By John W. Schoen Senior producer
updated 7/13/2007 3:39:11 PM ET 2007-07-13T19:39:11

Just a day after upbeat news from retailers sent the stock market surging, the government reported Friday that retail sales fell sharply in June. It seems that while American consumers are still spending, they’ve become a lot more cautious when it comes time to pull out their credit card.

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Retail sales fell by 0.9 percent last month, the biggest drop since August 2005, the Commerce Department reported. Economists had been looking for flat sales for the month. Demand for autos, furniture and building supplies all plunged.

In recent months, retail sales figures have been up and down. After healthy gains posted for the holiday shopping season, sales figures were reasonably strong in March and May but came in weak for April and June. So some economists say the weakness in the June number is partly offset by stronger sales earlier in the year.

“I think it's going to wind up being very strong consumer sales in the quarter, and you can't look month-to-month,” said Robert Brusca, chief economist at Fact and Opinion Economics. “All the fundamentals are still in great shape, so you put this month aside as a bad month during a period where energy prices were high.”

Sales at specialty clothing stores fell by 1.4 percent in June while department stores saw sales fell by 1 percent. A broader category that adds in big chains like Wal-Mart posted an increase of 0.3 percent in June.

Auto sales were especially hard hit as Detroit continues to try to engineer a turnaround to a  slump brought on partly by a slide in demand for sport utility vehicles. Sales of autos and auto parts dropped 2.9 percent in June.

Weakness in the housing market has spread to sales of housing-related products. Sales at furniture stores were down 3 percent last month, the biggest drop since February 2003; sales at hardware stores fell by 2.3 percent.

“Higher gasoline prices and some concerns about the housing market have tempered consumer spending,”  said Stuart Hoffman, chief economist at PNC Financial Group. “And I expect it to be a bit more cautious in this second half of the year.”

A continued slump in consumer spending could take the wind out of the sails of the economy, which has been picking up speed after barely moving ahead in the first three months of the year.  Economic growth, as measured by the gross domestic product, slowed to a dismal 0.7 percent rate in the first quarter, the weakest performance in more than four years.

The economy perked up smartly in the second quarter as businesses spent heavily to build up depleted inventories, according to analysts.

But that inventory build-up can’t last without continued demand from consumers, whose spending accounts for roughly 70 percent of U.S. economic activity.

The weak housing market and high energy costs are expected to continue to pressure consumer budgets for the rest of the year.

“The house price decline is going to get deeper in the second half of the year and become more meaningful,” said Hoffman.

But gasoline prices are likely to drop as the summer driving season winds down.

As long as employers continue to hire at a steady pace, spending should hold up, according to Andrew Wolf, who follows the retail sector at BB&T Capital Markets.

“Keep an eye on employment,” he said. “If unemployment starts to head up, that would probably really put the kibosh on retail. But at this juncture, it looks like a bottoming (in retail sales.)”

In one positive sign, consumer sentiment climbed by far more than expected to its highest level in six months due to a surging stock market and reluctant acceptance of high gasoline prices, according to the Reuters/University of Michigan Surveys of Consumers.

But while the jump in the index was impressive, it was coming off a 10-month low in June.

Friday’s weaker-than-expected retail sales report cast doubt on the strength of Thursday’s big stock market rally, which was fueled in part by investor enthusiasm over reports from individual retailers on their results for June. Better-than-expected results from Wal-Mart, the world’s largest retailer, helped the Dow Jones industrial average post its biggest one-day increase in more than four years.

Yet the market moved higher still on Friday, pushing further into record territory.

“I think the stock market can continue to go up between now and year-end,” said Hugh Johnson, chief investment officer at Johnson Illington Advisors. “But the steps that we're going to take are going to be smaller steps, not bigger steps.”

Reuters contributed to this report.


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