Consumer Prices Come in Flat

Also: housing starts jump and industrial production inches up

The overall consumer price index was unchanged, while the core index rose 0.3% in May. The headlines were stronger than expected, and were largely due to a 0.6% rebound in shelter costs following surprisingly subdued gains over the three previous months.

The strength was led by a 4.1% surge in shelter away from home (hotels). In addition, medical care costs increased a firm 0.4%. Food prices also contributed to the rise, with a gain of 0.3%, as fruit and vegetable prices rebounded following declines in April.

Holding back the headline figure was another sharp drop in energy prices. The energy aggregate dropped 3.1%, with gasoline falling 6.8%. Most other components were roughly in-line with recent benign trends.

Overall, while the report had a firmer tone than was expected, the report still suggests that inflationary pressures remain subdued. The data still leave the core CPI rising at only a 1.6% year-over-year rate, which marks one of the lowest rates of growth in the last four decades. Moreover, the core aggregate through the first five months of 2003 is rising at a SAAR of only 1.1% compared to 1.9% in 2002. The upside strength in the report may be another reason for the Federal Reserve to opt for a 25 basis-point rate cut rather than 50 basis points.

Housing Starts Jump

U.S. housing starts rose 6.1% to a 1.73 million unit rate in May, as lean rates helped extend an already robust pace of residential housing. The bulk of the headline strength was due to a massive 35% surge in multi-family starts. However, the 1.5% gain reported for single family starts leaves this housing sector growing at a solid pace.

Geographically, starts expanded 14.0% in the Midwest while growing a healthy 7.4% in the South. These gains followed declines of 8.5% and 10.9%, respectively, in April. Activity in the West edged 0.7% higher, but starts in the Northeast fell 1.3%.

Overall, this report confirms that the housing sector remains the epicenter of economic activity, thanks to record low mortgage rates. Indeed, rates are the key driver of this sector, plunging to record lows during May on the back of the steep decline in Treasury yields (also to historic lows.)

Permits rose 3.7%, leaving this measure at a healthy 1.79 million unit rate. This is the fastest pace since last December, and suggests that starts will be well supported through yearend. Finally, note the CPI report revealed that the May housing component posted the largest gain since 1991, which underscores the robustness of the housing sector.

Industrial Production Inches Up

May industrial production rose 0.1%, which left capacity utilization unchanged from a downwardly-revised 74.3%. The subdued headline gain came with downward revisions for both April and May -- implying a weaker than expected report.

On net, the data suggest no pick-up yet in real sector activity. And given that capacity utilization is currently hovering at 74.3% -- 7% below its 1972-2002 average -- a lot of excess capacity still appears to be in place. This continues to provide a backdrop that suggests inflation pressures should remain benign and will be one of the factors encouraging the Fed to ease again on Wednesday (with our call being 25 basis points).

Nonetheless, real sector activity could be on the verge of a pick-up given the acceleration seen in the manufacturing surveys in May and now June, with the June New York Fed survey jumping to a record high yesterday.

As for the details, the dominant manufacturing sector rose 0.2%, as most components revealed a gain with the exception of vehicles and parts, which dropped 1.1%. High-tech remained an area of strength, rising 0.8%. Rounding out the report was a 0.8% gain in mining and a 0.8% decline in utilities, with the latter damped by cool weather on the month.

From MMS International

Before it's here, it's on the Bloomberg Terminal.