Fed cuts short-term rates

As was widely expected, the Federal Reserve Board lowered short-term interest rates by 0.25% on Wednesday, to 4.50%. The rate cut was the centerpiece in a busy week of economic news. On the bright side, the U.S. economy expanded at a solid pace in the third quarter, the employment situation appeared healthy, and inflation was largely contained. Meanwhile, consumer confidence slipped, manufacturing growth slowed, and residential construction remained weak. Against this backdrop, crude oil prices touched record highs (near $95 per barrel) and the U.S. dollar hit record lows against the euro and the Canadian dollar. For the week, the S&P 500 Index fell 1.6% to 1,510 (for a year-to-date total return of 8.1%). The yield of the 10-year U.S. Treasury note fell 12 basis points, to 4.29%.

 

FOMC lowered interest rates by a quarter-point

The Federal Reserve Board's Open Market Committee (FOMC) voted Wednesday to lower the target for the federal funds rate by 0.25%, to 4.50%. The action followed a 0.50% rate cut in September. In the accompanying statement (which is carefully read by analysts), the FOMC suggested a more neutral stance regarding future rate cuts. Economic growth was solid in recent months and inflation has improved during the year, but the FOMC noted that growth will likely slow in the fourth quarter and energy prices could drive inflation higher. The committee said that after this rate cut, "the upside risks to inflation roughly balance the downside risks to growth." The next FOMC meeting is scheduled for December 11.

 

Unemployment rate unchanged

The unemployment rate for October held steady at 4.7% for the second straight month. Nonfarm payrolls increased by a surprising 166,000, led by gains in professional and business services, health care, and leisure and hospitality. The manufacturing and residential construction sectors posted job losses in October. Average hourly wages increased a modest 0.2% to $17.58, a pace that seems to pose limited inflationary threat.

 

Consumer confidence hit two-year low

Consumer confidence fell in October for the third consecutive month. The Conference Board's index of consumer confidence declined nearly 4 points to 95.6, the lowest level since October 2005. Consumers were concerned about their present situation, their expectations for the next six months, and the outlook for the job market.

Third-quarter economic growth exceeded expectations

Real gross domestic product (GDP) increased at an annual rate of 3.9% in the third quarter, far surpassing consensus expectations. Strong consumer spending and exports were leading contributors. Meanwhile, continuing weakness in the housing sector and an increase in imports restrained overall GDP growth.

 

Employment Cost Index climbed at stable pace

Compensation costs for employers increased by a lower-than-expected 0.8% in the third quarter. This was viewed as good news for inflation. Both the wage and benefits components of the Employment Cost Index increased 0.8% for the period. The index has increased at roughly the same quarterly rate over the past year-and-a-half.

 

Construction spending ticked upward

Spending on construction projects increased 0.3% in September from August but decreased 0.8% from the year-ago level. The monthly increase was due in part to strength in the government sector. Construction in the private sector remained weak. Outlays on private residential construction decreased 16.8% from the same time last year.

 

Income held steady, spending growth slowed

Personal income increased 0.4% in September following a 0.4% rise in August. Personal spending increased 0.3% for the month, the slowest growth since June, suggesting that the slumping housing market has slowed—but not stalled—consumer spending. The personal savings rate edged slightly higher, to 0.9%.

 

Manufacturing activity cooled

Growth in the manufacturing sector slowed to its lowest level since March, according to the Institute for Supply Management (ISM). The ISM Index declined 1.1 points in October to 50.9. A reading below 50 indicates that manufacturing activity is contracting. In a statement, an ISM official said that it appears that "the slowdown in the financial, housing and transportation segments has spilled over into manufacturing."

 

Factory orders edged higher

Demand for manufactured goods rose 0.2% in September, driven by a 2.1% increase in orders for nondurable goods. A 1.7% decline in orders for durable goods offset overall gains. Inventory levels increased 0.6% to the highest level since 1992.

 

The economic week ahead

Economic reports on tap for next week include the ISM Non-Manufacturing Index (Monday), nonfarm productivity (Wednesday), consumer credit (Wednesday), and the U.S. trade balance (Friday).