Aug. 17 (Bloomberg) -- The index of leading economic indicators unexpectedly dropped in July, yet another sign that economic growth will continue to slow over the next three to six months.

The 0.1 percent decline followed a 0.1 percent gain in June, the Conference Board, a New York-based research group, said. The index dropped at an annual rate of 1.4 percent over the last six months, the worst performance since February 2001.

Today's report is the third in as many days to reinforce Federal Reserve Chairman Ben S. Bernanke's prediction that the expansion is cooling, leading investors to speculate the Fed is done raising interest rates for now.

``The LEI continues to give the distinct signal that the economy is moderating,'' said Anthony Chan, chief economist for JPMorgan Private Client Services in New York, who used to work at the Fed. ``It certainly provides greater comfort for policy makers who opted to pause.''

Regional factory surveys show manufacturing is expanding unevenly around the country. The Philadelphia Fed said today manufacturing in the middle-Atlantic area grew at the fastest pace in more than a year. A similar report from the New York Fed on Aug. 15 showed factories there expanded at the slowest rate since June 2005. U.S. industrial production grew in July at half the pace of the previous month, the Fed said yesterday.

After the reports, the benchmark 10-year U.S. Treasury note yielded about 4.86 percent at 12:16 p.m. in New York, unchanged from yesterday. Stocks remained higher and the dollar stayed lower.

Economy's Direction

Five of the 10 components of the index contributed to the drop. The measure gives guidance on the direction of the economy over the next three to six months.

``The U.S. economy is slowing from its unsustainable, blistering pace of earlier this year,'' Dallas Fed President Richard Fisher said in a speech yesterday in Dallas. He also said the economy is at ``a crossroads'' as low long-term rates interest rates and strong global growth may increase the time it takes the Fed's actions to lower inflation.

Economists expected the index of leading indicators to rise 0.1 percent, the median of 43 forecasts in a Bloomberg News survey. Estimates ranged from a drop of 0.3 percent to an increase of 0.2 percent.

The index isn't signaling a contraction: it would take a 3.5 percent annualized drop during a six-month period to signal a shrinking economy, according to the Conference Board. The last time the index met that criterion was in September 2000, six months before the start of the last recession.

Jobless Claims

The number of workers filing first-time applications for unemployment benefits fell by 10,000 to 312,000 last week, the Labor Department also reported today. The figures suggest employers are holding on to the workers they have, even as growth slows.

The economy this quarter will grow at an annual rate of 2.8 percent, according to the median estimate of economists surveyed by Bloomberg survey from July 28 to Aug. 10. That would be half the 5.6 percent pace of the first three months of the year.

Taking a Breather

The central bank last week held its interest-rate target for overnight loans between banks steady at 5.25 percent following 17 consecutive quarter-point increases dating back to June 2004.

Lower readings for core consumer and producer inflation, reported earlier this week, supported the Fed's decision to hold rates steady. July consumer prices excluding food and energy rose 0.2 percent, the smallest gain in five months, and core producer prices fell for the first time since October.

A decline in building permits subtracted 0.18 percentage point from the leading indicators index. July permits, a sign of future construction, fell 6.5 percent, the most since September 1999.

``The market is very, very bumpy,'' Bruce Karatz, chief executive officer of KB Home, said in an interview on Aug. 9. ``It is a very uncertain period for home buying'' and there is ``tremendous hesitation'' among buyers.

The yield curve subtracted from the index for the first time since March 2001. Under a new methodology the Conference Board introduced last year, the curve subtracts from the index only when the yield on the 10-year Treasury note is lower than the federal funds target rate for a cumulative period of time.

An increase in initial jobless claims last month also restrained the index, subtracting 0.04 percentage point. Claims averaged 312,300 last month.

Factory Workers

An increase in the factory workweek made the biggest positive contribution to the July leading indicators, adding 0.12 percentage point. Vendor performance, a measure of delivery times, was next, adding 0.03 percentage point.

Seven of the 10 indicators that make up the index are known ahead of time: stock prices, jobless claims, consumer expectations, the yield curve, building materials, supplier delivery times and factory hours. The Conference Board estimates new orders for consumer goods, orders for non-defense capital goods and money supply adjusted for inflation.

Money supply, which has the biggest weighting on the index, fell in July and subtracted 0.01 percentage point to the leading indicators index. New orders for consumer goods rose and added 0.01 percentage point.

The Conference Board's index of coincident indicators, a measure of current economic activity, rose 0.2 percent in July, the same as in June. The index tracks payrolls, incomes, sales and industrial production.

The gauge of lagging indicators fell 0.1 percent after a 0.5 percent increase in June. The index measures business lending, length of unemployment, what consumers pay for services, interest rates and ratios of labor costs, inventories and consumer credit.

To contact the reporter on this story:
Courtney Schlisserman in Washington 
cschlisserma@bloomberg.net
Last Updated: August 17, 2006  12:26 EDT

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