US GDP grows 4.8 percent in Q1, outlooks improving in Japan and Europe

The economic news from the US yesterday was dominated by the report on first quarter GDP, which was about as good as expected. From Reuters:

Gross domestic product grew at a 4.8 percent annual rate in the January-March quarter, the Commerce Department said on Friday, more than twice the fourth quarter's 1.7 percent rate...

The GDP report showed a gauge of personal spending excluding food and energy -- an inflation measure favored by the Federal Reserve -- advanced at a 2 percent rate in the first quarter compared with 2.4 percent in the fourth quarter last year.

Separately, the Labor Department said employment costs measuring what employers pay in wages and benefits rose at the slowest pace in seven years during the first quarter, which should temper concerns about potential wage-induced inflation.

Its Employment Cost Index rose 0.6 percent in the first quarter, down from a 0.8 percent rise in the fourth quarter and well short of the 0.9 percent gain that had been forecast.

But the Reuters report highlights other indicators that suggest a slowdown is coming.

Financial markets on Friday faced an avalanche of data -- not all of it strong -- including a University of Michigan survey showing the consumer sentiment index slipped to 87.4 in April from 88.9 in March. In addition, a Chicago Purchasing Managers Index fell to 57.2 in April from 60.4 in March.

There was also plenty of news elsewhere, including in Japan.

Japan's jobless rate held steady at a seven-year low in March while core consumer prices rose for a fifth straight month, stoking talk of an early interest rate hike.

The unemployment rate remained at 4.1 percent as the world's second-largest economy recovers from a decade-long slump, official figures showed.

Meanwhile the core consumer price (CPI) index, which excludes volatile prices of fresh food, increased 0.5 percent last month, the government said...

The CPI index for Tokyo - the leading indicator for national price trends - was up 0.3 percent in April from a year earlier. Excluding volatile prices of fresh food it was also 0.3 percent higher...

A slew of other economic data also showed that industrial output rose by 0.2 percent in March from February - the first rise in three months...

Japan's average monthly household spending fell 2.1 percent in March from a year earlier, the third straight monthly decline.

And the Bank of Japan has upgraded its outlook for the economy.

The world's second-largest economy is set to grow 2.4 percent in the current fiscal year to March 2007, up from 1.8 percent previously forecast but below the 3.2 percent pace of last year, the Bank of Japan (BoJ) said.

Growth is expected to slow slightly to 2.0 percent the following year, the central bank said in its twice-yearly economic outlook report. The forecasts are based on the views of its policy board members.

Consumer price inflation is expected to pick up to an annual pace of 0.6 percent in the current fiscal year, accelerating to 0.8 percent in the following term, it bank said...

"It seems probable that the accommodative financial conditions ensuing from very low interest rates will be maintained for some time following a period in which the uncollateralised overnight call rate is at effectively zero percent.

"Through and beyond this stage, the Bank will adjust the level of interest rates gradually in the light of developments in economic activity and prices," the BoJ said in the report.

Meanwhile, in Europe, optimism is at a 5-year high.

An index of economic sentiment among companies and households in the dozen euro nations climbed to 105.3 from 103.6 in March, the European Commission said in Brussels. Consumer prices rose 2.4 percent from a year ago, the most since January, the European Union's statistics office said in a separate report...

In another report, the ECB said money supply growth accelerated to the fastest pace in almost three years. M3, the ECB's preferred measure of money supply, rose 8.6 percent in March from a year earlier after increasing 8 percent in February, the bank said. Economists expected a reading of 7.9 percent.

The German government now expects its economy will expand 1.6 percent in 2006, up from the 1.5 percent it predicted in January...

Retail sales in Germany unexpectedly fell for a second straight month in March. Sales, adjusted for inflation and seasonal swings, dropped 2.7 percent, the biggest decline since Mary 2004, the Federal Statistics Office in Wiesbaden said today.

Consumer confidence in France also unexpectedly fell following nationwide prices. A gauge based on a poll of 2,000 people slipped to minus 27 from minus 26 in March, Insee, the national statistics office in Paris, said today. Unemployment fell to 9.5 percent in April from 9.6 percent in March, the Labor Ministry said in a separate announcement.

Fed may pause, China not waiting

The focus of attention for markets yesterday was Federal Reserve Chairman Ben Bernanke's testimony to Congress. From Reuters:

Federal Reserve Chairman Ben Bernanke on Thursday said for the first time the central bank could at some point pause its 22-month interest-rate raising campaign to allow time to divine the economy's path.

Bernanke told Congress the economy was poised to slow and said the Fed's policy panel may opt for a hiatus even if inflation risks were elevated, leading financial markets to cut bets on a June rate rise while still wagering on one in May.

"Even if in the committee's judgment the risks to its objectives are not entirely balanced, at some point in the future, the committee may decide to take no action at one or more meetings in the interest of allowing more time to receive information relevant to the outlook," Bernanke said in testimony before the Joint Economic Committee.

"Of course, a decision to take no action at a particular meeting does not preclude actions at subsequent meetings," he added, signaling a willingness to reembark on the rate-hike course if inflation risks do not abate.

However, China's interest rate move yesterday also shook markets.

China raised interest rates for the first time in 18 months on Thursday, sending ripples through surprised world markets who saw the move as an attempt to prevent the emerging economic powerhouse from overheating.

The People's Bank of China raised one-year lending rates to 5.85 percent from 5.58 percent, prompting sky-high world oil and commodity prices and some stock markets to retreat.

In employment-related news, the US Labor Department reported yesterday that first-time claims for state unemployment insurance benefits rose by a larger-than-expected 11,000 last week to 315,000, but in Germany, the Federal Labor Agency reported that unemployment fell by 40,000 to 4.69 million and the adjusted jobless rate fell to 11.3 percent from 11.4 percent.

More positive news from the US and Europe

Yesterday's news shows that there is still strength in the US economy. Reuters covers the reports on durable goods orders:

Durable goods orders rose 6.1 percent, the largest rise since May 2005, the Commerce Department said. Economists polled by Reuters had expected a smaller 1.6 percent increase in durable goods orders in March...

Even when transportation orders were stripped out, orders for durable goods...rose 2.8 percent...

In addition, February durable goods orders were revised higher, to a 3.4 percent gain from the previously reported 2.7 percent rise...

Orders for non-defense capital goods excluding aircraft, a proxy for business spending, gained 3 percent in March, twice the 1.5 percent climb expected by analysts.

...and housing:

Sales of new U.S. homes rose a much larger-than-expected 13.8 percent in March to a 1.213 million unit annual rate, the biggest one-month gain since April 1993...

The median home price slipped 2.2 percent from a year earlier to $224,200, the first year-over-year decline since December 2003, the Commerce Department said. Also, the March sales pace was down 7.2 percent from March 2005.

Inventories increased as well as new homes available for sale at the end of March reached a high of 555,000.

A separate report showed U.S. mortgage applications fell for a third consecutive week, with demand for home purchase loans falling to its lowest level since November 2003 despite a drop in interest rates, an industry trade group said.

