Vital Signs: What's Ahead for the Fed

On tap: The Federal Reserve meets to discuss monetary policy, retail sales and producer price data for April, March international trade

The top news event for the markets in the coming week will be the Federal Reserve's policy meeting on May 9. The Fed is expected to keep the overnight federal funds rate on hold at 5.25%. Looking further out, though, that consensus quickly falls apart when you ask economists about which direction the Fed funds rate is headed. It's easy to find economists expecting multiple rate cuts this year, as well as those who believe that at some point in the future, the Fed's next move will be to hike rates.

What the Fed ultimately does next hinges on the labor market. That's why recent reports on job growth, the unemployment rate, and weekly claims for unemployment insurance are uppermost in the minds of investors right now. Despite weak economic growth in the first quarter and ongoing concerns regarding housing and business spending, the Fed won't cut rates unless there are clear signs of labor market deterioration. And if the jobless rate heads lower, the central bank could very well raise rates.

Those on Wall Street who expect rate cuts, such as Goldman Sachs and UBS, believe the labor market is simply lagging behind the rest of the economy and that the full impact from housing has yet to be felt. In coming months, construction payrolls will drop, they say, and consumer spending, which accounts for 70% of the economy, will fall off, as consumers can no longer tap into their home's equity for easy spending money. They expect weaker demand to lead to wider labor market weakness and a rising unemployment rate.

In the other camp, those expecting the Fed to stay on hold and even eventually lift rates believe the worst of the housing slump is about over, that consumers are under no great stress, and that job markets will stay tight enough to keep inflation worries alive.

In the coming week, the April retail sales report will most likely add support to the beliefs of rate cutters. Economists expect a decent increase in overall April retail sales, but the most important number in this report will be gasoline station sales. Retail sales are measured in dollar value and not quantity. Another surge in this category like the 3.1% increase in March would be a particularly inopportune hit to consumer purchasing power. Spending on other items is likely to suffer.

The stance among those who believe the Fed will likely have to raise rates next, such as JP Morgan and Barclays Capital, is that housing's collapse remains well contained. Strength in service-sector hiring is fueling consumer spending and employment prospects should hold up as the parts of economy outside of housing improve. The April factory and non-manufacturing activity reports from the Institute for Supply Management bolster this view.

The upcoming March figures on international trade and business inventories will also be important. Strong demand for exports has kept manufacturers busy as demand at home slipped. But domestic capital spending could soon pick up as the inventory buildup during the second half of last year is pared down.

For the time being, it appears that the Fed will take a wait and see approach. But to understand where rates are headed next, it's best to focus on the labor markets and how the rest of the economic data will impact hiring. That's what the Fed is doing.

Here's the weekly economic calendar, from Action Economics.

Economic Reports
Report Date Time For Median Estimate Last Period
Consumer Credit (billion) Monday, May 7 3 p.m. March $5.0 $3.0
Wholesale Trade Sales Tuesday, May 8 10 a.m. March 0.5% 1.2%
Trade Balance (billion) Thursday, May 10 8:30 a.m. March -$59.7 -$58.4
Export Price Index Thursday, May 10 8:30 a.m. April 0.4% 0.7%
Import Price Index Thursday, May 10 8:30 a.m. April 0.8% 1.7%
Treasury Budget (billion) Thursday, May 10 2 p.m. April $132.5 -$96.3
Retail Sales Friday, May 11 8:30 a.m. April 0.5% 0.7%
Retail Sales (ex-auto) Friday, May 11 8:30 a.m. April 0.5% 0.8%
PPI Friday, May 11 8:30 a.m. April 0.6% 1.0%
PPI (ex-food & energy) Friday, May 11 8:30 a.m. April 0.2% 0.0%
Business Inventories Friday, May 11 10 a.m. March 0.3% 0.3%


Consumers are expected to have piled up debt at a faster clip in March. The level of outstanding consumer credit grew by $3 billion in February, with virtually all of the increase coming in revolving credit, which is made up mostly of credit card debt. With softer auto sales, most of the forecasted $5 billion increase in consumer credit for March is likely to come in the form of revolving credit. Growth in non-revolving debt, made up of largely of auto and education loans, has been slowing, now at a yearly pace of 3.1%, from 4.5% in February of 2006. Meanwhile, revolving credit grew by 7% from a year ago, compared to a pace of 2.8% last February. Consumers may be turning to credit cards as higher energy prices erode purchasing power or because they can no longer turn to their home's equity as a way to gain extra cash.

ICSC-UBS STORE SALES - Tuesday, May 8, 7:45 a.m. EDT

This weekly tracking of retail sales, compiled by the International Council of Shopping Centers and UBS bank, will update buying activity for the week ended May 5. Sales rebounded 0.5% for the week ended Apr. 28, after falling 0.3% and 0.6%, respectively in the prior two weeks. The yearly pace of growth slowed to 1.9%, from 2.1% for the week ended Apr. 21.

