Fellow Shortrunners,

     Greenspan and the rest of the Federal Open Market Committee will convene this coming Tuesday to set monetary policy.  A rash of weakness in economic indicators over the past few weeks has led many economists to suspect a rate cut at this week’s meeting.  Many of these suspicions are well placed.  Consumer confidence is plunging, industrial production is stagnant, and the financial markets are rather bearish.  Weakness in the dollar may help exports, but given the relative weakness of America's major trading partners, this effect is still likely to be mitigated by falling international demand.

     A recent escalation of the likelihood of a war without UN support puts pressure on the US, both diplomatically and monetarily.  For the Federal Reserve, it suggests that the FOMC will have much more on their plate than simple economic questions of supply, demand, inflation, and growth.  Indeed, cynics might well argue that it is times like this that should bring into question the relevancy of any formulaic monetary policy.  Arguments for following models such as the Taylor Rule, a simplistic model which seems to approximate monetary policy and which has helped push its creator John Taylor into line as a potential successor to Greenspan, seem less appealing in times of war.  Nonetheless, there is still good reason for the central bank to be wary of loosening monetary policy... inflation.

     There are a number of reasons to be worried about price pressure in the US.  The most clear is the obvious effect that rising oil prices are already having on the economy.  Wars in and of themselves are expensive, sucking up society's resources, forcing governments to spend more money, and crowding out private enterprise.  Even if no war takes place in Iraq, the mobilization of America's military forces to the region is not without its costs.  It looks likely that a US military build-up will occur over the coming years, which will be an added expense.

     Military conflict impacts the economy in more subtle indirect ways.  Arguably, just as important is the effect that war has on expectations.  Falling confidence levels among US businesses and consumers are taking a toll on the economy.  Similarly however, if a war induces inflation, even if the fundamental causes such as a rising oil prices are transitory, it can instill expectations in the minds of both firms and consumers.  Such expectations tend to become self-fulfilling.  As such, though monetary loosening may be called for given the weakening economy, Greenspan & Co. must be wary not to assume that inflation is simply a thing of the past.

Economic Releases
The data section provides charts and data for the most important economic indicators.

Wholesale Inventories: -0.2%
Release Date: 3/11

• Rising sales helped to push the inventory to sales ratio back down to 1.21 from 1.22.  At their current level, inventories are low enough to suggest good times for manufacturers as wholesalers are likely to look to restock.  January's decline of 0.2% in inventories is good news for the economy which had previously experienced a rise of 0.8% in December on slowing sales.

Trade Balance: -$41.42 Billion
Release Date: 3/12

• The US deficit on goods and services contracted sharply to $41.42 in January from a record high $45 billion in December.  It remains to be seen how strong an impact actual war, rather than just the specter of war, will have on foreign direct investment in the US and thus on the sustainability of such a large trade deficit.  A large factor swelling the trade deficit is the high price of oil imports.  Should oil come back down from recent highs, we could see further improvement in the deficit.

Jobless Claims: 420,000
Release Date: 3/13

• Jobless claims came in at 420,000 for the week, a drop of nearly 15,000 from the previous week.  Nonetheless, jobless claims are still running at a level considered by most economists to be consistent with labor market weakness.  Continuing claims, a gauge of more long-term unemployment, rose during the week, as did moving averages of initial claims.

Retail Sales: -1.6%
Release Date: 3/13

• February's retail sales declined 1.6%.  The decrease erased January's gains and then some.  Unlike most recent sales fluctuations, the decline in retail sales is alarming because it occurred in many sectors of the economy and not just in automobile sales which have been cooling over the past 6 months. 

Business Inventories: 0.2%
Release Date: 3/14

• The Commerce Department recorded an increase of 0.2% in US business inventories during January.  The rise in inventories came at a time of rising sales which helped to push the overall inventory to sales ratio down to a rather meager 1.36.

Industrial Production: 0.1%
Release Date: 3/14

• Industrial production showed little strength in February, rising 0.1%.  The Federal Reserve release was not significant enough to change the overall level of capacity utilization in the US which remained unchanged during the period at 75.6%.  Low capacity utilization will be a strong factor offsetting rising petroleum prices in preventing inflation.  It will likely also spell weak labor markets for the time being.

Producer Price Index: 1.0%
Release Date: 3/14

• The Bureau of Labor Statistics reported Friday that its Producer Price Index had risen for the second straight month, rising 1% this February after rising 1.6% in January.  Two sharp months of increase has raised some eyebrows, but it is not clear that price pressure is present in many other sectors of the economy.  Furthermore, the core index, which excludes food and energy prices (you can guess which of these has been rising rapidly recently), actually declined 0.5% during February, a clear signal that barring rising oil prices, inflation in the real production facilities is probably not present.

ECRI Weekly Leading Index: 118.9
Release Date: 3/16

• The ECRI Weekly Leading Index fell slightly last Friday.  Economists for the ECRI, attempting to gauge the impact of the current Middle East Crisis on the economy, suggested that the likelihood of another recession would be strongly related to the duration of any conflict in the region.  If the economy hopes to escape recession, the war, if it comes, better be a short one.

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Issue #144

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