U.S. Economy: Housing Slump Fails to Quell Inflation (Update3)

By Courtney Schlisserman and Bob Willis


Feb. 20 (Bloomberg) -- The two-year housing slump pushing the U.S. economy toward a recession hasn't alleviated inflation pressures, reports today showed.

Consumer prices rose 0.4 percent from December, with costs excluding food and energy climbing 0.3 percent, the most since June 2006, the Labor Department said. Builders started work on 1.012 million homes at an annual rate in January, close to a 16- year low, the Commerce Department reported in Washington.

The figures mean Federal Reserve Chairman Ben S. Bernanke will need to consider raising interest rates as soon as the economy stabilizes. Bernanke, who last week said the Fed is prepared to keep lowering interest rates, warned that faster inflation would ``greatly complicate'' the central bank's job.

``What this means is that they don't have as much comfort to play with rates,'' Ellen Zentner, an economist at Bank of Tokyo-Mitsubishi UFJ Ltd. in New York, said on Bloomberg Television, referring to Fed officials. ``Once the U.S. economy looks like it's started to stabilize, they're going to have to jump right back in to that, raising rates back up to neutral.''

Treasury securities slumped after the consumer price report, while recouping most of the losses later. Ten-year note yields were down at 3.888 percent at 4:23 p.m. in New York from 3.90 percent late yesterday. The Standard & Poor's 500 stock index rose 0.8 percent, to 1,360.03.

Lowest Since 1991

Building permits, an indication of future construction, fell 3 percent to a 1.048 million rate, the lowest level since November 1991, today's Commerce report showed.

Housing starts were projected to rise to a 1.01 million pace from an originally reported 1.006 million rate in December, according to the median forecast in a Bloomberg survey of 72 economists. Permits were forecast to drop to a 1.05 million rate, from 1.068 million in December.

``We don't think housing has hit bottom yet,'' said Douglas Porter, deputy chief economist at BMO Capital Markets in Toronto. ``Until we get some stabilization in sales or even a mild improvement, it's likely that construction will continue to weaken.''

A jump in food and energy costs, rents and clothing prices led the consumer-price index higher last month. Economists had forecast a 0.3 percent increase, with the so-called core rate gaining 0.2 percent, Bloomberg surveys showed.

Today's price report ``certainly showed a broad-based intensification of inflation pressures,'' said Dean Maki, chief U.S. economist at Barclays Capital Inc. in New York. While the Fed currently ``is looking at growth,'' inflation ``will come back on the radar screen'' when economic data improve, he said.

Food Costs

Food prices, which account for about one-seventh of the CPI, rose 0.7 percent, matching the biggest gain since May 2004, after a 0.1 percent increase in December. Energy prices last month increased 0.7 percent, after rising 1.7 percent the previous month.

``Even if energy prices remain flat, the continued rise in retail food prices will damp consumer spending growth,'' JPMorgan Chase & Co. economists wrote in a note to clients last week.

Fuel costs were up 4.5 percent. Apparel prices rose 0.4 percent after a 0.1 percent increase in December.

The consumer price index is the government's broadest gauge of costs for goods and services. Almost 60 percent of the CPI covers prices that consumers pay for services ranging from medical visits to airline fares and movie tickets.

Bond Yields

Some bond investors are concerned that the Fed's interest- rate cuts, totaling 2.25 percentage points since September, threaten to stoke inflation. The reductions came at a time of rising energy and commodity costs, and a falling U.S. dollar.

``The trend is showing elevated levels of inflation above where the Fed would like it to be,'' said Don Alexander, director of fixed income in New York at Citigroup Global Wealth Management, which oversees about $1.3 trillion in assets. ``You're not rewarded for taking the risk of'' investing in longer-dated Treasuries, he said.

A measure of price expectations derived from the gap in yields between 10-year notes and 10-year Treasuries linked to inflation rose as high as 2.39 percent today, the highest since November, from a low of 2.20 percent last month.

Still, Fed Chairman Ben S. Bernanke and other officials this month indicated that price expectations have yet to reach a level triggering their concern. The Fed chief told lawmakers Feb. 14 that ``inflation expectations appear to have remained reasonably well anchored.''

Meeting Minutes

Fed policy makers last month judged that low interest rates ``were appropriate for a time,'' according to minutes of the Jan. 9 and 21 conference calls and Jan. 29-30 meeting reported today. And, while some officials considered that a reversal of the rate cuts may be needed once the economy stabilizes, ``members agreed that inflation was likely to moderate in coming quarters.''

The Fed also lowered its growth forecast and boosted its expectations for the pace of increase in consumer prices. It now expects the economy to expand 1.3 percent to 2 percent in the fourth quarter from the same period a year before, compared with 1.8 percent to 2.5 percent projected in October. Consumer prices will rise 2.1 percent to 2.4 percent compared with 1.8 percent to 2.1 percent.

Rate Cuts

Citing a worsening economic outlook, the central bank last month lowered its benchmark interest rate by 1.25 percentage point during two meetings, the fastest rate reduction since the federal funds rate became the main policy tool around 1990.

Compared with a year earlier, consumer prices rose 4.3 percent, after a 4.1 percent gain in December. The core rate was up 2.5 percent from January 2007, the biggest jump since March 2007, compared with a 2.4 percent increase the previous month.

Rents, which make up almost 40 percent of the core CPI, rose 0.3 percent.

Slower economic growth may help damp price pressures.

Economic growth slowed to a 0.6 percent pace in the fourth quarter and the economy lost jobs in January for the first time in more than four years, according to government figures.

Wal-Mart Stores Inc., the world's largest retailer, said yesterday that fourth-quarter profit rose more than analysts had forecast after it stepped up U.S. holiday discounts and boosted sales in Asia and Latin America. Before the holiday season the company made price cuts on 20 percent more items. Last month, it marked down groceries, medicine, fitness equipment and electronics as much as 30 percent.

The government said Feb. 15 that prices of goods imported into the U.S. jumped 1.7 percent in January, pushed up by higher costs for energy and food. The producer price index is scheduled to be released Feb. 26.

PPI and CPI have some differences in timing that may cause discrepancies. In calculating wholesale prices, the government asks survey participants to report costs as of the Tuesday of the week that includes the 13th. Consumer prices are based on average costs over the entire month.