JOHNSON REDBOOK INDEX - Tuesday, May 8, 8:55 a.m. EDT

This weekly measure of retail activity will report on sales for fourth fiscal week of April, ended May 5. Sales through the first three fiscal weeks ended Apr. 28 were down 4.1% compared to the same period in March. For the entire month of March, sales were up 0.9% compared to the same period in February.


Wholesale sales probably rose at a slower pace in March. Back in February, sales rebounded with a 1.2% jump, after a 0.9% fall. The February gain was based largely on an 8.8% rise in petroleum sales which were driven by rising oil prices. Wholesale sales and inventories are measured by value and not in volume. Excluding petroleum, the value of sales rose just 0.4%. A similar surge in March petroleum sales due to higher prices is not likely. Oil prices fell during most of the month before staging a rally in the latter stages.

Inventories posted a moderate gain in February. The increase was 0.5% in February, after a 0.6% bounce in January. Inventories of petroleum were unchanged, but overall inventories of non-durable goods rose 0.9% while durable goods stockpiles climbed 0.3%. Given the drop in February durable goods sales, the inventory-to-sales ratio for durable goods kept rising. The February result shows durable goods wholesalers may have some more warehouse clearing to do before feeling comfortable with inventory levels relative to demand.


Wednesday, May 9, 9 a.m. EDT - The Federal Reserve's Federal Open Market Committee gathers to discuss monetary policy. An announcement by the Fed will come around 2:15 p.m. Every economist polled by Action Economics fully expects the central bank will keep interest rates at 5.25%.

The Fed meeting will still garner plenty of attention. Wall Street will be looking for any hints that the Fed is shifting its assessment of risks for inflation and growth. The Fed took a very small step towards a more neutral policy stance in its Mar. 21 post-meeting press release. The FOMC did state that inflation "remains the predominant policy concern." However, the statement also moved away from its one sided view of future policy action. The central bank gave itself some flexibility by replacing the phrase "the extent and timing of any additional firming" depends on the how growth and inflation play out with "future policy adjustments."

MORTGAGE APPLICATIONS - Wednesday, May 9, 7 a.m. EDT

The Mortgage Bankers Association releases its mortgage application volume data for home buying and refinancing activity for the week ending May 4. In the week ended Apr. 27, the purchase index rose to 427.3, the highest level since January. In the prior week, the index improved to 411. The refi index fell to 2015.8, from 2081.6 in the week ended Apr. 20.

The four-week moving average for the purchase index was 412.2, after holding at 406.1 for two weeks. The four-week average for the refi index eased to 2030.2, from 2050.8 in the week ended Apr. 20. The average 30-year fixed-rate mortgage inched up to 6.14% from 6.13% in the prior period.


Thursday, May 10, 11 a.m. EDT - Federal Reserve Bank of Chicago President Michael Moskow gives the welcoming remarks at the Chicago Fed's conference called "Competitive Forces Shaping the Payments Environment: What's Next?" in Chicago.

11:15 a.m. EDT - Federal Reserve Board Governor Randall Kroszner gives a speech entitled "The Future of Payments: Challenges and Opportunities" at a Chicago Fed conference in Chicago.

2:30 a.m. EDT - U.S. Treasury Secretary Henry Paulson participates in a panel discussion on the global economy at George Washington University in Washington, D.C.

JOBLESS CLAIMS - Thursday, May 10, 8:30 a.m. EDT

Jobless claims for the week ended Apr. 28 fell to 305,000. In the prior week, claims stood at an upwardly revised 326,000, from the originally reported 321,000. The four-week moving average eased to 328,750, from 333,250 in the week ended Apr. 21. Continuing jobless claims for the week ended Apr. 14 tumbled to 2.5 million, from 2.59 million.

INTERNATIONAL TRADE - Thursday, May 10, 8:30 a.m. EDT

The U.S. trade deficit of goods and services probably widened a little more in March. The increase in imports looks set to outpace any rise in exports as higher energy prices look set to increase the total dollar value of energy imports. The deficit in February narrowed to $58.4 billion, after a trade gap of $58.9 billion in January. However, the average trade gap so far this year is running below the monthly average in the fourth quarter of 2006.

Beyond the headline numbers, capital and consumer goods exports cooled off some in February. However, solid economic growth abroad and a weaker dollar are expected to stoke demand for U.S. capital equipment and consumer goods through the remainder of the year. That would be a particularly welcome trend for U.S. manufacturing, which have been hit hard by the housing recession and reduced domestic capital investment.

