US and Japan see slowing, others looking at more tightening

US second quarter GDP growth has been revised up. Reuters reports:

The U.S. economy grew at a 2.9 percent annual pace in the second quarter, faster than the 2.5 percent rate initially reported but marginally below what analysts were expecting, as higher business investment offset a drop in residential construction, a Commerce Department report showed.

At the same time, an inflation gauge favored by the Federal Reserve -- which measures personal consumption expenditure prices minus food and energy -- was revised to 2.8 percent, the biggest rise since the first quarter of 2001. The inflation index originally was reported to have risen by 2.9 percent when figures were released last month...

Corporate profits after taxes rose 2.1 percent in the second quarter, well below the 14.8 percent rise in the first three months of the year.

Other economic data released yesterday:

A separate report by the ADP Employer Services showed private-sector employers added 107,00 new jobs in August. The data comes two days before the government's nonfarm payrolls report, which are expected to show 120,000 new jobs in the month...

Also, U.S. mortgage applications fell for the first time in four weeks as demand for home purchase loans dropped to the lowest level in nearly three years, a report from the Mortgage Bankers Association said.

Fed officials are apparently not worried about the slowdown, according to another Reuters story:

The U.S. economy can weather a slowdown in the housing sector as rising incomes and business investment offer support, Federal Reserve officials said on Wednesday as they pointed to inflation risks.

"Rising disposable incomes should enable household spending to expand at a moderate pace and provide continued support for the overall economic expansion," Federal Reserve Chairman Ben Bernanke said in a letter to a lawmaker released on Wednesday...

Dallas Federal Reserve Bank President Richard Fisher said the economy could be rotating away from reliance on household spending to investment, setting a stage for healthier growth.

Richmond Fed chief Jeffrey Lacker -- who dissented from the central bank's August 8 decision to hold borrowing costs steady -- said there were few signs the housing slowdown was eating into household net worth or overall construction employment.

Lacker told Bloomberg Television he remained concerned on the inflation front and said his outlook had not shifted since the Fed's meeting, despite a softer inflation report and a slew of data indicating a sharp housing correction.

Perhaps Lacker has the UK experience in mind, where the central bank apparently ended its tightening campaign too soon, and is now seeing the largest rise in rents since 1988, London becoming the world's most expensive residential market, and mortgage lending growing in July by its biggest amount since 2003 and retail sales rising swiftly in August.

Sweden's Riksbank certainly sees the need for higher rates, raising its repo rate yesterday by a quarter point to 2.5 percent, its fourth hike this year.

China, which has revised its 2005 economic growth figure upwards to 10.2 percent from 9.9 percent, did not raise interest rates yesterday, but it did announce a one percentage point hike in the required reserve ratio for foreign currency deposits for banks, even as the exchange rate of the renminbi against the US dollar hit a new high yesterday.

One country that is seeing unexpected slowing is Japan. Reuters reports that retail sales fell in July.

Heavy rain and surging energy costs kept Japanese shoppers at home in July, sending retail sales slumping 1.7 percent from the previous month.

Compared with a year earlier, retail sales fell 0.2 percent, short of economists' median forecast of a 0.3 percent rise, data from the Ministry of Economy, Trade and Industry showed on Wednesday...

Other government data on Wednesday showed Japanese salaried workers' total cash earnings fell slightly in July from a year earlier, the first decline in six months...

Average overtime pay, seen by some economists as a better barometer of income conditions, rose 1.5 percent in July from a year earlier, the 48th straight monthly increase.

The data also showed the number of full-time employees rose 1.6 percent year-on-year, while the number of part-time workers fell 0.6 percent -- possibly a sign that companies were willing to pay more for skilled workers.

And today, we get another Reuters report saying that Japan's NTC Research/Nomura/JMMA Purchasing Managers Index fell to 54.6 in August from 55.7 in July, which appears consistent with another report today from Bloomberg saying that Japan's industrial production fell 0.9 percent in July.

Fed releases minutes, mixed news on the consumer

Yesterday, the Federal Reserve released the minutes of its August policy meeting. Reuters reports:

[M]inutes of the Federal Reserve's policy meeting showed most officials thought inflation would ease in the months ahead.

The minutes released on Tuesday also revealed the Fed's decision to hold interest rates steady at 5.25 percent on August 8 after 17 straight increases was a close call, showing officials remain concerned about a sudden pick-up in price pressures.

In the meantime, though, the US economy faces falling consumer confidence. More from the Reuters report:

[O]n Tuesday, the Conference Board said its consumer confidence index tumbled to 99.6 in August, from an upwardly revised 107.0 the prior month, as anxiety about job growth and future inflation dented consumer optimism.

The August reading was the lowest since November 2005 and well below Wall Street's forecast of 103.0. It also marked the biggest one-month decline since September 2005 in the aftermath of Hurricane Katrina...

But two separate reports detailing higher U.S. chain store sales suggested shoppers haven't cut up their credit cards just yet.

Redbook Research said on Tuesday that chain store sales climbed 3.5 percent last week from a year earlier following a 3.3 percent rise the prior week.

The International Council of Shopping Centers and UBS said in a separate report that chain stores sales rose 0.6 percent last week from the previous week.

The consumer confidence story in Europe is a little more mixed. Bloomberg reports that German consumer confidence rose in August, the GfK index rising to 8.6 -- the highest level since November 2001-- from a revised 8.5 in the previous month, but Italian consumer confidence fell.

There was also mixed news from Japan. From AFP/CNA:

Japan's unemployment rate fell to 4.1 percent in July from 4.2 percent in June, underlining the steady recovery of the world's second-largest economy, official data showed Tuesday...

In July, spending by salaried households fell 1.3 percent from a year earlier, excluding the effects of price changes, and was down 1.7 percent from June, the Ministry of Internal Affairs said.

The average income of such households rose 5.9 percent from a year earlier.

In other recent news from Asia, July saw industrial production falling -- by 3.9 percent in South Korea and by 2.2 percent in Singapore.

Eurozone money supply growth slows

Money supply growth in the euro zone slowed in July, but credit growth did not. From AFX/Forbes:

Euro zone M3 money supply grew 7.8 pct year-on-year in July, down from an 8.5 pct growth rate in June, the European Central Bank said.

Economists polled by AFX News had forecast a July growth rate of 8.3 pct...

The annual growth rate of M1, which is the currency in circulation and overnight deposits, fell to 7.4 pct in July from 9.3 pct in June.

Loans to the private sector grew 11.1 pct year-on-year in July, up from a growth rate of 11.0 pct in June. Economists had forecast a slower grow rate of 10.8 pct.

US housing market weakens, will the stock market follow?

The report on new home sales from the United States Commerce Department on 24 August shows that the US housing market continued to weaken in July. This has negative implications for the economy. Does it have negative implications for the stock market as well?

Economists generally accept that the trend in new home sales is a leading indicator for the economy as a whole, so the 4.3 percent fall in new home sales in July does not bode well for the economy. The fall is also in line with the recent deterioration in the National Association of Home Builders-Wells Fargo Housing Market Index (HMI).

The stock market, another leading indicator for the economy, is, despite its rebound over the past few months, also off its high for the year. So it also telling the same story of a weakening economy.

The question that stock investors would have is: Does the recent weakness in the housing market indicate impending weakness in the stock market?

Both markets are affected by interest rates. Both markets are leading indicators of the economy. Is one market also a leading indicator of the other?

In an article for TheStreet.com published on 21 August, Doug Kass of Seabreeze Partners produced a chart that showed that "when the index of homebuilders drops, a broader decline in the major indices is not far behind". Specifically, his chart implies that the Standard & Poor's 500 Index lags the HMI by 12 months. I have more or less reproduced his chart below.