Yesterday also saw the Federal Reserve release its Beige Book. The report noted that "economic activity continued to expand in March and the first half of April". It also noted some tightness in labor markets and rising input costs, but that there was little pickup in the pace of raises and businesses had limited success in raising their selling prices.

The news from Europe was also good. While industrial production was flat in February, industrial new orders were up by 2.7 percent in February in the euro zone and by 0.5 percent in the EU25.

In the UK, strong growth in industrial output offset a sharp slowdown in the services sector to help bring first-quarter GDP growth to 0.6 percent, the same as in the last three months of 2005. The annual rate of growth edged up to 2.2 percent.

In Germany, following the report of a rise in business confidence the previous day comes a report of a rise in consumer confidence.

German consumer confidence is rising to levels not seen in years as optimism about the outlook for Europe's biggest economy eases a chronic unwillingness to spend, a closely watched survey showed Wednesday.

The GfK research group's forward-looking consumer climate indicator rose to 5.5 points for May, up from April's reading of 5.3. This month's figure was revised up from an initial estimate of 5.1.

Positive economic news from the US, Germany and UK, BoC raises rates

US economic news yesterday was, on the whole, positive. From Reuters:

The Conference Board said its index of consumer sentiment rose to 109.6 in April, the highest since May 2002, from an upwardly revised 107.5 reading in March...

The National Association of Realtors said sales of existing U.S. homes rose to a 6.92 million-unit rate in March from February's downwardly revised 6.90 million pace, beating expectations of a rise to a 6.7-million unit pace.

The rise in total sales was driven by a 0.3 percent increase in single-family home sales. But inventories soared by 7.0 percent, leaving a record 3.19 million existing homes available for sale at the end of the month...

Two gauges of weekly U.S. chain store sales showed the third week in April proved more robust this year than last...

Separately, the Federal Reserve Bank of Richmond said its monthly manufacturing index dipped to 18 in April from 21 in March.

So was the news from Europe. In Germany, Bloomberg reports a rise in business confidence in April:

The Ifo institute's confidence index, based on a survey of 7,000 executives, rose to 105.9, the highest since April 1991, from 105.4 in March...

Ifo's gauge of business expectations declined to 105.5 from 105.7, while the measure of current business conditions advanced to 106.4, the highest since October 1991, from 105.1.

But inflation accelerated in April.

Inflation in Germany, Europe's largest economy, accelerated for the first time in seven months in April as oil and fuel costs rose, making an interest rate increase by the European Central Bank more likely.

The inflation rate increased to 2 percent from 1.8 percent in March, the Federal Statistics Office in Wiesbaden said today. Economists expected German inflation to accelerate to 1.9 percent, according to the median of 35 estimates in a Bloomberg New survey. From a month earlier, consumer prices gained 0.4 percent.

In the UK, Reuters reports that manufacturing demand is improving.

The Confederation of British Industry said its monthly manufacturing order books balance improved to -11 in April from -16 in March. That was the highest since February 2005, and much better than analysts' forecasts for a reading of -15.

And in Canada, the strong economy has pushed the central bank to raise interest rates.

The Bank of Canada hiked its key overnight interest rate on Tuesday for the sixth straight time, maintaining its bias toward further increases as it warned the economy may be growing a shade faster than desired.

The bank raised the rate by 25 basis points to 4 percent as expected, but cautioned it would monitor developments closely "in light of the cumulative increase in the policy interest rate since last September."

Strong economic data from Europe and Asia, but Asian stocks plunge

The news from Europe yesterday was mostly good. From Bloomberg:

An index measuring sentiment among French manufacturers increased to 108 in April, the highest since March 2001, Paris- based statistics office Insee said today. German industrial production rose 1 percent in February after gaining a revised 0.4 percent in January, the Economy Ministry in Berlin said.

And mortgage lending in the UK remains strong.

The BBA said underlying mortgage lending rose by 5.4 billion pounds in March, the biggest increase since June 2004 when the British property market was at its peak, and up from a 4.7 billion pound rise in February.

It was also well above the average of 4.9 billion pounds over the previous six months...

BBA data also showed that consumer credit, personal loans and overdrafts and credit card lending all fell in March compared with February...

Figures released at the same time from the Building Societies Association showed the value of mortgage approvals -- loans agreed by not yet advanced -- surged 29 percent from a year ago to 4.672 billion pounds.

And even the slowing UK retail sales turned out to be better than expected.

The Office for National Statistics said on Monday that sales rose 0.7 percent in March after a downwardly revised 0.3 percent increase in February, putting them up 2.6 percent on the year.

The monthly rise was more than double analysts' forecasts but for the first three months of 2006 as a whole retail sales fell 0.7 percent from the previous three months -- the first drop and the weakest outrun since February 2005.

Today, the good economic news continues in Asia.

South Korea's economy expanded 1.3 percent in the first quarter as the nation's exports accelerated and consumer spending increased.

Growth was faster than the 1.1 percent median estimate in a Bloomberg News survey of 12 economists, and compared with 1.6 percent in the fourth quarter. Exports rose 2.6 percent and private consumption gained 1.2 percent, the central bank said in a statement today in Seoul...

From a year earlier, the economy expanded 6.2 percent in the three months to March 31, the biggest gain since the fourth quarter of 2002, the central bank said.

But investors were obviously looking ahead yesterday and didn't like what they saw, as three of Asia's biggest stock markets saw nasty falls on the back of rising oil prices and stronger currencies.

	21 April close	24 April close	Percent change
Nikkei 225	17,403.96	16,914.40	-2.8
Hang Seng	16,912.15	16,705.67	-1.2
KOSPI	1,451.31	1,430.94	-1.4

Fed rate hikes: The end is near . . . maybe

The widely-accepted view in market circles is that stocks perform poorly in an environment of rising interest rates. So it comes as no surprise that recent indications that the Federal Reserve may be nearing an end to its rate-hiking campaign has provided a boost to US as well as global stock markets.

According to the minutes of a Federal Reserve meeting on 27-28 March, policy-makers indicated that the US central bank could be nearly done raising interest rates. "Most members thought the end of the tightening process was likely to be near, and some expressed concerns about the dangers of tightening too much, given the lags in the effects of policy," said the minutes.

Prices of stocks and bonds rose on 18 April, the day the minutes were released. By the end of the week, the Dow Jones Industrial Average was at 11,347.45, up 1.9 percent for the week and less than 4 percent from its all-time high of 11,750.28 reached on 14 January 2000.

The impact was felt in stock markets in other countries as well. Japan's Nikkei 225 closed the week at 17,403.96, rising 1.0 percent over the week, while the FTSE 100 did even better, rising 1.7 percent over the week to close at 6,132.70, its highest close since February 2001.

Of course, the statement in no way guarantees that yields will not rise further. In fact, they do not even guarantee that the Federal Reserve will not continue hiking the federal funds rate.

