Inflation in check, reports indicate GPI, purchasing index please Wall Street and the White House

August 02, 1996|By Jay Hancock | Jay Hancock,SUN STAFF

As expected, the U.S. economy zipped forward in the second quarter, new government figures showed yesterday. As not expected, it apparently did it without kicking up inflation.

The news prompted euphoria on Wall Street and chest-thumping in the White House. The Dow Jones average of 30 industrial stocks soared 65.84 points, closing at 5,594.75.

Bond prices also boomed. The yield on the 30-year Treasury bill fell from 6.97 percent to 6.83, as investors bet that the Federal Reserve won't have to stifle inflation by raising interest rates this month.

"Strong growth and low inflation -- that's a very positive statement on the health of the economy, and indeed for the Federal Reserve," said Allen Sinai, chief economist at Lehman Brothers Global Economics. "There are no signs of any intensification of price inflation. Conclusion: There is no reason for the Fed to tighten on Aug. 20."

The gross domestic product swelled at an annual rate of 4.2 percent in the spring quarter, more than twice the 2 percent rate of the first quarter and the strongest growth in two years, the Commerce Department said in its initial estimate of April-June growth.

Much of the expansion came in spending by state and local government and in inventory rebuilding by business, the figures showed.

But the report's inflation dials stayed steady, quelling the fears of many who thought that robust expansion and low unemployment would boost costs. Inflation, which erodes financial investments and boosts interest rates, has been running 3 percent or less for several years. The inflation component of the GDP report showed prices rising at a 2.1 percent rate.

President Clinton, up for re-election in November, took credit, saying the report was "more evidence that our economy continues to surge ahead and that our economic strategy is working."

If the GDP figures weren't cheery enough for investors, another report yesterday reinforced recent indicators suggesting that the economy will cool off slightly for the rest of the year. That's good news for Wall Street, if true, because moderately slower growth would defuse price pressures while ensuring that the economy doesn't hit the tank.

The Purchasing Managers' Index fell to 50.2 from 54.3 in June, the National Association of Purchasing Management said yesterday. A level of more than 50 indicates growth and possibly rising prices, while a lesser one points to contraction.

Less than a year ago, the index was as low as 40.1, but "the important thing here is the direction," said Christine Chmura, chief economist for Crestar Financial Corp. in Richmond, Va. "There had been increasing pressures on prices, and they backed off in July."

Recent reports showing sluggishness in consumer spending and housing markets also lend weight to the slowdown theory. Many economists predict that the economy, as measured by GDP, will grow by about 2.5 percent for all of 1996, sharply off the second-quarter pace.

But analysts don't think that yesterday's data clinches the prediction.

"It shouldn't be taken as a sign that the economy has definitely taken a turn for slower growth," said David Orr, economist at First Union Corp. in Charlotte, N.C.

Much data, including some disclosed yesterday, still show strong economic activity, economists said. The Labor Department said yesterday that new claims for jobless benefits fell to 292,000 for the week ended July 27, from 321,000 the prior week. It was the lowest reading since Feb. 4, 1989 -- more than seven years.

"Whenever it gets under 300,000, that's an exceptionally strong labor market," Orr said.

Another picture of brisk hiring emerged yesterday from the Conference Board. The New York business research group said its index of help-wanted ads climbed to 85.0 in June, and that 88 percent of the newspapers measured sold space to a greater number of would-be employers.

But Wall Street yesterday was placing its faith and money on the Purchasing Managers' Index. The indicator is always closely watched, but investor attention was rendered more acute because Fed Chairman Alan Greenspan had publicly mentioned it last month as a key window on the economy.

Greenspan told Congress that he was monitoring the purchasing managers' reports on the speed of product deliveries. Quick deliveries suggest that factories have capacity and trucks to spare; slow ones mean that factories are reaching capacity and will have to spend money and boost prices to increase production.

Yesterday's report showed faster deliveries, which helped send bond investors off to the races.

Greenspan "told the lemmings what to look for, and they found it," Orr said.

If Orr sounds skeptical of the bond market's credence, he's not the only one. Many analysts believe that bonds were overbought yesterday, that the economy is still strong, that long-term rates sank too low and that they'll rise again soon. Maybe today.

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