John Mauldin, president of Millennium Wave Advisors, also wrote about this correlation recently in his newsletter Thoughts from the Frontline, quoting Merrill Lynch economist David Rosenberg as saying that "the NAHB homebuilders index leads the S&P 500 by 12 months and with a near-80% correlation - a correlation that over time has actually strengthened, owing to the growing influence that the real estate market has exerted on the overall economic and financial landscape over the past five years".

From the chart above, you can see why Rosenberg says the correlation has strengthened. From around the late 1990s onwards, the S&P 500 has indeed followed the HMI with a lag of about a year. However, the chart also shows that in the late 1980s and early 1990s, the stock market appeared to ignore the housing market, the S&P 500 rising steadily almost regardless of what the HMI was doing.

Part of the problem, though, is the fact that while the HMI is a variable that fluctuates between 0 and 100, the S&P 500 is one that tends to rise over time. For such cases, comparing year-on-year changes probably makes the relationship clearer. This is done in the next chart.

This chart shows that the stock market did not completely ignore the housing market in the earlier period. Whenever the HMI fell, the rate of change of the S&P 500 did tend to fall, even when the index itself did not fall.

The other matter is the lag in the S&P 500 relative to the HMI. The second chart still shows that the S&P 500 lagged the HMI from the late 1990s onwards -- and by even more than 12 months -- but in the late 1980s and early 1990s, there is little apparent consistent lag.

The question of whether there is a lag is an important one, of course, because if there is a lag, then the stock market is likely to fall over the next few months based on the recent decline in the HMI. On the other hand, if the lag seen in recent times turns out to be a temporary phenomenon and the S&P 500 reverts to a more coincident relationship with the HMI, then the recent decline in the latter could already have been discounted and provides no indication of the likely direction of the stock market.

Unfortunately, this is a question that I do not have the answer for. However, lag or no lag, the extent of the decline in the housing market alone should probably be enough to warrant caution for those planning to invest in the stock market in the near future.

Update on 11 January 2007: Eighth paragraph -- "early 1980s" changed to read "early 1990s".

Inflation tame in Japan and Germany

There were inflation reports yesterday from Japan and Germany.

From AFP/CNA:

The Japanese government said Friday core consumer prices rose 0.2 percent in July from a year ago as deflationary pressure continued to ease...

The August core consumer price index (CPI) for Tokyo - the leading indicator for national price trends released a month earlier - remained unchanged from a year earlier, the Ministry of Internal Affairs and Communications said in its preliminary report...

The ministry claimed the calculation changes [in the CPI] technically pushed figures lower by some 0.5 percent.

From Germany:

The inflation rate in Germany, Europe's largest economy, fell below the European Central Bank's ceiling for the first time in five months in August.

Consumer prices rose 1.9 percent from a year ago compared with a rate of 2.1 percent in July, the Federal Statistics office in Wiesbaden said in a faxed statement, using a harmonized European Union method. That matched the median of 22 economist estimates in a Bloomberg news survey. Prices were unchanged from a month earlier.

Meanwhile, the UK reported second quarter GDP. From Reuters:

Consumer spending powered economic growth to its fastest rate in two years in the second quarter, keeping alive expectations interest rates will rise again in the coming months...

The Office for National Statistics said on Friday the economy grew 0.8 percent on the quarter and 2.6 percent on the year in the three months to June -- unrevised from an initial estimate last month.

More data pointing to slowdown

Yesterday's US data provided more signs of slower growth. From Reuters:

Sales of new U.S. homes and orders for durable goods both fell more than expected in July, providing further evidence of slowing U.S. economic growth...

New homes sales fell 4.3 percent last month, the biggest drop since an 11.5 percent plunge in February and the lowest annualized rate since February as well, the Commerce Department said...

The supply of homes available for sale at the current sales pace rose to 6.5 months, the highest level since a 6.8-month supply in November 1995...

The median sales price of a new home slipped to $230,000, but was still above the median $229,200 price in July 2005...

Other government reports on Thursday showed overall new orders for U.S.-made durable goods fell 2.4 percent last month, much more than expected, as civilian aircraft and car orders tumbled...

However, excluding transportation, durable goods orders rose a stronger-than-expected 0.5 percent, as motor vehicle and parts orders dropped 7 percent and civilian aircraft orders slid 10 percent...

When defense orders were stripped out, durable goods orders unexpectedly fell 1.9 percent, as defense aircraft and parts orders rose 9 percent...

[N]on-defense capital goods orders excluding aircraft, rose a much larger-than-expected 1.5 percent...

A separate report showed the number of workers seeking first-time jobless aid fell by 1,000 last week, signaling a steady job market.

Meanwhile, Germany may also see economic growth slow from the robust pace so far this year. From Bloomberg:

German business confidence fell for a second month in August, a sign that higher taxes and interest rates will cool the fastest economic expansion in five years.

The Ifo research institute in Munich said today its index of executive sentiment slid to 105 from 105.6 in July. Economists surveyed by Bloomberg News expected a decline to 104.8, the median of 43 forecasts showed. The index reached a 15-year high of 106.8 in June...

Growth outpaced the U.S. for the first time in five years during the second quarter when the biggest surge in construction spending in a decade helped the economy expand 0.9 percent from the first three months of the year.

The IMF today raised its forecast for Germany and now projects growth of around 2 percent this year and about 1.5 percent in 2007, the Handelsblatt newspaper said. That compares with previous forecasts of 1.3 percent and 1 percent, respectively.

And the Conference Board announced yesterday that the leading index for Germany declined 0.3 percent in June while the coincident index increased 0.3 percent.

US existing home sales, Japanese trade surplus fall

The US housing market continues to show signs of weakness. From Reuters:

Sales of existing homes fell 4.1 percent in July, the fourth consecutive decline, to a seasonally adjusted annual rate of 6.33 million units from a revised 6.60 million unit pace in June.

The July pace, the slowest since January 2004, was 11.2 percent below the July 2005 pace of 7.13 million...

According to the Realtors data, the national median existing home price for all housing types was $230,000 in July, up 0.9 percent from July 2005, the smallest year-on-year price gain since May 1995.

The supply of homes for sale at the end of July jumped sharply by 3.2 percent to 3.86 million units. This represented a 7.3 months' supply, the highest since April 1993.

But it was not all bad news in the housing sector.

U.S. mortgage applications rose for a third straight week as falling interest rates prompted homeowners to refinance loans. The refinancing increase offset a decline in mortgages to buy homes. The Mortgage Bankers Association reported its seasonally adjusted index of mortgage application activity last week edged up 0.1 percent.

Over in the UK, the housing market is expected to be stable. Again from Reuters:

Short supply, a steady economy and demand for property as an investment should keep the country's housing market on an even keel, despite this month's surprise interest rate hike, housebuilders believe.

However, they caution that prices are unlikely to rise much further and that market conditions could get tougher if the Bank of England signals that more rate increases are on the way.

There was also good news for the UK in the manufacturing sector, as August’s Monthly Industrial Trends Survey by the CBI shows manufacturing demand at its strongest in 20 months.

But of course, it is the slowdown in the US that most other countries are concerned about, not least Japan, which saw its trade surplus narrow for a second month in July. Bloomberg reports:

The trade surplus narrowed 0.2 percent to 859.9 billion yen ($7.4 billion) from a year earlier, the Ministry of Finance said in a report today in Tokyo. The median forecast of 37 economists surveyed by Bloomberg News was for the surplus to widen to 950 billion yen...

Exports rose 14.2 percent from a year earlier, less than the 15.3 percent median forecast of 11 economists. Imports climbed 16.8 percent, more than the 16.4 percent expected, though slower than the 18.3 percent growth in June.

Fed may hike again, but signs of slowdown spreading elsewhere

Will the Fed hike again or not? Fed officials' opinions differ, as Reuters reports.

Two veteran Federal Reserve officials gave different readings on the likely course of interest rate policy on Tuesday -- but only one will be around after the next meeting to implement those views.

Chicago Federal Reserve Bank President Michael Moskow said unequivocally that inflation remains a bigger threat to the U.S. economy than slowing growth, and the central bank might need to raise interest rates again.