"The need for further policy firming would be determined by the implications of incoming information for future activity and inflation," the minutes said. In other words, the future direction of Federal Reserve action is not cast in stone and will depend on incoming data. Indeed, the minutes also said: "With energy prices remaining high, prices of some other commodities continuing to rise, the risk of at least a temporary impact on core inflation remained a concern."

The implication of these statements was made clear on the very day after the minutes were released. On 19 April, core consumer prices were reported to have increased 0.3 percent in March, the fastest rate in a year. Bond prices duly fell, giving up their gains from the previous day.

Clearly, any data that justifies a change in current projections -- on the rate of inflation or economic growth -- would also change the course of Federal Reserve action.

Nevertheless, the significance of the Federal Reserve statements lies in the fact that it shows that the central bank is comfortable with current projections on inflation and economic activity, that it is not particularly hawkish on inflation, that it is mindful of policy lags, and that it does not want to risk triggering a recession.

That should be good news to stock investors, or more specifically, for the outlook for stocks over the next year or so. They still need to worry that the real economy might spring a surprise on them, but at least they do not have to worry so much that the Federal Reserve would.

Japan's bumpy recovery, lesson for China

Japan's economy continues on its bumpy recovery. From Bloomberg:

Japan's service industries shrank for the first month in five as consumers and companies trimmed spending after the biggest expansion in a year in January.

The tertiary index fell 1.5 percent in February from a month earlier, the trade ministry said today. The result was worse than the median estimate for a 1.1 percent contraction among 33 economists surveyed by Bloomberg. January's revised 1.5 percent expansion was the biggest in a year...

From the same month a year ago, the tertiary rose 2.4 percent. Japan's all-industry index fell 0.9 percent in February from January, and rose 2.5 year-on-year, the trade ministry said.

Japan's struggle out of deflation is probably a good lesson for China. At least, that seems to be what Morgan Stanley's Stephen Roach thinks.

A day after the warning from Morgan Stanley that China risks a hard landing in 2007-08 as a result of excessive investment, its chief economist Stephen Roach says that it also faces the prospect of protectionism:

The Chinese leadership has rejected the advice to institute a major revaluation of the renminbi offered by a broad array of so-called US experts... While China will now have to face the wrath of the protectionists, in my view, the Chinese leadership has made the right decision at the right time...

... Repeatedly during the 1980s, when the US was in the midst of its first external crisis -- a current account deficit that peaked at a then-unheard of 3.4% share of GDP -- Washington pounded on Japan to let the yen rise... Unfortunately, the Japanese heeded this advice... Japan’s “endaka” (strong yen) was a major factor behind its subsequent undoing -- fueling the mother of all asset bubbles in equities and property that ended with a sickening collapse into a protracted post-bubble deflation... [A] mere 20 years later, America is offering the Chinese the same bad advice that took Japan down a road of unmitigated macro disaster...

... China is wise to resist the bad advice it is getting from its largest trading partner. The last thing it needs is a Japanese-style deflation. The best answer for China is to execute the internally-directed rebalancing strategy that is contained in its 11th Five-Year Plan...

China grows 10.2 percent in first quarter, Japanese trade surplus shrinks in March

China's economic growth shows few signs of slowing. From People's Daily Online:

China's economy soared by 10.2 percent in the first quarter, fueled by strong investment, a government spokesman said Thursday, dismissing fears that the economy might be overheating.

Gross domestic product, the broadest measure of goods and services output, reached 4.33 trillion yuan (540 billion U.S. dollars), said Zheng Jingping, of the National Bureau of Statistics.

Investment was a major growth driver.

Investment in roads, factory equipment and other fixed assets totaled 1.39 trillion yuan, growing a sharp 27.7 percent, or an increase of 4.9 percentage points year on year.

Investment in urban areas climbed 29.8 percent to 1.16 trillion yuan, while that in rural areas came to 230 billion yuan, up 18.1 percent...

So was trade.

The growth of imports picked up tangibly, surging 24.8 percent in the quarter to 174 billion U.S. dollars, or a year-on-year rise of 12.6 percentage points...

China recorded a surplus of 23.3 billion dollars in the first quarter as exports grew 26.6 percent to 197.3 billion dollars, down 8.3 percentage points from a year earlier.

The income gap grew.

Urban dwellers reaped a 10.8 percent increase in disposable income, 2.2 percentage points higher year on year, while the growth in farmers' income fell 0.4 percentage points to 11.5 percent. Analysts say the rich-poor gap has yet to be closed.

Another report showed that house prices continued to rise.

The housing prices in 70 large and medium Chinese cities rose by 5.5 percent compared with the previous year in the first quarter of 2006, the National Development and Reform Commission (NDRC) announced on Thursday.

But consumer price inflation slowed from the previous year.

China's consumer price index (CPI) rose 1.2 percent in the first quarter of this year, down by 1.6 percentage points year-on-year, the National Bureau of Statistics said in Beijign on Thursday.

Morgan Stanley thinks that this is "sound evidence of overcapacity in a large number of sectors, resulting from excessive investment over the past few years", and that "further indulgence in the construction boom will leave China with more excess capacity and the risk of a harder landing in 2007-08".

The other risk for China is trade protectionism, particularly from the US, largely arising from perceived misalignment in the Chinese currency. Menzie Chinn at Econbrowser questions whether there is indeed misalignment, and if there is, whether, in the absence of capital controls, the equilibrium renminbi exchange rate might actually be weaker than what we currently see.

But at least one country appears to be gaining from the China trade: Japan. From AFP/CNA:

In March...the trade surplus shrank for a 15th consecutive month, dropping 11.9 percent year-on-year to 978.1 billion yen as oil prices continued to drive up the cost of imports...

Exports rose 18.1 percent to 6.82 trillion yen in March while imports jumped 25.2 percent to 5.84 trillion yen. Crude oil imports alone jumped 59.6 percent.

At the same time, Japanese exports continued to show healthy growth, with all-important auto exports expanding 26.7 percent thanks to solid overseas demand, the ministry said.

Exports in the month to Asia rose 17.8 percent to 3.27 trillion yen, with shipments to China up 32.4 percent to a record 973.9 billion yen.

US-bound exports rose 16.4 percent to an all-time best 1.50 trillion yen.

More mixed reports on inflation as well as on growth outlook

March inflation patterns in the US reported on Wednesday were somewhat replicated in Europe, as Eurostat reported yesterday.

Euro-zone annual inflation was 2.2% in March 2006, down from 2.3% in February. A year earlier the rate was 2.1%. Monthly inflation was 0.6% in March 2006. EU25 annual inflation was 2.1% in March 2006, down from 2.2% in February. A year earlier the rate was 2.1%. Monthly inflation was 0.5% in March 2006. EICP annual inflation was 2.1% in March 2006.

But euro-zone prices excluding energy, food, alcohol and tobacco were up 0.7 percent month-on-month and 1.3 percent year-on-year, up from 1.2 percent in the previous two months.

The UK also saw the annual rate of inflation slow in March to 1.8 percent from 2.0 percent in February, reports Reuters. Furthermore, core inflation -- excluding food, energy, alcohol and tobacco -- also eased to 1.3 percent in March from 1.4 percent.

