.

In August, wholesale sales declined 1% from the previous month. Meanwhile, wholesale inventories at the end of August rose 0.8%, rendering the wholesale sales to inventories ratio to 1.10 compared to 1.12 in the year-ago period.

The U.S. Federal Reserve is expected to release its monthly consumer credit report at 3 PM ET on Friday. Consumer credit for September is likely to have remained unchanged.

In August, consumer credit fell 3.7% or $7.9 billion to a seasonally adjusted annual rate of $2.58 trillion. Non-revolving credit declined by 5.4% to $0.97 billion compared to a 0.8% slippage in revolving credit to $1.61 trillion.

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