By contrast, the soon-to-retire Atlanta Fed Bank President Jack Guynn said U.S. monetary policy was "properly calibrated" and expressed confidence that inflation was going to slow, as the Fed's own forecasts have predicted.

Meanwhile, signs of a slowdown appear to be spreading elsewhere. While Japan's all-industry index managed to eke out a 0.1 percent rise in June, the reports from Europe yesterday did not look good.

Bloomberg reports that German investor sentiment plunged in August.

German investor confidence plunged to a five-year low in August on concern rising interest rates and taxes will hamper growth in Europe's largest economy.

The ZEW Center for European Economic Research index of institutional and analyst expectations dropped to minus 5.6, the lowest since June 2001, from 15.1 in July, the institute said in Mannheim today. Economists expected a decline to 11.4, the median of 42 forecasts in a Bloomberg News survey showed.

Eurostat reports a fall in industrial new orders in Europe.

The euro area industrial new orders index fell by 2.5% in June 2006 compared to May 2006. The index increased by 2.7% in May and decreased by 0.8% in April. EU25 new orders dropped by 1.2% in June 2006, after rising 2.0% in May and remaining stable in April. Excluding ships, railway and aerospace equipment industrial new orders fell by 2.1% in the euro area and by 1.2% in the EU25 in June 2006.

UK house prices fall, impact of falling US housing market

Reuters reports that the UK house price revival is starting to flag.

Asking prices for homes in England and Wales fell an unadjusted 1.6 percent in the period from early July to early August, a survey showed on Monday.

Property website Rightmove said that brought the annual rate of house price inflation back into single digits at 9 percent from 10.6 percent in the month before.

Meanwhile Calculated Risk says that residential investment leads nonresidential investment, so that "typically recessions are preceded by declines in residential investment". He also says that new home sales is "an excellent leading indicator", noting that historically, when the year-on-year change in new home sales falls about 20 percent, a recession usually follows. This translates to a 1.05 million figure today.

Incidentally, I had also mentioned the 20-percent figure in my post entitled "US housing market flashes warning on economy".

Data on existing home sales and new home sales will be released on Wednesday and Thursday respectively.

More signs of slowdown and inflation, China raises rates, why central banks are reluctant

There were more signs of slowing in the US yesterday. From Reuters:

The University of Michigan's preliminary reading of consumer sentiment in August was 78.7, down from July's final reading of 84.7, said sources who saw the subscription-only report. The median forecast of Wall Street economists polled by Reuters was 83.6...

Also on Friday, the Economic Cycle Research Institute, an independent forecasting group, reported that its weekly index of U.S. economic growth ticked up slightly.

But the index's annualized growth rate hit its lowest level in almost two years, falling in the latest week to negative 1.4 percent. The prior week's rate was negative 0.8 percent, revised downwards from 0.4 percent.

But the consumer sentiment report does not necessarily mean that the Fed's job is done.

The report's preliminary August reading on one-year U.S. inflation expectations was 4.2 percent, up from 3.2 percent in July. Median expectations for inflation over a five-year horizon increased to 3.1 percent from 2.9 percent.

The Bank of England may also have more tightening to do. Reuters reports an increase in mortgage lending in the UK in July.

The British Bankers' Association said net mortgage lending rose by 5.7 billion pounds, up from 5.6 billion pounds in June. That took it above the average 5.3 billion pound increase over the last six months...

The Building Societies Association said in a separate release mortgage approvals rose to a seasonally adjusted 5.035 billion pounds in July from 4.999 billion pounds in June -- the highest July figure on record.

The BBA added that underlying credit card lending fell by 319 million pounds, compared with a 268 million fall in June. Consumer credit rose 307 million pounds overall.

And a report on M4 from the Bank of England itself tells a similar story, showing rapid growth rates in money supply and credit.

Meanwhile, in Germany, producer price inflation stayed high in July. From Bloomberg:

Producer-price inflation in Germany, Europe's largest economy, remained near a 24-year high in July on increased costs for energy and metals.

Goods from newsprint to plastics were 6 percent more expensive in July than a year earlier after rising 6.1 percent in June, the Federal Statistics Office in Wiesbaden said in a statement today. Economists forecast a 5.9 percent increase, according to the median of 33 estimates in a Bloomberg News survey. From June, prices rose 0.5 percent.

The Bank of Japan appears sanguine, though. From AFP/CNA:

Bank of Japan governor Toshihiko Fukui has said the central bank needs "a little more time" to lift interest rates after it ended its unorthodox zero-rate policy last month, a report has said.

On the other hand, there has been a flurry of action in China. Reuters reports the latest one.

China raised interest rates on Friday for the second time in four months in the latest effort to tame a boom in credit and investment that the central bank said posed pressing problems for the economy.

The People's Bank of China (PBOC) said it had ordered an increase of 0.27 percentage point in commercial banks' benchmark one-year deposit and lending rates. The deposit rate is now 2.52 percent and the lending rate stands at 6.12 percent.

And if some economists are correct, there may be more in store.

To Zhong Wei, an economist at Beijing Normal University, this is a strong pointer that the authorities are willing to allow the yuan to climb faster. It has risen just 1.7 percent since it was depegged from the dollar in July 2005.

"The rate move indicates that the pace of the yuan's appreciation will significantly accelerate this year," he said.

Many economists believe Friday's rise does not spell the end of the tightening cycle. For an economy growing at nearly 15 percent in nominal terms, money remains mouth-wateringly cheap.

"Signals coming through are that we will see more tightening measures, both rate hikes and increases in reserve ratios," said Peter Morgan, chief Asia economist for HSBC in Hong Kong.

"The point is, when you have these nickel-and-dime hikes, it's not going to work very much," he said. "Real rates are low relative to growth: that's the basic issue."

If some central banks appear to be slower to tighten than they should be, Morgan Stanley's Andy Xie has some possible explanations.

First, globalization has created positive externality in the tightening of an economy. When one economy tightens, it shifts down the global demand curve, which decreases tightening pressure on everyone else...

The tightening externality turns global tightening into a strategic game. Everyone is waiting for others to tighten...

Second, asset markets are much bigger relative to GDP than before, which makes the effect of tightening less predictable...

If the tightening is fast, the bubble could burst quickly, and the global economy could go straight from inflation to deflation. Hence, central banks see inflation as the lesser evil.

Third, most central banks still enjoy credibility in fighting inflation. Hence, inflation expectations are creeping up very gradually – i.e. central banks see low cost in tolerating a bit more inflation than promised.

US mixed, Europe cools

Yesterday's data from the US was mixed. Reuters reports:

The Philadelphia Federal Reserve Bank's business activity index jumped to 18.5 this month from 6.0 in July, double the median forecast in a Reuters survey for 9.0. A reading above zero indicates growth in regional manufacturing.

At the same time, the U.S. index of Leading Indicators declined 0.1 percent in July to 138.1 after inching up 0.1 percent a month earlier, according to the Conference Board, amid signs of a stalling housing market...

Data earlier from the Labor Department showed that the number of workers seeking first-time jobless aid fell by 10,000 last week to a seasonally adjusted 312,000, signaling a relatively stable job market.

Meanwhile, there were more signs of cooling in Europe.

In the UK, retail sales fell in July. From Reuters:

The Office for National Statistics said on Thursday that sales volumes fell by 0.3 percent last month, confounding expectations of a 0.2 percent gain. June's initially reported 0.9 percent gain was also revised lower, to 0.7 percent.

In the euro zone, inflation and industrial production both fell. From FT:

Annual inflation last month fell to 2.4 per cent, from 2.5 per cent in June, according to Eurostat, the European Union’s statistical unit. An earlier flash estimate had shown no change between the two months... Thursday’s data showed the core rate accelerating to 1.6 per cent in July, from 1.5 per cent in June.

... Eurozone industrial production figures yesterday remained consistent with strong growth, slipping by just 0.1 per cent in June after a 1.8 per cent rise the previous month.