In the US, yesterday saw more indications of an economic slowdown, but not all data pointed down. Reuters reports:

The Philadelphia Federal Reserve Bank said its business activity index inched up to 13.2 in April from 12.3 in March, a touch below Wall Street estimates of 14.0, while surging commodities prices pushed inflation readings higher.

New orders dropped sharply in April, as did inventories, suggesting manufacturers will need to rebuild stocks in coming months.

Separately, the Conference Board said its index of leading economic indicators, which is aimed at forecasting future economic activity, fell 0.1 percent last month after a downwardly revised 0.5 percent decrease in February...

First-time claims for state unemployment benefits shrank to 303,000 in the week ended April 15 from 313,000 the previous week...

The Philadelphia Fed survey also pointed to solid job growth, with its employment index reaching the highest level since September 2004. Analysts said that could point to a rare monthly gain in factory jobs in the April payrolls report.

US inflation worries rekindled

While the news on Tuesday had suggested an end to rate hikes from the Federal Reserve, yesterday's report on the CPI was less benign. From Reuters:

Core inflation in March rose at its fastest rate in a year as clothing and housing costs jumped, according to data on Wednesday that led markets to trim expectations for a quick end to Federal Reserve interest-rate hikes.

The Labor Department said the core Consumer Price Index, which excludes food and energy, advanced 0.3 percent last month, while a 1.3 percent spike in energy prices helped push the overall index up an even steeper 0.4 percent...

Still, the 12-month rate of advance in the core index remained at a relatively benign 2.1 percent. The 12-month rise in overall consumer prices slowed to 3.4 percent from the 3.6 percent rise registered through February.

The macroblog points out that the median CPI -- "probably a better predictor of the inflation rate going forward" -- rose 0.4 percent in March and 2.7 percent over the past 12 months, and suggests that overall, the report "is one to frown about".

Meanwhile, The Prudent Investor still thinks that rate hikes will continue "with Fed Funds between 5.25% and 5.75% by yearend".

Barry Ritholtz at The Big Picture thinks that with a Fed halt now baked into the cake, a "pause/resume scenario" could be "perilous for the markets". But even if the end of rate hikes is truly near, he points out that that is not necessarily good news for stock markets: "In the majority of past Fed tightening cycles, stock prices were lower six months after the final rate hike."

Elsewhere in the world, there is similar uncertainty in the UK over the future direction of monetary policy. From Reuters:

The Bank of England's Monetary Policy Committee was split 7-1 on its decision to leave interest rates at 4.5 percent this month as Stephen Nickell voted for a quarter percentage point cut for the fifth month running.

Minutes of the April 5-6 meeting published on Wednesday showed that overall the MPC thought there had been little news since the March meeting with economic growth continuing steadily and inflation staying close to its 2.0 percent target.

As such, the minutes did little to settle the debate about whether the next move in interest rates will be up or down. Analysts had predicted the 7-1 vote and generally expect the MPC to keep rates steady for at least the next few months.

But Japan still looks headed for higher official interest rates, even if not quite in the near future. AFX/Forbes:

The index of leading economic indicators for February has been revised upward to 90.9, more than the preliminary reading of 80.0, the Cabinet Office said.

Fed may end rate hikes, core PPI tame

Reuters reports that the Federal Reserve is mulling an end to rate rises.

Federal Reserve policy-makers meeting on March 27-28 felt the U.S. central bank was nearly done raising interest rates, but remained worried about potential inflation risks, according to meeting minutes released on Tuesday.

"Most members thought the end of the tightening process was likely to be near, and some expressed concerns about the dangers of tightening too much, given the lags in the effects of policy," said minutes from the policy-setting meeting, the first under new Chairman Ben Bernanke.

Markets reacted in the expected manner.

Bond prices rose across all the longer maturities on the prospect of an end to rate rises, while the dollar's value fell in apparent belief that fewer rate rises make U.S. securities less attractive for foreigners.

Stock prices soared, with the Dow Jones Industrial Average ending up 194.99 points at 11,268.77 and the high tech-laden Nasdaq composite index ahead 44.98 to end at 2,356.14.

The latest economic data reinforce the view that the Federal Reserve may be about to end its rate hikes.

The Labor Department said its producer price index, a gauge of prices received by farms, factories and refineries, climbed 0.5 percent last month as energy prices marched upward.

But so-called core prices, which exclude food and energy, rose just 0.1 percent, the smallest increase since November.

Separately, the Commerce Department said groundbreaking for new homes fell 7.8 percent in March to a 1.960 million unit annual pace, a bigger drop than economists had expected and one that built on a February decline...

In addition to the second consecutive monthly drop in housing starts, the Commerce Department said permits for future groundbreaking, an indicator of builder confidence, also slipped for a second straight month.

Signs of slowing

Yesterday's economic data weren't so hot.

Reuters reports that the US economy is showing signs of slowing.

Tensions over Iran's nuclear ambitions struck energy markets, causing oil prices to finish above $70 a barrel for the first time ever. Stocks were broadly lower with oil and gasoline prices on a tear...

The New York Federal Reserve's measure of manufacturing activity slumped to 15.81 in April from a downwardly revised 29.03 in March and far short of economists' median forecast of 24.50...

In a separate report from the National Association of Home Builders, U.S. home builder sentiment showed a drop this month to 50 from a downwardly revised 54 in March, the lowest since November 2001...

Chicago Fed President Michael Moskow warned in a speech on Monday that if U.S. economic growth is more robust than expected, inflation could increase...

High U.S. interest rates relative to other major economies so far has attracted foreign investors who in February, according to a report from the Treasury Department, poured a net $86.9 billion into U.S. financial assets compared with an upwardly revised $69.1 billion in January.

The housing market in the UK also appears to be slowing again. From Times Online:

House prices rose last month for the fifth month in a row, but the pace of increase slowed, the Royal Institution of Chartered Surveyors (RICS) said.

The RICS said that 13 per cent more sellers had reported a rise in prices than experienced a fall in prices in their area last month. This was weaker than the 16 per cent in February, indicating that price rises had slowed for the first time since early last year. The report said that new sellers had entered the property market last month at their fastest pace since last June, driving up activity and causing a slight rise in the proportion of stocks of homes on surveyors’ books.

Figures from Rightmove, the property website, for the four weeks to early April told a similar story. Although it said that house prices had risen 1.1 per cent, up from 0.9 per cent from the previous month, the year-on-year figures showed a slowing in the rate of property inflation, to 4.1 per cent in April from 4.3 per cent in March.

And industrial output and consumer confidence in Japan actually fell month-on-month.

Japan's February industrial output fell a revised 1.2 percent from January, less than previously thought, official figures showed on Monday.

Industrial production was up 3.9 percent from a year earlier, the Ministry of Economy, Trade and Industry said.

In an initial estimate released last month, the ministry had reported a 1.7 percent drop in output in February and a year-on-year gain of 3.7 percent. The ministry said the revision was the result of changes to calculation methods...

