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Saturday, April 15, 2000
Inflation Surge Casts a Shadow on Economy
Prices: Breadth of the latest consumer increases, covering almost all sectors, bodes ill for boom times.
By MARY WILLIAMS WALSH, Times Staff Writer
WASHINGTON--Friday's report of a sudden surge in inflation bodes ill for the nation's record economic boom, not so much for the magnitude of the increase as for its breadth.
For years, the economic expansion--which just two months ago became the longest in history--has defied predictions that price increases would surely follow such strong and sustained growth. Each time prices spurted, it could be blamed on isolated and temporary factors: the tobacco industry's legal woes, for example, or global oil production cuts.
But in March, the government reported, consumer prices increased in virtually every sector except motor vehicles and computers. The 0.7% month-to-month increase in the Consumer Price Index was the greatest in nearly a year.
More importantly, the "core rate" of inflation--which excludes the volatile food and energy sectors--jumped 0.4%, its biggest rise in five years and double the consensus prediction of independent economists.
Analysts found evidence in that figure that the much-hyped new economy is just as capable of inflation as the old economy was. Whether it spells the beginning of the end of the boom will depend on whether the trend lasts, and whether businesses and consumers respond to higher prices by trimming their sails.
If inflation indeed has seized hold of the economy, it means the landscape of seemingly endless prosperity has fundamentally shifted. It will raise costs and pressures for nearly every element of society: consumers, homeowners, renters, borrowers, entrepreneurs, corporations, pensioners and more.
"For the first time, there is evidence that inflation is spreading through the economy," said David M. Jones, chief economist at the New York bond firm of Aubrey G. Lanston & Co. "You're going to need several more months, but this is certainly a red flag."
Jones said the new data put the squeeze on the Federal Reserve, which has been trying to slow economic growth to noninflationary levels without cutting the expansion short. Some economists predicted the Fed would now have to jack up interest rates faster than its step-by-step approach of the past 10 months.
If the Fed accelerates its rate increases, it will risk not only triggering more huge sell-offs on Wall Street, but also crippling overextended borrowers, who took on a total of almost $2.5 trillion in new debt last year. Borrowers at risk include just about everybody: individuals; businesses large and small, smokestack and high-tech; municipalities, and even whole countries such as Russia.
"Where's the weak link? Nobody knows," said Maureen Allyn, chief economist at Scudder Kemper Investments. "I think that's why Fed Chairman Alan Greenspan has been going slow. But he can't stop tightening now, even if there is financial distress, because he'll lose credibility."
Not surprisingly, some of the biggest price increases for March appeared in oil-dependent sectors, where businesses have finally succeeded in passing on their rising costs to a resentful buying public.
The Labor Department's public transportation index rose a sharp 2.7%, for instance, driven largely by big increases in air fares. And gasoline prices posted their fastest monthly increase since April 1999, reaching levels 10.2% higher than at their last peak, just before the Persian Gulf War in November 1990.
But prices also rose in such diverse sectors as shelter--which includes rents, motel rooms and homeowners' costs--sports and recreation, child care and medical goods and services.
Some of these price increases could be blamed, at least in part, on the recent spike in oil prices; certain drugs use petroleum feedstocks, for example. But in other sectors, the culprit appears to be rising labor costs--one of the biggest sources of worry to inflation hawks, but a threat that, until now, had not shown up in any measurable way.
"In this report, there is some evidence that higher labor costs are pressuring the cost of everything from medical care to housing," said Sung Won Sohn, chief economist at Wells Fargo & Co. He cited in particular the 0.5% increase in medical-care services, driven by the rising wages of health professionals, and the likelihood that rising contractor and craftsmen's fees were behind the rise in housing costs.
"The best news on inflation is behind us," Sohn said. "Nobody is talking about the Consumer Price Index going to double digits, but the bottom has been reached."
Compounding economists' anxieties was the consumer price reports arrival just one day after a separate government report revealed that retail sales grew by a spectacular 15.8% annual rate in the first quarter.
"If that's not overheating, what is?" wondered David Off, chief economist at First Union Securities Inc. in Charlotte, N.C. The government also reported Friday that industrial output grew at a strong annual rate of 6.4% in the first quarter.
Even before the new inflation data were published, these and other signs of consumer exuberance had prompted private economic forecasters to revise their growth predictions upward. Friday's price data not only confirmed their hunches, but also convinced many of them that the Feds next rate increase would have to exceed the last five, each of them 0.25 percentage points, to have sufficient impact.
The question now is whether--and how--the Fed can safely do that when financial markets are so volatile.
Some forecasters said the chances are at least 50-50 that the Fed's policy-making Open Market Committee will raise interest rates by a half a percentage point when it meets next meets on may 16.
Others said the Fed might stick to quarter-point increases but continue them into the fall rather than stopping in mid-summer. And some suggested that the Fed would raise rates both faster and longer.
"Its Greenspan's worst nightmare, in that there isn't any excuse to go gradually any more," said economist Allyn. "He has to tighten."
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