US core inflation and other indicators slow

It looks like the Federal Reserve may pause for quite a while. From Reuters:

The Labor Department said its core consumer price index, an inflation gauge that strips out volatile food and energy costs, rose 0.2 percent in July -- breaking a four-month string of 0.3 percent increases. Overall, consumer prices were up 0.4 percent in July after a 0.2 percent gain in June.

Separately, the Commerce Department said housing starts fell 2.5 percent in July to an annual pace of 1.795 million units from a 1.841 million unit pace in June.

A third report on industrial production from the Fed, said output in July rose a smaller-than-anticipated 0.4 percent, only half of June's 0.8 percent climb.

Reuters also reports the release of the Bank of England's minutes of the August 2 and 3 meeting, showing a 6-1 vote in favour of raising interest rates but little else to suggest further hikes. The caution is perhaps justified, given the accompanying news that the UK unemployment rate hit a six-year high even though earnings growth accelerated.

Data out from Asia have also looked a little cooler lately.

AFX/Forbes reports Japan's leading index:

The index of leading economic indicators for June has been revised upward to 54.5 from the preliminary reading of 50.0, the Cabinet Office said.

AFP/CNA reports China's fixed asset investments:

Urban fixed assets, a measure of investment in China's major infrastructure projects, totaled 4.47 trillion yuan (560 billion dollars), up 30.5 percent from the same period a year ago, the National Bureau of Statistics said.

No figures for July alone were provided.

China's urban fixed asset investments rose 31.3 percent in the first six months of the year, according to previously released figures.

Getting cooler

US producer prices slowed in July. From Reuters:

The core rate for wholesale prices unexpectedly dropped 0.3 percent last month, the first decline since last October, after rising 0.2 percent in June. Overall producer prices, including food and energy, gained only 0.1 percent, after a 0.5 percent jump in June.

But this news came with others pointing to a slowing economy.

The New York Federal Reserve Bank said its Empire State index of manufacturing activity dipped in August to 10.34 from 16.58 -- the slowest pace for manufacturing activity in the state for more than a year.

Retail sales held up last week.

Sales at major retailers last week were up 3.2 percent on a year-over-year basis, Redbook Research said. The International Council of Shopping Centers and UBS said in a joint report that chain store sales were up 2.6 percent from a year ago.

But another Reuters report suggests that retail earnings were mixed in the second quarter, and Home Depot Inc., the world's largest home improvement retailer, softened its sales and earnings growth outlook for this year.

This is understandable given the slowing housing market, with homebuilder confidence continuing to sink:

The National Association of Home Builders said its index of sentiment among homebuilders plunged 7 points to 32 -- its lowest since February 1991 -- and less than half the level of a year ago. The result was below the 38 median forecast of 30 economists polled by Reuters.

...and home prices flattening:

Home price gains slowed dramatically in most U.S. metropolitan areas in the second quarter... The national median existing single-family home price was $227,500 in the second quarter, up 3.7 percent from $219,400 a year earlier...

Slowing inflation was also evident in the UK. Again from Reuters:

The Office for National Statistics said on Tuesday that consumer prices fell 0.1 percent last month, reducing the annual inflation rate to 2.4 percent from 2.5 in June -- the joint-highest since the ruling Labour party won power in 1997.

Even Asia is showing signs of cooling.

AFX/Forbes reports that Japan's services sector weakened in June.

The tertiary index, which measures spending in the services sector, dropped for the first time in three months in June, as consumers spent less on construction consulting firms and fuel products as oil prices jumped, the Ministry of Economy, Trade and Industry (METI) said.

The index fell 0.6 pct in June from the previous month, after rising 0.7 pct month-on-month in May. The index was up 2.2 pct in June compared to a year earlier, the ministry said.

Bloomberg reports that China's industrial production slowed in July.

China's industrial production rose last month at the slowest pace since April as increasing fuel costs hurt demand for cars and the central bank reined in lending for new factories.

Output at manufacturers, mines and power plants climbed 16.7 percent from a year earlier, the statistics bureau said today. Growth slowed from June's 19.5 percent pace, which was the fastest on record, and lagged behind all forecasts in a Bloomberg News survey of 22 economists...

The report suggests record oil prices and government restrictions on investment and lending are beginning to cool the world's fastest-growing major economy. The World Bank, which raised its 2006 growth forecast for China to 10.4 percent today, said surging spending on factories threatens to leave the nation with idle capacity.

Xinhua Online reports that FDI is falling in China.

Realized foreign direct investment (FDI) to China dropped by 1.16 percent year-on-year in the first seven months to 32.7 billion U.S. dollars, the Ministry of Commerce said here on Tuesday.

The drop was a little steeper in July - realized FDI was down 5.49 percent on July last year to 4.28 billion U.S. dollars, said the ministry.

And just to make sure that the cooling is maintained, the central bank is tightening again. From Xinhua Online:

The People's Bank of China, China's central bank, raised banks' deposit reserve ratio Tuesday by 0.5 percentage points to rein in excessive bank lending.

The hike brings the reserves that most banks are required to deposit with the central bank to 8.5 percent. The central bank raised the bank deposit reserve ratio by the same margin of 0.5 percentage points in June.

Slowdown seen in the US, still hot elsewhere

Slower growth and faster inflation for the US economy appears to be the current consensus. From Reuters:

Growth in U.S. real output over the near term looks slower but inflation a bit higher than they did three months ago, according to a survey issued by the Philadelphia Federal Reserve Bank on Monday.

Inflation does seem to be a force in the UK too, at least in producer input prices. Again from Reuters:

Record oil prices helped push producer input prices up 1.1 percent last month, the fastest rate since April and above a consensus forecast of 1.0 percent.

However, output prices rose just 0.2 percent in July, bringing the annual rate of factory gate inflation down to 2.8 percent from 3.3 percent in June.

Core output prices rose 0.1 percent, the smallest monthly rise since October 2005 and well below expectations for a 0.3 percent increase.

And in UK house prices:

The Royal Institute of Chartered Surveyors said its house price balance rose to +31 from +28 in the three months to June -- its strongest reading since May 2004 when house price inflation was in double figures and the price balance hit +41.

Meanwhile, there were few signs of a slowdown in economic growth in most of the euro zone in the second quarter. From Bloomberg:

The economy of the dozen euro nations grew the most in six years in the second quarter as exports spurred spending by companies and consumers, making it likely the European Central Bank will keep raising interest rates.

The $10 trillion economy expanded 0.9 percent from the first quarter, when it grew 0.6 percent, Eurostat, the European Union's statistics office in Luxembourg, said today. Growth will probably reach about 0.7 percent in the next two quarters before slowing to 0.5 percent at the start of 2007, said the European Commission.

China's economy has also been hot as bank lending and the money supply grew in July despite government control efforts while retail sales of consumer goods rose 13.7 percent in July over the same month last year. On the other hand, China imported less copper and aluminum in the first seven months of the year compared to last year.

What US retail sales and import price trends mean for corporate earnings

The United States economy is widely expected to slow in the next few quarters. Last Friday's government reports gave some insights on how this slowdown might affect corporate earnings. Developments in China may also have an impact.

According to a recent report from Standard & Poor's, earnings for S&P 500 companies are now expected to be 13.2 percent higher in 2006 than in the previous year. Reasons for the strong earnings growth include healthy global economic growth and improved pricing and cost controls.

Will these conditions persist? Last Friday's US government data provided some clues.

The focus of most analysts' attention on Friday was the retail sales report from the Commerce Department, not surprisingly since consumer spending contributes about 70 percent of US gross domestic product. The report showed that retail sales rose 1.4 percent in July, more than economists had expected.

While this looks good, the monthly growth rates tend to be volatile. Perhaps more significantly, sales were up only 4.8 percent compared to July 2005. This is well down from the rate of almost ten percent a year ago, and the year-on-year growth rate appears to be on a downtrend, as the following chart shows.