A separate government survey showed Monday that consumer confidence in Japan declined for the first time in three months, falling to 47.9 points in March from 49.8 in February.

US industrial output rises in March

If Thursday's news showed resilience in the US consumer sector, yesterday's showed resilience in the industrial sector as well. From Reuters:

U.S. industrial production rose 0.6 percent in March as mining and utility output became less volatile, while capacity use reached its highest point in 5-1/2 years, the Federal Reserve said on Friday.

The Fed said March utility output rose 0.5 percent after a large jump in February due to cold temperatures followed a big decline in January driven by warm weather.

Output from the nation's mines rose 0.9 percent after falling 0.7 percent in February, as oil and gas facilities continued their recovery from hurricanes last year, while coal output surged.

Manufacturing output rose 0.5 percent, driven by strong gains in motor vehicles and electronics.

Predictably, capacity utilisation rose as well.

Capacity utilization, a measure of how close to full potential factories, mines and utilities are running, rose to 81.3 percent from a downwardly revised 81.0 in February, marking its highest level since reaching 81.5 percent in September 2000.

This seems consistent with the ISM index, which has also held up well lately.

US retail sales, consumer sentiment up

The US consumer remains alive and well. Reuters reports:

The Commerce Department said overall retail sales rose 0.6 percent last month after a revised 0.8 percent February fall that had been reported as a much steeper 1.4 percent drop...

Brighter consumer spirits appeared to carry over into the second quarter, according to a subscriber-only report by the University of Michigan that sources said showed its preliminary April index of consumer sentiment at 89.2, up from March's final reading of 88.9.

A relatively resilient labour market helps.

Separately, the Labor Department said new claims for unemployment pay rose by an unexpectedly large 12,000 last week to 313,000.

But a broader, four-week moving average that smooths weekly volatility to give a better picture of underlying conditions told a different story, contracting 1,500 to 307,500.

Bond markets did not like the news.

Bond prices sank, fearful that rising retail sales will keep the U.S. central bank on track for more interest-rate rises. The 30-year U.S. Treasury bond was off 26/32s of a point to yield 5.12 percent while the bellwether 10-year U.S. Treasury note lost 17/32s and was yielding 5.05 percent.

But at least bond investors appear to have little to fear from imported inflation.

Another report from the Labor Department showed prices for imported goods fell unexpectedly by 0.4 percent in March as natural gas costs dropped sharply and petroleum prices dipped. It was the third decline in the past four months and followed a 0.5 percent fall in February.

And businesses seem to see little urgency in building up inventories.

A separate report from the Commerce Department said business inventories in February were flat after rising 0.6 percent in January. Business sales fell 0.6 percent in February after climbing 1.2 percent in January so that the inventory-to-sales ratio edged up to a still relatively lean 1.26 months from 1.25 months.

In any case, according to Reuters, Fed officials at least think that rate hikes could be nearing an end.

News on trade balances and GDP growth

The US trade deficit fell in February. Reuters reports:

The U.S. trade deficit narrowed in February as imports fell by the largest amount in nearly a year, and the trade gap with China shrank nearly 23 percent, the U.S. Commerce Department said on Wednesday.

The February trade shortfall at $65.7 billion was still the third highest on record, suggesting the annual trade deficit could surpass last year's record deficit of $723.6 billion...

U.S. imports fell 2.3 percent in February to $178.7 billion, the largest month-to-month decline since March 2005, but still the second highest on record after January. Many analysts had expected imports to retreat after surging in the first month of 2006... U.S. overall exports fell 1.2 percent in February to $113 billion, but like imports were second only to the record set in January.

The fall in the deficit may be temporary.

The politically sensitive trade deficit with China narrowed significantly in February to $13.8 billion, the lowest level since March 2005. However, analysts noted the deficit with China usually narrows early in the year due to disruptions caused by the Lunar New Year holidays.

China's March trade figures suggest as much. From AFP/CNA:

China's trade surplus surged 98.5 percent in March from a year earlier to 11.19 billion dollars...exports rising 28.3 percent year-on-year to 78.05 billion dollars and imports growing by 21 percent to 66.86 billion dollars, according to the commerce ministry's figures.

But China is not the only country with a large surplus. So is Japan. Again from AFP/CNA:

Japan's current account surplus grew to the second-highest level on record in February as rising exports and investment returns helped to keep the economic recovery on track.

The surplus in the current account, the broadest measure of trade in goods and services, grew 6.2 percent from a year earlier to 2.21 trillion yen (18.7 billion dollars), the finance ministry said...

In February exports surged 21.5 percent, up for the 27th straight month, while imports jumped 33.2 percent, the 24th consecutive monthly increase.

And a surplus is not just an Asian privilege. Canada's trade surplus widened in February by 2.4 percent on a fall in imports.

Among deficit countries, the UK and France, like the US, saw some improvement in their trade balances in February. The UK's goods trade gap narrowed to 6.478 billion pounds in February from a record 6.538 billion pounds in January, while France's trade deficit narrowed to 2.015 billion euros compared with a deficit of 2.414 billion euros in January.

Meanwhile, there was also news yesterday on euro-zone GDP growth. From AFX/Forbes:

Euro zone GDP grew 0.3 pct in the fourth quarter from the third quarter, down from a third quarter growth rate of 0.7 pct.

The figures are unchanged from Eurostat's previous estimates, published on March 3, and in line with market expectations...

Meanwhile, the European Commission unexpectedly lowered its forecasts for euro zone GDP growth in the first three quarters of this year...

The commission trimmed its forecast for first quarter growth to 0.4-0.8 pct from 0.4-0.9 pct previously.

Its forecast for second quarter growth was cut to 0.3-0.8 pct from 0.4-0.9 pct, and its projection for third quarter growth to 0.2-0.8 pct from 0.4-0.9 pct.

Economic research institutes also provided updated forecasts on euro-zone growth.

Euro zone GDP growth is expected to recover to 0.5 pct in the first quarter and then 0.6 pct in both the second and third quarters, according to the main economic institutes from Germany, France and Italy.

There was also news on GDP growth in China. From Reuters:

China's economy grew an estimated 8.5 percent in the first quarter from the year-earlier period, but is likely to slow to 7.5 percent for the full 2006 due to stricter controls on fixed asset investment, the country's top economic planning body said.

Government bond yields in major economies

Barry Ritholtz asks: Why have yields on US Treasuries been so much above other nations?

Actually, real yields in the US are pretty low.

	Yield on 10-year government bonds	Inflation rate	Real bond yield
US	4.79	3.6	1.19
UK	4.36	2.0	2.36
Canada	4.21	2.2	2.01
Germany	3.72	1.9	1.82
Japan	1.70	0.4	1.30

With the exception of deflation-prone Japan, the other nations have real yields about twice that of the US.

Perhaps the better question to ask is: Why has the US inflation rate been so much above other nations?

Or: Why has the Federal Reserve been so much more tolerant of inflation than other central banks?

Japanese machinery orders up, German investor confidence down

Japan's recovery still looks intact. From AFP/CNA:

Japan's core private-sector machinery orders, a closely watched indicator of capital spending, rose by a bigger-than-expected 3.4 percent in February, official figures showed Monday.

