October 2006

The National Economy: Slower Growth, Moderating Inflationary Pressure

The latest economic data point to further slowing in U.S. economic growth, along with a moderation of inflationary pressures.

Economic Growth Slowed in the Second Quarter
Second-quarter GDP growth was revised down to 2.6 percent from the Bureau of Economic Analysis preliminary estimate of 2.9 percent. Inventories and residential investment were revised down, the latter having shaved 0.7 percentage point off second quarter growth. Imports of services were also revised up (Chart 1).

The U.S. Housing Market Slumps Further
The U.S. housing sector continues to weaken. Private residential construction fell 1.5 percent in August, marking the fifth straight monthly decline. Both housing starts and permits fell in August, and permits continued to drop in September. Housing starts and permits are now 18 and 28 percent, respectively. below year-ago levels. New and existing homes sales declined sharply from a year ago, and home prices were down significantly from a year ago.

Labor Market Remains Solid
Employment data for the month of September showed modest job growth, with nonfarm payroll employment up by 51,000 jobs. However, given the upward revisions to the prior two months, the monthly average over the past three months is 121,000 jobs, indicating that the labor market remains solid. The unemployment rate edged down 0.1 percentage point to 4.6 percent in September, and other indicators, such as initial jobless claims, also point to some tightness in the labor market.

Consumers Are Still Spending…
Consumers continue to spend. Retail sales excluding autos, gas and building materials rose by a strong 0.8 percent in September, up 7 percent from a year ago. Gains in real disposable income have been solid in the past few months. Consumer confidence strengthened in September and October, and consumers are still optimistic about economic outlook.

…and Business Investment Is Robust
Business investment is strong, boosted by low borrowing costs and high corporate profits. Orders and shipments for nondefense capital goods excluding aircraft both grew at an annual rate of about 8 percent over the past three months. Private nonresidential construction spending surged in August to levels 17 percent above those of a year ago.

Price Pressures Ease
The three-month pace of core consumer inflation has decelerated, suggesting that much of the run-up in inflation in the second quarter might be transitory rather than persistent (Chart 2). The core CPI rose 0.2 percent in September, marking the third straight month with a 0.2 percent increase. Energy prices are falling, and the core producer price index fell at 0.3 percent annual rate in the third quarter.

Looking forward, the weak housing sector and a flattening of housing wealth may restrain the economy; thus, real GDP will likely grow more slowly in the second half of this year before picking up in 2007. The recent decline in energy prices should continue to moderate upward inflationary pressures.

—Tau Wu