With the National Association of Home Builders/Wells Fargo Housing Market Index continuing to fall in July, retail sales are likely to deteriorate further over the following months.

Meanwhile, pricing power is likely to be maintained or even rise, given the inflationary environment of today. The question is whether costs can be contained at the same time.

Last Monday, at InvestorsInsight, John Mauldin reproduced a report from Louis-Vincent Gave, a partner at GaveKal Research. The report says that because of its need to create jobs, China keeps expanding manufacturing capacity and thus exerts "relentless downward pressure on manufactured prices". This in turn creates "more leeway for other prices in the world economy to go up".

As a whole, this is good news for businesses elsewhere; they get better pricing power and lower costs at the same time, provided, of course, that they are not competing against the Chinese manufacturers.

The report does not explicitly say it but obviously lower costs for businesses include lower labour prices. Labour loses pricing power, especially the type of labour that competes with China, and becomes vulnerable during a slowdown.

In contrast, Gave thinks that in a slowdown, corporate profit margins would fall but "may be much higher than some expect".

Whether Gave proves right depends to a considerable extent on whether China is continuing to expand manufacturing capacity enough to put downward pressure on its export prices and produce a deflationary impact on the rest of the world.

Note that such an impact would not only reduce input costs for businesses in other countries but could also keep monetary policies around the world more accommodative than would otherwise be the case and thus support economic growth. Remember that the Federal Reserve in particular includes the contribution of Chinese prices on inflation but excludes the direct contribution of energy prices, which are among those "other prices" that Gave says tend to go up.

To determine the trend of China's prices, Gave looked at Hong Kong's re-export price index as a proxy for the price of Chinese exports. He showed that Chinese export prices fell in 2001 and 2002, triggering the deflation scare of the latter year, but rose thereafter, especially in 2004 and 2005. Then it started to slow again in 2006.

Unfortunately, the data presented in the report reproduced by Mauldin appears to have ended in March. The latest available data from Hong Kong's Census and Statistics Department show that this index started to turn up again in March, and continued rising in April and May.

This trend is corroborated by brokerage and investment bank CLSA's survey of purchasing managers in China. In his comments on the July survey, Eric Fishwick, Deputy Chief Economist at CLSA said: "For the fourth month both input and output price indices were above the 50 breakeven line signaling that businessmen have no choice but to try and pass input price rises on. The era of China 'exporting deflation' is long over."

Not so fast.

Friday also saw the US Labor Department release its report on import and export price indexes. The overall import price index rose 0.9 percent, but this was boosted by petroleum. The import price index excluding petroleum fell 0.1 percent.

More specifically, the import price index for China fell 0.2 percent in July. Compared to the previous year, this index is down 1.3 percent.

If China's export prices are rising, it is not yet showing up in the US data. Or perhaps China is only exporting deflation to the US.

So the trend is not exactly clear, but if China does keep exporting deflation at the same time that the US economy weakens, US corporate profits might hold up better than in the average downturn even as the US job market collapses. As Gave puts it, China gets the jobs, America gets the profits.

Slowdown moves to Japan, leaves the US

Japan's growth rate slowed surprisingly sharply in the second quarter. From CNA:

The Japanese economy grew for the sixth consecutive quarter but at a slower than expected pace of 0.2 percent growth for April to June.

The April to June expansion of 0.2 percent was half the figure widely anticipated.

Growth slipped mainly due to weaker exports as the slowdown in the US economy led to lower external demand.

Less surprising was the Bank of Japan's decision to leave interest rates unchanged. From AFP/CNA:

The nine-member policy board voted unanimously to keep its benchmark interest rate at 0.25 percent, as widely expected by analysts who doubted the bank would tighten credit quickly.

"I can't deny the possibility of raising the key rate again this year, but at the same time, I don't have any intention of suggesting another rate hike," Bank of Japan governor Toshihiko Fukui told a news conference.

The US also pulled off a surprise -- a positive one -- in retail sales. From Reuters:

U.S. consumers spent heartily in July on goods ranging from cars to electronics as sales at retail stores rose a greater-than-expected 1.4 percent, a government report on Friday showed, suggesting the economy still had spark.

It was the biggest increase since January, according to the Commerce Department, and well above the 0.8 percent gain economists polled by Reuters were expecting.

Excluding motor vehicles and parts, retail sales rose 1.0 percent, again the biggest rise since January and exceeding the 0.5 percent increase Wall Street economists had forecast...

Separately, the Labor Department on Friday said import prices rose 0.9 percent in July, slightly more than expectations, as petroleum costs jumped sharply.

Business inventories in June rose a greater-than-expected 0.8 percent, according to the Commerce Department.

The news from Europe was mixed. Bloomberg reports an acceleration in French growth:

France's economy grew the most in five years in the second quarter as exports rose and the soccer World Cup spurred consumer spending.

Gross domestic product rose as much as 1.2 percent from the first quarter, when it gained 0.5 percent, the national statistics office, Insee, said today in Paris. Economists predicted a 0.7 percent increase, according to the median of 28 estimates in a Bloomberg News survey.

... France's inflation rate held at 2.2 percent in July, a separate Insee report showed today.

But Italy's growth rate slowed.

... In Italy, growth slowed to 0.5 percent in the second quarter from a revised 0.7 percent in the first, a separate report showed today.

There were also mixed signals in China. Producer price inflation was maintained in July, with industrial producer prices increasing by 3.6 percent over the same period in 2005. However, consumer price inflation moderated to one percent, 0.5 percentage point lower than that in June, thanks to slower growth in food prices.

Trade and interest rate trends persist

The US trade deficit narrowed in June. From Reuters:

The monthly trade gap was $64.8 billion, down slightly from $65.0 billion in May as exports grew more rapidly than imports during the month...

The United States imported a record $20.5 billion worth of crude oil in June...

The United States sucked in a record $185.5 billion in imports of goods and services from all countries in June...

But U.S. exports of goods and services also set a record in June at $120.7 billion...

Exports rose 2.0 percent in June, while imports were up 1.2 percent.

The June data continued the stabilisation in the deficit that started in late 2005. Or as Menzie Chinn says: "Persisting trends, for now."

The Reuters report also mentioned that initial unemployment claims rose 7,000 last week to 319,000.

Japan reported its current account balance for June yesterday. Reuters reports on this and July wholesale prices.

The corporate goods price index (CGPI) rose 3.4 percent in July from the same month a year earlier, BOJ data showed on Thursday...

Compared with a month earlier the CGPI, which tracks trends in wholesale prices of goods, was up 0.7 percent percent in July compared with a median market forecast of a 0.5 percent rise...

The current account surplus fell 7.2 percent in June from the same month a year earlier to 1.0167 trillion yen ($8.79 billion), Finance Ministry data showed...

The trade surplus was down 12.7 percent from a year earlier at 857.0 billion yen, with a surge in import value from high oil prices cutting growth in exports.

Meanwhile, consumer confidence in Japan rose to 48.6 points last month from 47.2 in June according to the Cabinet Office.

The recent data probably mean that the Bank of Japan will leave interest rates unchanged at the end of its policy meeting today.

The European Central Bank, however, appear poised to raise rates further. From Bloomberg:

If the ECB's "assumptions and baseline scenario are confirmed, a progressive withdrawal of monetary accommodation will be warranted," the Frankfurt-based central bank said in its August monthly bulletin published today. Borrowing costs "remain low" even after the ECB raised its benchmark refinancing rate to 3 percent last week, the fourth increase in eight months.

But French industrial production continued Europe's poor run in June.

French industrial production stagnated in June, Paris-based national statistics office Insee said today, as record oil prices and a strengthening euro dimmed prospects for economic growth. The euro's 9 percent gain against the dollar this year, to $1.2866 at 11 a.m. in Frankfurt today, may erode demand for European exports.