Year-on-year, core private-sector machinery orders, which exclude particularly volatile demand from electric utilities and for ships, were up 8.2 percent, the Cabinet Office said.

But the evidence on Germany's continues to be ambiguous. From Bloomberg:

Investor confidence in Germany, Europe's largest economy, unexpectedly declined for a third month in April after a jump in energy costs tempered the outlook for consumer spending.

The ZEW Center for European Economic Research's index of institutional and analyst expectations fell to 62.7 from 63.4 in March, the Mannheim-based institute said today. Economists expected it to rise to 65.5, according to the median of 39 estimates in a Bloomberg News survey. In January, the index reached a two-year high of 71.

UK data show slowing producer and house price inflation, weak retail sales

There were more data for the UK yesterday for the Bank of England to chew on.

Reuters reports a slowing in producer price inflation:

Factory gate inflation slowed as expected in March while raw material costs rose at their slowest annual pace in almost half a year, official statistics showed on Monday.

The Office for National Statistics said that output prices rose an unadjusted 0.3 percent on the month, slowing the annual rate of increase to 2.5 percent from 2.9 percent in February.

However, seasonally adjusted core output prices, which exclude food, drinks, tobacco and petroleum products, rose more than expected, by 0.3 percent on the month and by 1.9 percent on the year -- the fastest pace in six months.

Input prices rose a slightly slower than expected 0.3 percent on the month to put the annual rate at 13.2 percent, its lowest since October.

...as well as house price inflation:

House price inflation slowed to 3.6 percent in February from 4.3 percent in January, the government said on Monday, despite evidence from mortgage lenders that the property market is re-accelerating.

Retail sales were also weak in March:

The British Retail Consortium said that like-for-like sales fell 1.4 percent last month. But that was mainly because Easter, which tends to boost sales, does not arrive until April this year, making sales look weak compared with March 2005.

Total sales, which include all floorspace, rose by just 1.6 percent, their weakest annual gain in nearly a year, after a strong 3.5 percent rise in February.

Singapore first quarter GDP and currency regime

Singapore today reported advance estimates for first quarter GDP. From the Ministry of Trade and Industry:

The Singapore economy grew at a faster pace in the first quarter of 2006. Advance estimates show that real gross domestic product (GDP) rose by 9.1 per cent in the quarter compared to the same period in 2005. On a quarter-on-quarter seasonally adjusted annualised basis, real GDP grew by 1.2 per cent, easing from the 12.5 per cent expansion in the preceding quarter.

Singapore's economy, of course, is mainly about exports. Its recent export performance has been quite robust, non-oil domestic exports (NODX) rising 17 percent year-on-year in February after an 18 percent rise in January. This rate of growth is barely slower than the 18.6 percent rate of the fourth quarter of 2005.

For the whole of 2005, Singapore's NODX had hit 80 percent of GDP. Such a high figure reflects Singapore's dependence on trade and explains why it manages its currency exchange rate rather than interest rates as part of its monetary policy, as explained in a paper entitled "Singapore's exchange rate-centered monetary policy regime and its relevance for China" (in PDF) by Bennett T McCallum of Carnegie Mellon University and the National Bureau of Economic Research. From the abstract:

Although the policy regime of the Monetary Authority of Singapore is centered on exchange rate management, it is fundamentally different from a traditional fixed exchange rate arrangement. Instead, the exchange rate (a trade-weighted index) is important primarily in its role as an intermediate information or "instrument" variable in a procedure used to achieve the primary objective of low inflation, with some consideration also given to employment. Thus the exchange rate plays a role much like that of an overnight interest rate in the United States or Japan, among other countries. Here a calibrated structural model of a small open economy is used to illustrate this process and to demonstrate the attractiveness of an exchange-rate policy rule, relative to an interest-rate rule (designed in each case to achieve macroeconomic objectives) in economies with high ratios of foreign trade to GDP. These characteristics and results form the basis of an argument that the new exchange rate regime adopted by China in July 2005 is unlikely to resemble the Singapore system.

Strong US job growth, slowing inflation, continued expansion in OECD

The March US jobs report was strong. From Reuters:

U.S. employers added an unexpectedly strong 211,000 jobs in March and the jobless rate slipped to a 4-1/2-year low, according to a government report on Friday that underlined a relatively vigorous labor market.

The pace of hiring last month exceeded the 190,000-job gain forecast by analysts, who also had expected the unemployment rate, which fell to 4.7 percent, to be unchanged at February's 4.8 percent.

If the above numbers suggest higher interest rates, other numbers reported yesterday do not.

The job report showed average hourly earnings rose 0.2 percent to $16.49 in March rather than the 0.3 percent expected by economists. Over the 12 months through March, wages rose 3.4 percent, slowing from 3.5 percent gain in the 12 months through February.

The Labor Department modestly revised down new hiring in February to 225,000 jobs instead of 243,000 reported last month while January new jobs totaled 154,000 instead of 170,000 -- a cumulative reduction of 34,000 in the number of jobs created over the two months.

Indeed, future inflation could slow.

A later report from the Economic Cycle Research Institute showed inflation pressures eased in March because industrial commodity prices were lower as were loan applications. Its Future Inflation Gauge, designed to anticipate cyclical swings in the rate of inflation, fell to 121.3 in March from 122.6 in February.

And wholesale inventories are building up.

A third report on Friday, from the Commerce Department, showed inventories of unsold goods at wholesalers rose in February by a stronger-than-forecast 0.8 percent because of rising stocks of unsold new cars and drugs.

And another Reuters report shows that consumer credit rose by less than expected in February.

U.S. consumer credit rose by a slightly less-than-expected $3.26 billion in February, a Federal Reserve report showed on Friday... Consumer credit outstanding rose to $2.164 trillion in February, rising at an annual rate of 1.8 percent from a slightly revised $2.161 trillion in January.

There was more good news yesterday in the form of the OECD composite leading indicator.

Moderate expansion lies ahead in the OECD area according to the latest composite leading indicators (CLIs). February data show improved performance in the CLI's six month rate of change in most of the major seven economies with the most positive signals observed in the United States, Germany and Canada.

The CLI for the OECD area rose by 0.5 point in February to 109.3 from a revised 108.8 in January. Its six-month rate of change rose for the tenth consecutive month...

Japan's leading indicators pointing up

Yesterday was a good day for Japan.

Japan's leading index for February shows economic growth will continue.

Japan's broadest index of future economic activity showed the economy may achieve its longest expansion since World War II later this year.

The leading index, which measures consumer confidence and other indicators, was at 80 percent in February from 81.8 percent in January, the Cabinet Office said in Tokyo today, matching the median estimate of 21 economists surveyed by Bloomberg News. A number at or above 50 signals the economy will grow in the next three to six months.

The Conference Board's leading index for Japan tells a similar story, rising 0.4 percent in February.

The leading index increased again in February, and it has been increasing steadily for the last nine months. With February's gain, the growth rate of the leading index has continued to increase steadily as well....

