A flood of data out Friday shows a post-hurricane economy that is holding up remarkably well despite an unfamiliar surge in inflation that is making consumers extremely nervous.
Consumer prices rose 1.2 percent last month in the wake of hurricanes Katrina and Rita – the biggest one-month increase in 25 years, as energy prices rose sharply for a third straight month. But even after excluding outsized spending on fuel and a decline in auto sales triggered by the end of popular incentives, retail sales rose an adjusted 0.6 percent last month, showing that consumers continue to spend freely even as they tell pollsters they are increasingly glum about the economy’s prospects.
“Even though consumers may be a little jittery, they haven’t stopped spending,” said Nariman Behravesh, chief economist of Global Insight.
The economic reports seen over the past several weeks have been heavily distorted by the hurricanes, and the economy still faces significant threats in the months ahead, especially if higher mortgage interest rates put overheated housing markets into a deep freeze.
“I think it’s too early to declare a recession and too early to declare you’re out of the woods,” said John Silvia, chief economist at Wachovia Corp.
But he and other analysts say the chances of a recession next year are remote, especially with the economy likely to get a boost from hurricane-related rebuilding efforts. At most, economists are looking for the economy to slow down but continue growing at a modest pace of perhaps a bit below 3 percent, compared with the 4 percent rate seen last year.
“It’s not great by any means, but it’s very far from a recession level,” said Joel Naroff of Naroff Economic Advisors.
On their surface, Friday’s economic reports were almost uniformly bleak. In addition to the spike in inflation, the government reported a disappointingly small increase in retail sales last month and a much bigger-than-expected drop in industrial production. Consumer sentiment, which plunged in September, has continued to weaken this month instead of bouncing back as expected, according to a closely watched University of Michigan survey.
The results reflect “the full brunt of the hurricanes on the economy,” said Mark Zandi, chief economist of Economy.com. “It was widely expected we would see some pretty ugly economic data for the month of September, and today is probably the worst of it.”
Financial markets took the news in stride, with stock prices rallying a bit, although they are still down about 4 percent over the past two weeks.
While the data remain a bit murky just six weeks after Katrina came ashore, Zandi said he is optimistic because businesses outside that devastated Gulf Coast region have continued to add to payrolls. About 438,000 workers have filed for unemployment benefits because of Katrina and its sister storm Rita, but jobless claims have remained steady elsewhere in the country.
Last week’s report that payrolls nationwide shed a smaller-than-expected 66,000 jobs in September was particularly encouraging, Zandi said.
“Businesses seem to be holding firm in their hiring plans, and as long as they do they will ultimately win the economic day,” he said.
Still, the ripple effect from higher energy prices remains a major threat. Crude oil and gasoline prices have been edging lower in recent weeks, but supplies are tight and prices easily could spike higher again, especially if there is another disruption.
Even at current levels, analysts are only expecting modest growth in retail sales for the upcoming holiday retail season.
Analysts say it is inevitable that some of the recent energy price increases filter through to the broader economy in the form of higher transportation costs, transit fares, heating bills and ultimately demands for bigger pay raises. Gasoline, heating oil, electricity and other forms of energy have risen so far this year at a 42.5 percent annual rate, according to the Bureau of Labor Statistics.
The so-called “core” rate of inflation -- excluding food and energy -- has remained stable at about 2 percent, but is already at the top of what Federal Reserve officials have described as their comfort level. So more Fed rate hikes are likely, beginning with a quarter-percentage point Nov. 1 and probably continuing into 2006.
The steady pressure from a rate-hike campaign that began in mid-2004 is beginning to bite, pushing long-term mortgage rates back up above 6 percent in the latest weekly survey from Freddie Mac.
On the one hand, higher long-term interest rates on the bond market make the Fed’s job of curbing inflation easier and may mean the central bank can call a halt to its rate-hike campaign a bit sooner than some analysts had predicted.
But if energy prices fuel higher-than-expected inflation, mortgage rates could go quickly to 7 percent, and “then we have real problems in the housing sector,” Naroff said.
He does not expect a housing crash outside of perhaps a few local markets, but he noted: “Clearly people have been spending an awful lot of money out of the equity they are earning in their houses. If they see that equity begin to disappear, they won’t be spending as much of it.”
Ethan Harris, chief U.S. economist of Lehman Bros., said Friday’s consumer sentiment figure was disappointing. “It’s a little bit troubling that you didn’t get at least a small rebound,” he said. “People are definitely in a foul mood.”
While other analysts say they are not troubled by the drop consumer sentiment, saying actual behavior is more important, Harris is not quite as confident.
“I think the truth is that consumer spending is in the process of slowing down, and we’ll see that as we continue through to the end of the year.”
But Behravesh of Global Insight predicted the negative impact of Katrina will prove temporary.
The good news is this economy still has a lot of momentum,” he said. “Katrina will have an impact just by virtue of the disruption it has created, but beyond that it doesn’t look like it’s going to have a huge negative impact on the economy.”