One central bank that did take action yesterday was South Korea's. From AFP/CNA:

In a surprise move, South Korea's central Bank of Korea has hiked interest rates in a pre-emptive move to curb inflation, sending stock prices considerably lower and sparking a surge in bond yields.

"The call rate target (for August) was raised from the current 4.25 percent to 4.5 percent," the bank said in a statement.

Fed may stop, others may not

Following the Fed's decision on Tuesday to pause, Bloomberg columnists John Berry and Caroline Baum think we won't be seeing any interest rate hike any time soon.

Berry says: "For now, the best guess is probably that there won't be a rate increase next month." He added that "a majority of the committee thinks slower growth and the lagged effect of previous rate increases will do the job".

Baum thinks that the rate hike cycle is at an end because the economy is already showing signs of slowing.

Meanwhile, equity investors are now thinking that maybe a slowing economy is not so good for stock markets. From Reuters:

U.S. stocks fell for a fourth straight session on Wednesday, tumbling in the last hour of trading, as worries about slowing economic growth, higher oil prices and a stumbling housing market drove selling...

The Dow Jones industrial average slid 97.41 points, or 0.87 percent, to end at 11,076.18. The Standard & Poor's 500 Index declined 5.53 points, or 0.43 percent, to finish at 1,265.95. The Nasdaq Composite Index inched down just 0.57 of a point, or 0.03 percent, to close at 2,060.28...

U.S. crude oil futures rose after the government reported drawdowns in crude oil, gasoline and distillate supplies and amid a production outage in BP Plc's Prudhoe Bay field in Alaska, the largest in the nation.

Earlier yesterday, however, Japan's Nikkei 225 had risen 1.2 percent to close at a two-month high of 15,656.59, boosted by a report of strong machinery orders. From AFP/CNA:

Japanese private sector machinery orders in June rose 8.5 percent from the previous month, soaring past market expectations of a decline as Japan enjoys the longest recovery in decades, the government said...

For the three months to September, core machinery orders are seen rising 4.9 percent from the previous quarter.

Elsewhere in Asia, China's trade surplus posted another record high. Again from AFP/CNA:

China's trade surplus in July hit a record 14.61 billion dollars, offering further evidence that the Chinese economic machine is continuing to race ahead.

July exports were up 22.6 percent to 80.34 billion dollars from a year ago, with imports rose 19.7 percent at 65.72 billion dollars, the official Shanghai Securities News reported, citing an unnamed customs official.

In contrast, the UK saw both exports and imports falling in June as its goods trade gap narrows. Nevertheless, interest rates in the UK are now looking more likely to rise than those in the US, as Reuters reports.

Explaining last week's quarter percentage-point increase, BoE Governor Mervyn King said markets should not have been surprised by the move. Policymakers had been alarmed by data revisions showing much less spare capacity in the economy than previously thought.

Inflation, already running half a point above target, was set to climb further on higher energy bills and college tuition fees, giving a 50-50 chance it would exceed 3 percent -- the level that would force the governor to write an explanatory letter to the government...

The BoE also predicted stronger economic growth over the next two years than it did in May, moving higher initially on a pick-up in exports and business investment coupled with steady growth in consumer spending.

Fed pauses

The big news yesterday was, of course, the Fed pause. You can read the FOMC statement as well as some good analyses by econ bloggers Mark Thoma, James Hamilton and William Polley.

Despite the pause, the Fed still said that "some inflation risks remain" and that "additional firming...may be needed to address these risks". Data on productivity and unit labor costs released yesterday could have influenced the Fed to keep these statements. From Reuters:

The Labor Department said unit labor costs -- a key gauge of profit and price pressures -- rose at a 4.2 percent annual pace, their fastest jump since the fourth quarter of 2004... The Labor Department revised the first quarter pace sharply upward to 2.5 percent.

Nonfarm business productivity rose at a 1.1 percent annual pace in the second quarter, slowing considerably from the 4.3 percent pace in the first quarter, a rate that was revised upward from the previously reported increase of 3.7 percent.

There were also reports of continued growth in retail sales.

In the retail sector, a report from Redbook Research on Tuesday showed that U.S. chain store sales rose in the first week of August, helped by back-to-school tax holidays in some states and summer clearance sales. Sales at major retailers were up 3.2 percent on a year-over-year basis in the week ended August 5, following a 2.8 percent rise the week before.

U.S. July retail sales data released by SpendingPulse, excluding autos, rose a seasonally adjusted 0.4 percent to $286.0 billion, after a 0.4 percent increase in June.

Retail sales also picked up pace in the UK in July, with the British Retail Consortium reporting that like-for-like retail sales grew 3.4 percent on year earlier compared with 2.3 percent annual growth in June. Adding to the positive news from the UK was a report that recruitment agencies placed staff in permanent jobs at the fastest rate in more than two years in July.

Less positive was the news on industrial production in Europe. German industrial production fell 0.4 percent in June compared to a 1.5 percent increase in May while Italian industrial production growth slowed to 0.1 percent in June compared to 0.9 percent in May.

Meanwhile, Japan's economy continues on its recovery path, with the Bank of Japan reporting yesterday that bank lending rose 2.2 percent in July, the fastest pace in 10 years. This was despite money supply growing just 0.5 percent, the slowest since April 1993.

US consumer credit rises, UK and Japanese economic growth maintained

The FOMC makes its interest rate decision later today. In the meantime, we have this Reuters report on US consumer credit growth.

U.S. consumer credit rose by a bigger-than-expected $10.27 billion in June on a surge in credit card debt, a Federal Reserve Report on Monday showed...

Consumer credit outstanding rose to $2.186 trillion in June, rising at a 5.66 percent annual rate from $2.176 trillion the prior month.

Also possibly weighing on the economy is another rise in oil prices. Again from Reuters:

U.S. crude surged 3 percent to $77 a barrel on Monday after pipeline damage forced BP to shut down an Alaskan oil field that pumps 8 percent of U.S. domestic output.

The Bank of England raised interest rates last week. Perhaps they were right in doing so, as house prices climbed in the second quarter.

House prices in England and Wales climbed 7.7 percent year-on-year in the second quarter, taking the average cost of a home to within a whisker of 200,000 pounds as the number of sales soared, official data showed on Tuesday.

The Land Registry said the number of houses sold jumped by almost a quarter to 268,430 in the three months to June compared with the same period in 2005, with all regions in England and Wales showing an increase in average prices.

And the UK economy maintained a strong momentum into July.

Britain's economy grew 0.8 percent in the three months to July compared with the previous three months, the National Institute of Economic and Social Research projected on Tuesday.

On the other hand, industrial output was weaker than expected in June.

Industrial output unexpectedly fell in June because of maintenance work in the oil and gas sectors, official data showed on Monday.

The Office for National Statistics said that overall industrial output fell 0.1 percent in June from May, leaving it 0.7 percent lower than a year earlier...

Manufacturing output was also weaker than expected, rising by just 0.1 percent in June against forecasts of a 0.2 percent increase. That left factory output 0.9 percent higher than a year earlier.

Meanwhile, Japan kicks off a busy week for economic news with its leading index, reported by Bloomberg:

Japan's broadest index of future economic activity showed the current expansion will probably become the longest in the postwar era.

The leading index, which comprises indicators including machinery orders and stock prices, was at 50 in June from 77.3 in May, the Cabinet Office said today in Tokyo. A number at 50 or above signals the economy will grow in the next three to six months. The result was in line with the median forecast of 20 economists surveyed by Bloomberg News.

Markets signalling slowdown in US economy

The latest economic indicators show that the United States economy is slowing. How much the economy actually slows is something that markets will try to anticipate.

In the second quarter, the US economy grew at an annualised rate of 2.5 percent, well below the 5.6 percent rate of the first quarter. In the opinion of most economists, this is confirmation that the economy has begun to slow.