With the increase of 0.4 percent in February, the leading index now stands at 101.9 (1990=100). Based on revised data, this index increased 0.5 percent in January and increased 0.4 percent in December. During the six-month span through February, the index increased 2.5 percent, and seven of the ten components advanced (diffusion index, six-month span equals 70.0 percent).

Orders for machine tools -- a key leading indicator -- were up in March.

Japanese machine tool makers received orders worth a total of 124.31 bln yen in March, up 4.5 pct from a year earlier and up 10.3 pct from the previous month, the Japan Machine Tool Builders' Association (JMTBA) said in a preliminary report.

And investors have endorsed the outlook for Japan.

The Topix jumped 29.62, or 1.7 percent, to 1775.67, the highest since Nov. 15, 1991, at the 3 p.m. close in Tokyo. The Nikkei 225 Stock Average climbed 245.35, or 1.4 percent, to 17,489.33, the highest since July 11, 2000.

Services remain robust too

Economic data from the US yesterday were fairly positive. From Reuters:

The Institute for Supply Management's services index rose to 60.5 in March from 60.1 in February, as new orders improved and prices paid dropped. That was above Wall Street economists' forecasts of a decline to 59... The survey's prices-paid index fell to 60.5 in March from 64.8 in February, while the jobs component fell to 54.6 from 58.2, and new orders rose to 59.5 from 56.2...

The Mortgage Bankers Association said its seasonally adjusted index of mortgage application activity last week rose 7.2 percent to 612.8 from the previous week's 571.7...

A third report showed U.S. retail sales, excluding cars, were unchanged on a seasonally adjusted basis in March, recovering from a 0.3 percent drop in February, according to preliminary data released by SpendingPulse on Wednesday.

Data were somewhat mixed in the euro zone, with the services PMI strong at an unchanged 58.2 in March but retail sales falling 0.2 percent in February.

The strong US and euro-zone services PMIs helped the JP Morgan Global Services PMI inch higher to 59.1 in March from February's 59.0, reports Reuters. That, together with the strong manufacturing PMIs released earlier this week, boosted the All-Industry Output Index for March to 58.5 from 58.2 in February.

Not everyone is seeing an improving services sector. In the UK, the Chartered Institute of Purchasing and Supply/RBS service sector business activity index fell to 57.4 in March from 58.9 in February, according to another Reuters report, which incidentally also highlighted data showing lower manufacturing output in February, slower annual take-home pay inflation in March and lower shop prices in March.

RBA holds, Fed thinking of holding, ECB and BoE have more to think about

The Reserve Bank of Australia is apparently comfortable with current interest rates. From Bloomberg:

Australia's central bank left its official interest rate unchanged for a 13th month in response to slower growth in wages, consumer prices and the economy.

Reserve Bank of Australia Governor Ian Macfarlane and his board left the overnight cash rate at 5.5 percent, as forecast by all 22 economists surveyed by Bloomberg News. The bank last raised borrowing costs in March 2005.

Speeches yesterday from Fed officials suggest that they could be getting comfortable too. From Reuters:

The U.S. economy is close to a balanced growth path, Richmond Federal Reserve President Jeffrey Lacker said on Tuesday, suggesting the Fed's long campaign of interest rate increases is nearly over.

"We've been aiming toward converging to a balanced growth path that we can continue on a sustained basis, as we saw from 1994 to 2000. And I think we're pretty close to it," Lacker told reporters after a speech here.

Lacker's optimism on a "balanced" economy dovetailed with comments from Dallas Fed chief Richard Fisher, who said globalization may mean a tight U.S. labor market does not pose the same inflationary risk as it might have in the past.

And from Bloomberg:

The dollar declined for a third day against the yen on speculation the Federal Reserve is getting closer to ending a 21-month policy of raising interest rates... The Fed's Kansas City Fed President Thomas Hoenig, speaking yesterday in Kansas City, said higher rates will take hold later this year, suggesting the Fed is almost done raising rates... Hoenig on March 31 said the overnight lending rate may be in the "upper end" of the so-called neutral range that neither spurs nor restrains growth.

However, there were more signs yesterday that the economy is heating up in Europe.

Euro-zone industrial producer prices rose 0.5 percent in February month-on-month and 5.4 percent year-on-year. The corresponding figures for the EU25 were 0.4 percent and 7.0 percent respectively. Excluding energy, prices rose 0.3 percent in both the euro zone and the EU25.

Meanwhile, unemployment in the euro zone dropped to 8.2 percent in February from 8.3 percent in January, while in the EU25, the unemployment rate remained unchanged at 8.5 percent.

In the UK, the Bank of England reported yesterday that mortgage equity withdrawal in the last quarter of 2005 rose to the highest since the third quarter of 2004, while the Chartered Institute for Purchasing and Supply said its seasonally-adjusted index for construction rose to 54.7 in March, the highest since 57.2 in September 2005, from 51.9 in February.

Manufacturing remains robust

Reuters reports on US manufacturing in March:

U.S. manufacturing growth moderated in March... The ISM's...index eased to 55.2 in March, from 56.7 in February and below Wall Street forecasts of a rise to 57.9... The survey's job market index eased to 52.5 from 55.0, while the measure of new orders backed off to 58.4 from 61.9.

...construction spending in February:

Just one month earlier, the construction sector experienced a 0.8 percent spike in spending, double the amount foreseen by economists. Private residential spending surged 1.3 percent to a record high.

...pending home sales from the National Association of Realtors:

The organization's Pending Home Sales Index, based on contracts signed in February, was at 117.7, down 0.8 percent from January and 5.2 percent from a year ago.

Still, January's index was revised up to 118.6 from an originally reported 116.3, muddying the message.

...and March auto sales:

In the auto sector, General Motors Corp.'s U.S. sales were down 14.6 percent compared with March of last year, its biggest slide since October, while Ford Motor Co.'s overall sales were down 4.6 percent, hurt by sluggish sales of sport utility vehicles.

Manufacturing generally remained robust in most parts of the world, the JPMorgan Global PMI holding steady at 55.2 in March.

In Europe, the euro zone PMI rose to 56.1 in March, the highest since September 2000, from 54.5 in February, but in Britain, the PMI fell to 50.8 from a revised 51.5 in February.

In China, the CLSA PMI rose to an eight-month high of 51.0 in March from 50.7 in February.

In Japan, the PMI slipped to 56.3 in March from 57.0 in February, in line with the findings from the Bank of Japan's Tankan survey, which showed a drop in the headline index to 20 in March from a one-year high of 21 in December, but which also revealed that large Japanese companies planned to increase spending by 2.7 percent this year.

China and the US trade deficit

Last week saw a report that China had foreign exchange reserves of US$853.7 billion at the end of February, overtaking Japan as the largest in the world. Not surprising then that it has taken over Japan's place as the country with the most trade frictions with the United States.