IMPORT AND EXPORT PRICES - Thursday, May 10, 8:30 a.m. EDT

Import prices in April are expected to have kept climbing. In March, import prices zoomed up 1.7% on a 9% surge in petroleum imports. Outside of petroleum, import prices rose a modest 0.3%. Compared to a year ago, import prices are up 2.8%, and 2.9% outside of petroleum, the biggest gain since October of 2005. There is a steady rise consumer goods prices, up 1.8% from a year ago in March, the largest increase since January of 1996. The prices of motor vehicle imports have also been creeping higher. Part of this rise in import prices is due to a weakening dollar.

Export prices in April should also bounce higher. March export prices grew 0.7% for a second straight month. In both months, rising agricultural prices led the way up, with 2.1% and 2.8% gains, respectively. Outside of agricultural goods, export prices were up 0.6% in March and 0.5% in February. Stronger demand for corn to make ethanol has helped push the prices of cereals up 41.5% in the year through March. Elsewhere, U.S. exporters appear to be keeping the prices of their goods steady in foreign currency terms, which equates to higher prices in dollar terms as the greenback declines. Consumer goods exports have been drifting higher since the start of 2006.

FEDERAL BUDGET - Thursday, May 10, 2 p.m. EDT

The federal government is expected to have posted a huge April surplus of $132.5 billion. That's the consensus forecast among economists queried by Action Economics. The expected April surplus would be 11.5% above the $118.8 billion surplus in April of 2006, and the highest since 2001. So far this fiscal year, the shortfall is $258.4 billion, down from $302.9 during the same time period in fiscal year 2006.

Through the first half of fiscal year 2007, personal income receipts are up 10.8% and corporate receipts are 18.3% higher compared to the same period in the prior fiscal year. The growth of corporate tax receipts could cool off as corporate profits come under more pressure from higher energy and labor costs, as well as softer economic growth.

RETAIL SALES - Friday, May 11, 8:30 a.m. EDT

The topline reading for April retail sales should continue to look good. The consensus view among economists polled by Action Economics is for a 0.5% improvement.

However, this report merits a deeper look. The March increase of 0.7% was fueled by a large 3.1% bounce in gasoline station sales. Higher gas prices drove up the dollar value of gas station sales. Excluding gas, retail sales were up 0.4%. Soaring gasoline prices are eating away at consumer purchasing power as consumers potentially divert money from purchases of other goods and services to buy gasoline. Higher energy costs could pose a real headwind to consumer spending in the second quarter.

Sales excluding motor vehicles likely improved 0.5% as well. In March, monthly sales outside of vehicles zipped up 0.8% while the yearly pace quickened to 3.9%. Economists will also be keeping an eye on department store sales after weak April weekly chain store sales results.

PRODUCER PRICE INDEX - Friday, May 11, 8:30 a.m. EDT

Higher energy prices probably kept producer prices rising at a rapid clip. In March, wholesale prices jumped 1%, after a 1.3% surge in February. Energy is to blame for the rapid rise. In March, energy prices were up 3.6%, after a 3.5% increase in February. Food prices grew 1.4% in March, on top of a 1.9% rise the month before.

Minus the volatile food and energy categories, producer prices were steady in March, after a 0.4% rise in February. One reason for the stable core PPI index reading was a big decline in light truck prices.

The yearly pace of wholesale prices accelerated to a rate of 3.2% in March, from 2.5% in February. Businesses are feeling the pinch from elevated energy and other costs, as the latest national business activity reports showed a jump in prices paid by businesses for goods. However, less food and energy the yearly gain slowed to 1.7%, from 1.8% in February.

BUSINESS INVENTORIES - Friday, May 11, 10:00 a.m. EDT

Inventories in March probably grew at a similar clip to the 0.3% increase in February. In February, sales outpaced inventory growth, which kept the inventory-to-sales ratio at 1.29 months, up from 1.25 months a year ago. The inventory-to-sales ratio crept up through 2006 as demand cooled.

It appears some businesses are getting a handle on the back up in inventories. Among durable goods makers, inventories ticked up 0.3%, while sales jumped 0.8% in March. That pushed the inventory-to-sales ratio down from a recent February peak of 1.45 months. The Institute for Supply Management's April factory activity report showed that more manufacturers reported a decline in their own stockpiles and that they believe customer levels are too low. At the same time, however, wholesalers may still have more work to do.

Earnings Calendar
Day Companies
Monday Ameren, Fluor. McKesson, Progress Energy
Tuesday Cisco Systems, Duke Energy, Dynegy, El Paso, Electronic Arts, Harrah's Entertainment, Marsh & McLennan, Molson Coors, Spectra Energy, Tenet Healthcare, Tyco International, Walt Disney
Wednesday Barr Pharmaceuticals, Legg Mason, DIRECTV Group, TXU, Whole Foods Market
Thursday American International Group, ConEd, King Pharmaceuticals, NVIDIA, Sara Lee, Viacom
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