The question in most economists' minds is exactly how much the economy will slow. Will the growth rate slow to its long-term trend, below the trend, or below zero? After Friday's weaker-than-expected employment report from the Labor Department showing 113,000 job gains in July and a higher unemployment rate of 4.8 percent and with the Federal Reserve due to make a decision on monetary policy tomorrow, this question is especially pertinent.

The latest surveys by the Institute for Supply Management in July also show that the economy has slowed but is still growing. The manufacturing purchasing managers' index actually rose slightly to 54.7 in July from 53.8 in June but is below the levels of most of 2005 and early 2006. The non-manufacturing business activity index fell to 54.8 from 57.0 in June and is well below levels of over 60 that it had maintained for most of 2005 and early 2006. However, both indices have remained above 50, indicating that activity continues to grow.

While the views of purchasing managers provide a very useful picture of the state of the economy, the views of investors are also important. The following chart provides some clues to the views of stock and bond market investors.


The chart shows how year-on-year real GDP growth, the spread between 10-year Treasury yields and the federal funds rate and the year-on-year change in the Standard & Poor's 500 Index have varied over a period of slightly over half a century. Several observations and conclusions can be made from the chart.

First of all, the right end of the chart shows that while second quarter real GDP growth was well down from the first quarter on a quarter-on-quarter basis, on a year-on-year basis, real GDP growth was only flat and was actually quite decent at 3.5 percent.

Secondly, both the spread between 10-year Treasury yields and the federal funds rate and the year-on-year change in the S&P 500 have been declining. The chart shows that in previous cycles, such a decline often precedes a slowdown in real GDP growth. So while year-on-year GDP growth is not showing a significant downtrend at the moment, it probably soon will.

Thirdly, the graphs for the spread and the S&P 500 are not yet at low-enough levels to indicate an impending recession. But this is provided they do not deteriorate much further.

And that brings us to the fourth point. The 10-year Treasury note is currently yielding around 4.9 percent. That is 35 basis points below the current target federal funds rate. Should the Federal Reserve decide to raise the target rate another 25 basis points tomorrow, that would probably bring the spread even further into negative territory.

Furthermore, stock markets are likely to react negatively to a rate hike as well. And while the S&P 500 may be sitting in positive territory on a year-on-year basis currently, the above chart shows that in major economic downturns, it usually bottoms after the spread. In other words, should the Federal Reserve tighten further, the stock market might have quite some way down to go yet.

And if the above chart is anything to go by, so might the economy.

US job growth and other data reinforce slowdown expectations

Obviously, the big news yesterday was the US nonfarm payroll. Reuters reports the numbers:

U.S. employers added a fewer-than-expected 113,000 jobs in July and the unemployment rate jumped unexpectedly to 4.8 percent, confirming a slowing economy and igniting hopes for an interest-rate pause by the Federal Reserve...

Still, average hourly earnings increased 7 cents for a second straight month to $16.76 in July, a 0.4 percent increase, the same as in June. In the year through July, average hourly earnings rose 3.8 percent, down slightly from the 3.9 percent year-over-year gain posted in June...

[M]anufacturers shed 15,000 jobs last month after adding 22,000 in June and goods-producing businesses overall cut 2,000 jobs after adding 23,000 in June...

In July, construction businesses added 6,000 jobs but that followed back-to-back job reductions of 4,000 in May and June.

Service industries continued to be the mainstay of job creation, adding 115,000 jobs in July after 101,000 in June.

Among econ bloggers, James Hamilton thinks that the report settles the argument that the Fed will pause next week, but William Polley is not so confident it does.

But the latest OECD composite leading indicators do reinforce expectations for a slowdown.

The CLI for the OECD area decreased by 0.1 point in June to 109.7 from 109.8 in May, and its six-month rate of change was down for the third consecutive month.

The CLI for the United States fell by 0.2 point in June, and its six-month rate of change was down for the fourth consecutive month. The Euro area’s CLI increased by 0.2 point in June, but its six-month rate of change decreased for the first time since May 2005. In June, the CLI for Japan decreased by 0.9 point with its six-month rate of change showing a downward trend since March 2006.

And data on German manufacturing orders appear to confirm the trend. From Bloomberg:

German manufacturing orders unexpectedly fell for a second month in June, led by a drop in domestic sales of factory machinery and consumer goods.

Orders declined 0.5 percent from May, when they fell a revised 1.5 percent, the Economy and Technology Ministry in Berlin said in a faxed statement today. Economists expected an increase of 1.3 percent, the median of 38 forecasts in a Bloomberg News survey showed. From a year ago, orders rose 0.8 percent.

ECB and BoE raise rates, Fed next?

Europe saw higher interest rates yesterday as both the European Central Bank and the Bank of England raised rates. From FT:

Interest rates rose across Europe on Thursday as the European Central Bank increased rates by an expected quarter point to 3 per cent, while the Bank of England surprised markets with an equivalent rise of its main interest rate to 4.75 per cent.

Data yesterday showed that the euro area continues to grow, with retail sales volume up 0.5 percent in June -- reversing a fall in May -- and the services Purchasing Managers Index moderating to 57.9 in July from 60.7 in June.

The surprise move by the BoE yesterday came amid reports that house prices rose 0.2 percent in July, constructing orders rose four percent in the second quarter and the services business index dipped to 57.9 in July from 58.7 in June.

In the US, doubts remain over whether the Federal Reserve will raise rates, especially after yesterday's data. From Reuters:

The Institute for Supply Management's services index fell to 54.8 in July from 57.0 in June... The ISM services prices-paid index rose to 74.8 in July from 73.9 in June, while the jobs component increased to 54.5 from 52.0, and new orders slipped to 55.6 from 56.6...

New orders at U.S. factories rose a smaller-than-expected 1.2 percent in June... After stripping out transportation, factory orders rose a scant 0.1 percent, the weakest since a 2.5 percent drop in February... [U]nfilled orders for items meant to last more than three years rose 1.6 percent... However, inventories of goods rose for the fifth time in the last six months.

An industry report on Thursday showed mixed results for U.S. chain store sales. Sales rose 3.5 percent on a year-over-year basis in July, but were below the 3.8 percent average for the 2006 fiscal year, the International Council of Shopping Centers said...

On the employment front, the number of workers seeking initial jobless aid rose 14,000 last week, but remained at levels still indicative of a stable labor market.

Tim Duy thinks that inflation concerns will ultimately trump slowdown concerns for the Fed.

In short, I want to believe the “growth slowdown means a pause” story, but the inflation numbers keep circling around me like a pack of hyenas just waiting for me to drop my guard. Central bankers tend to hold onto hawkish leanings longer than expected. I simply suspect that while financial markets appear to be more focused on the slowdown story, the Fed will focus on the inflation story. Moreover, I doubt the Fed finds the GDP report to be particularly dismal. Consequently, I think the call is much closer than the betting on Wall Street indicates, close enough for me to expect another hike next week.

More signs of US slowdown, rates still likely to rise elsewhere

There were more signs of a slowdown in the US yesterday. From Reuters:

U.S. private sector employers created a smaller-than-expected 99,000 jobs in July, down from 368,000 in the previous month, a survey by a private employment service said on Wednesday...

The Mortgage Bankers Association said its seasonally adjusted index of mortgage application activity for the week ended July 28 decreased 1.2 percent to 527.6 -- its lowest since May 2002 -- from the previous week's 533.8.

But data elsewhere show that interest rates may still need to rise.

In Europe, industrial producer prices rose 0.2 percent in June in the euro area and 0.1 percent in the EU25. Compared to June 2005, industrial producer prices were up 5.8 percent in the euro area and 6.4 percent in the EU25. Significantly, excluding energy, producer price inflation accelerated to 3.0 percent in June from 2.7 percent in May, 2.2 percent in April, 1.8 percent in March and 1.7 percent in February.

In the UK, the Chartered Institute for Purchasing and Supply said its seasonally adjusted index for construction rose to 53.2 in July from 50.8 in June while the British Retail Consortium said shop prices last month rose 0.69 percent on the year, the biggest jump since July 2004.