The rise in China's foreign exchange reserves has come on the back of a rising trade surplus and possibly been boosted by capital inflows speculating on a revaluation of the renminbi. However, while China's trade surplus has been rising, so has the US trade deficit, much of it with China. In fact, the US trade deficit with China hit a record US$202 billion in 2005.

Little wonder that there have been moves recently by the US Congress to force China to revalue the renminbi or take steps to free its exchange rate. One such move, by senators Charles Schumer and Lindsey Graham, threatened tariffs on Chinese goods if China failed to take appropriate action on its currency, but the proposal was temporarily put on hold last week after the senators met Chinese officials in China. However, another proposal was raised last week by senators Charles Grassley and Max Baucus that would induce the Treasury Department to take action on countries with "fundamentally misaligned" currencies.

Not everyone agrees with such moves. Two publications -- both incidentally British-based -- have recently come out with reports saying that a yuan (or renminbi) revaluation would do little to correct the US trade deficit.

In a recent report for the Financial Times, Christopher Swann wrote that "even dramatic gestures by China would do surprisingly little to reverse the imbalance". He pointed out that "companies adjust price tags to keep in line with competitors, rather than according to fluctuations in the exchange rate". He cited the experienced with Europe, where a 44 percent rise in the value of the euro against the US dollar since July 2001 has not stopped the US deficit with the euro zone from rising 75 percent.

Swann cited Paul Donovan, a global economist at UBS, as saying that most of the goods China sells to the US are not widely produced in America. "If the US did not buy these goods from China it would have to buy them from abroad anyway," said Donovan.

Swann also wrote that many economists think that a significant reduction in the overall US deficit will not be possible without domestic reforms. With US imports so much bigger than exports, "even a dramatic surge in demand in Europe and Japan might have a surprisingly modest impact on the deficit". He cited the Institute for International Economics in saying that every one percentage point rise in real growth in the rest of the world only reduces the deficit by US$15 billion.

And yet, as Swann pointed out, "there are no signs the US government is willing to take politically unpalatable actions -- the current account is not seen as a sufficiently pressing issue to justify raising taxes or accelerating monetary tightening".

A recent article from The Economist essentially said the same thing.

"China's exchange rate is not to blame for America's huge current-account deficit," The Economist said. It thinks that the US "consumes too much and saves too little", but yet "has done little to boost national saving by addressing its reckless fiscal policy".

While the arguments in the two reports look essentially correct, I think the US trade deficit in general and the deficit with China in particular could perhaps be put in better perspective by distinguishing between long-term and short-term effects.

While cheap labour in China in general means that it is always likely to have a trade surplus in manufactured goods -- especially consumer goods -- with richer economies like the US, much of the recent increase in the US deficit with China has clearly been the result of overstimulation of the US economy relative to the Chinese economy, or indeed the rest of the world. However, the Federal Reserve has been raising interest rates for almost two years. As some of the stimulus is removed, especially on the monetary side, the trade imbalance should be reduced.

Over the long term, China's policy of allowing gradual appreciation of the renminbi could be optimal, at least from its point of view. Supplemented with domestic price changes in both China and the US to reduce price differentials between the two countries, it could help reduce the trade imbalances in the two countries without being overly disruptive to exporters and importers.

Over the short term, though, a more flexible renminbi exchange rate would probably be helpful in damping cyclical fluctuations, allowing the US to stimulate its economy more without spillover overheating in China. The emphasis here, however, should be on exchange rate fluctuation, not so much on renminbi appreciation.

In other words, the US trade deficit with China is indeed more than just about exchange rates -- and much more about US government policies than it would like to admit -- but a flexible renminbi is a good thing nevertheless.

Ultimately, if China is to reduce its trade surplus, it needs to do more than just tinker with its currency; it needs to increase domestic demand as well. There are signs that the Chinese government is already taking steps in that direction. Its latest five-year plan for the period 2006-2010 shifts the economic focus from high growth rates towards more balanced growth, including greater rural and social development.

And yet, because of its rapidly ageing population, it needs to be careful not to drive up today's consumption to the extent that it cannot pay for tomorrow's. It needs to increase investment without exacerbating overcapacity. And it needs to do all of this without further degrading its environment.

These are big challenges, even for a big country.

US consumer spending and confidence rise, European confidence boosted by manufacturers

US consumer spending continued to increase in February. Reuters reports:

The Commerce Department said consumer spending rose 0.1 percent in February, above market expectations for an unchanged reading after January's warm-weather shopping spree boosted spending by 0.8 percent. Personal income climbed 0.3 percent, just below Wall Street forecasts for a 0.4 percent rise.

Inflation slowed. The price index for consumer spending was up 2.9 percent in February from a year earlier, slowing from January's 3.1 percent increase. When volatile food and energy costs are stripped out, the increase in the so-called core PCE price index -- the inflation gauge favored by the Fed -- was steady at a 1.8 percent...

The saving rate was negative for the fourth straight month, at minus 0.5 percent...

A report by the University of Michigan suggested spending may continue, with its final March index of consumer sentiment rising to 88.9 from 86.7 in February...

And manufacturing continued to expand as well.

... The National Association of Purchasing Management-Chicago business barometer rose to 60.4 from 54.9 in February, above forecasts for an increase to 57.0.

But the Commerce Department said new orders at U.S. factories rose a smaller-than-expected 0.2 percent in February, as robust civilian aircraft and defense capital goods orders outweighed declining demand for primary and fabricated metals, machinery and electrical equipment.

Europe also saw confidence on the whole rise in March, reports Bloomberg.

An index of economic sentiment among households and companies in the 12 nations using the euro increased to 103.5, the highest since June 2001, from 102.7 in February, the European Commission said in Brussels today. Consumer prices rose 2.2 percent in March from a year ago, the European Union's statistics office in Luxembourg said today.

Growing confidence and inflation above the ECB's target of just below 2 percent prompted investors to increase bets the ECB will raise rates three more times this year. At least seven banks, including Barclays Capital and JPMorgan Chase & Co., have this month lifted their forecasts for the ECB's benchmark rate...

Manufacturers were the most optimistic since February 2001 this month, the report showed... Still, in a sign the European economy remains fragile, sentiment among consumers slipped from February's four-year high due to concerns about hiring, the commission said.

Retail sales in Germany, Europe's largest economy, fell for a first month in three in February, reflecting concerns about higher energy costs and companies' reluctance to hire more workers. Sales, adjusted for inflation and seasonal swings, slipped 0.6 percent after rising a revised 1.9 percent in January, the Federal Statistics Office in Wiesbaden said today...

France's economy, the region's second largest, expanded at a faster-than-expected pace in the fourth quarter, led by rising exports and domestic expending, the Paris-based statistics office said today. Gross domestic product grew 0.4 percent from the third quarter instead of the 0.2 percent initially reported.

Like their continental counterparts, UK consumers became more pessimistic in March.

Consumer confidence unexpectedly fell in March as people became more pessimistic about both their personal finances and the economic outlook, a survey showed on Friday.

GfK NOP's monthly consumer confidence barometer slipped to -7 this month, when Chancellor Gordon Brown presented his annual budget, from -4 in February.