The ECB and the BoE will be making interest rate decisions later today.

In the meantime, at least we know that some monetary tightening is taking place in Japan.

Japan's monetary base marked its biggest fall of 17.8 percent in July from a year earlier due to a sharp fall in the balance of current-account deposits held by financial institutions at the Bank of Japan, the central bank said Wednesday.

Mixed US data, hotter elsewhere

There was a lot of US data yesterday, but the significance was mixed on the whole. From Reuters:

The Commerce Department said consumer inflation rose 0.2 percent in June, while personal income increased 0.6 percent in the month and nominal spending was up 0.4 percent. The latter two figures both matched Wall Street expectations...

News from the industrial sector proved positive, with the Institute for Supply Management's index of national factory activity rising to 54.7 in July from 53.8 in June, beating economists' forecasts for a slight fall...

The prices paid component of the index, which measures inflationary pressures within the sector, rose to 78.5 from 76.5, the highest reading in nine months.

New orders, a gauge of future growth, slipped to 56.1 from 57.9 while the employment index rose to 50.7 from 48.7...

Construction spending rose a stronger-than-expected 0.3 percent to a record high in June on gains in nonresidential and public building, but private residential construction fell for the third month in a row...

The National Association of Realtors said pending sales of U.S. homes, based on contracts signed in June, rose unexpectedly for the second straight month...

U.S. domestic car and truck sales in July came in at a seasonally adjusted annual rate of 13.1 million, slightly higher than expectations, analysts said. The figure was higher that June's seasonally adjusted annual rate of 12.5 million, but lower than last July's seasonally adjusted annual rate of 17.2 million...

In his first public appearance on Tuesday, U.S. Treasury Secretary Henry Paulson touted the economy's recent performance, saying the United States was "absolutely not" headed toward recession.

Meanwhile, the rest of the world is still seeing some strong data.

Bloomberg reports data from the euro zone:

The jobless rate in Germany, Europe's biggest economy, declined in July to a seasonally adjusted 10.6 percent, matching the lowest since August 2004, from 10.8 percent in June, the Federal Labor Agency in Nuremberg said today. Royal Bank of Scotland Plc said its index based on a survey of purchasing managers slipped to 57.4 from June's 57.7, the highest in six years. A reading above 50 indicates expansion...

Joblessness in the euro area declined to 7.8 percent in June, the lowest since August 2001, from 7.9 percent in May, the European Union's statistics office in Luxembourg said today.

In the UK, manufacturing slowed in July with the Chartered Institute of Purchasing and Supply/RBS Purchasing Managers' Index (PMI) falling to 53.8 from a downwardly-revised 55.0 in June, but house prices jumped sharply in July, reports Reuters.

The Nationwide building society said the cost of an average home rose 0.8 percent last month after a 0.3 percent gain in June.

That took prices 5.9 percent higher than a year earlier compared with a 5.0 percent annual increase in June, and the highest since April 2005 when the market was slowing after double-digit rates of growth in previous years.

Even Japan is seeing land prices rise. From AFP/CNA:

Japanese land prices rose for the first time in 14 years as the property market springs back to life after a long slump since the "economic bubble" burst in the early 1990s, the government has said.

The average price of land along side major roads rose 0.9 percent to 114,000 yen (994 dollars) per square meter as of January 1 from a year earlier, the National Tax Agency reported.

Whatever is driving the global economy is clearly reaching down under. Again from AFP/CNA:

Australia's central bank raised interest rates by 25 basis points to a six-year high of 6.0 percent Wednesday in an effort to head off inflationary pressures in a booming economy.

The widely-anticipated move by the Reserve Bank of Australia (RBA) board came after the headline annual inflation rate hit 4.0 percent following a surge in the June quarter, well above the bank's target range of 2.0-3.0 percent.

If global inflation seems to be on the rise, that could be because China is no longer exporting deflation. From MarketWatch:

Investment bank CLSA said its Purchasing Managers' Index (PMI) for China, a composite indicator designed to provide a snapshot of the health of the manufacturing sector, rose to 53 from 52.9 in June, its highest level since May 2005...

Although the rate of output price inflation had eased, firms raised prices they charged for finished goods for a fourth consecutive month in July...

"The era of China 'exporting deflation' is long over," [deputy chief economist at CLSA Eric Fishwick] said. "For the fourth month, both input and output price indices were above the 50 breakeven line, signaling that businessmen have no choice but to try and pass input price rises on."

But that might not be possible in the future if China over-invests. From People's Daily Online:

The National Development and Reform Commission (NDRC) said overall fixed assets investment during the first half grew 29.8 precent to 4.24 trillion yuan (530 billion US dollars), 4.4 perentage points higher than the same period last year.

Meanwhile, nearly 100,000 new construction projects were launched, 18,000 more than the first half of last year.

Fed rate hikes "tricky", ECB less so

The US economy may have slowed down in the second quarter, but reports from yesterday suggest that the third quarter may have gotten off to a relatively good start. Reuters reports that the NAPM-Chicago business barometer rose to 57.9 in July from 56.5 in June, while the NAPM-New York index of business activity climbed to 409.3 in July from 394.5 in June, with the outlook reading climbing to 88.3 from 75.0.

Nevertheless, Fed officials speaking yesterday hinted that the rate-hike cycle was at least near an end. From Reuters:

Janet Yellen, president of the San Francisco Federal Reserve Bank, said monetary policy is at a "tricky" stage as the Fed balances the risks of both not raising rates enough and letting inflation run, and raising rates too far and choking off growth.

Yellen said in a speech at San Francisco's Golden Gate University that the fed funds rate is "in a vicinity that is roughly appropriate," and that the Fed need not keep raising rates until the point where inflation actually turns down.

Earlier, William Poole, St. Louis Fed President, said he felt evenly split about the need for an 18th consecutive interest rate hike at the Fed's meeting next week.

"I am still very much in the 50-50 camp in terms of the probabilities for the August meeting," Poole told reporters after speaking to a breakfast sponsored by the Southern Legislative Conference in Louisville, Kentucky.

While there are doubts over US economic growth, the data on European economies continue to be strong, shortening the odds on an ECB rate hike on Thursday, as FT reports.

Economic sentiment in the Euro currency area rose to 107.7 points in July from a revised June level of 107.1...

At the same time, the rate of Eurozone inflation remained at the same level as June. The statistics office said prices were 2.5 per cent higher in July than the same month a year ago...

Both sets of figures lent weight to those observers who argue that inflation-hawks on the ECB governing council are in the ascendant, and that the bank will quicken the pace of rate increases before the end of the year.

Reinforcing the expectations for ECB rate hikes are strong German retail sales for June. From Bloomberg.

Sales, adjusted for inflation and seasonal swings, rose 1.9 percent from May, when they dropped a revised 0.4 percent, the Federal Statistics Office in Wiesbaden said today. Economists forecast a gain of 1 percent, according to the median of 34 estimates in a Bloomberg News survey. From a year earlier, sales fell 0.4 percent.

UK economic data have also been relatively strong, as Reuters reports that mortgage approvals rose to their highest level in five months in June. On the other hand, growth in credit card lending slowed sharply to its weakest pace in nearly 12 years. UK consumer confidence was unchanged in July.

Finally, there was positive data from Japan as well yesterday. From Reuters/Yahoo News:

Japan's industrial production rose a stronger-than-expected 1.9 percent in June from May after dipping the previous month, government data showed on Monday, indicating an economic upturn was intact...

Manufacturers' output -- the core component of production -- is expected to rise 2.2 percent in July and increase a further 3.7 percent in August, data from the Ministry of Economy, Trade and Industry showed...

Separate data on Monday showed the NTC Research/Nomura/JMMA Purchasing Managers Index, which gives an early snapshot of manufacturing activity, came in at a seasonally adjusted 55.7, the highest since March and rebounding from a 10-month low of 54.3 in June.