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GDP slows, labor costs surge
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July 29, 1999: 12:54 p.m. ET
Employment cost index at highest rate in eight years; GDP growth slows
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NEW YORK (CNNfn) - U.S. economic growth slowed significantly in the second quarter, the government said Thursday, but a separate report showing employment costs rose at the highest rate in eight years rekindled fears among investors that the Federal Reserve may raise interest rates again.
Stocks and bonds both fell sharply on the news, apparently in reaction to the unexpectedly high employment cost index, which is said to be closely watched by Fed Chairman Alan Greenspan.
Gross domestic product rose 2.3 percent in the second quarter, down from 4.3 percent in the first quarter and sharply lower than a Reuters consensus estimate of 3.3 percent. GDP, reported by the Commerce Department, measures the value of all goods and services produced within the country.
The implicit price deflator, a key inflationary benchmark, rose 1.6 percent, matching estimates. It was the same rate as recorded in the prior quarter.
Meanwhile, the Labor Department's employment cost index rose 1.1 percent in the second quarter, compared to estimates of 0.8 percent by economists surveyed by Reuters and 0.4 percent posted in the first quarter.
The index measures wage and price increases over a three-month period. A sharp rise in the index, along with changes in other economic indicators, could trigger the Federal Reserve to raise interest rates to cool off a surging economy.
The report sparked immediate speculation that the labor data will encourage Fed policy makers to raise interest rates when they meet in late August. The central bank lifted short-term rates a quarter of a point last month and Greenspan has said he continues to hunt for any sign of inflationary pressures in the economy.
While the GDP growth "still portrays a fairly strong domestic demand," the employment data "is kind of a smoking gun of the current situation," said Neil Soss of Credit Suisse First Boston.
Not so ominous?
But while the labor data marks a sharp increase over the prior period -- the largest since a 1.2 percent gain in the second quarter of 1991 -- it is really only a pickup from an "unusually depressed" first quarter, said Richard Rippe, chief economist at Prudential Securities.
"While this is higher than expected, when you consider the context to me it doesn't look like it's that ominous of a sign," he said.
John Ryding, an economist at Bear Stearns, reiterated that view.
"I think that the first reaction that I have is you just have to use some common sense when you look at these numbers," he said. He said the Federal Reserve will be looking ahead to next week's unemployment report and other economic data for a fuller economic picture.
Also, noted economist David Resler of Nomura Securities, the spike in labor costs can be partly attributed to rising commission payments for workers in the surging finance, real estate and insurance sector -- not a sign of a pressured labor market but a healthy economy, he said. Compensation rose 3 percent in this division.
But the tightness of the booming labor market -- a potential problem if there is not enough of a labor pool to meet demand -- was reflected in weekly joblessness numbers. The Labor Department reported that the number of U.S. citizens filing for first-time unemployment benefits dipped 40,000 to 275,000 in the week ended July 24, compared with projections of 305,000.
A temporary slowdown?
The 2.3 percent GDP growth marked the lowest increase since a 1.8 percent gain in the second quarter of 1998. Consumer spending cooled to 4 percent growth, after a sizzling 6.7 percent jump in the first quarter. But analysts said growth is still robust.
Net exports -- or exports minus imports -- fell to a negative $323 billion compared to a minus $303.6 billion in the prior period. Businesses scaled back their inventory stockpiling, adding only $19.4 billion worth of goods compared to $38.7 billion in the prior quarter.
Analysts said that given this backdrop, they expect the slowdown in GDP growth to be only a short-term phenomenon.
"The sources of weakness probably are temporary," said Allen Sinai, chief economist at Primark Decision Economics. "The weakness belies some underlying strength because inventories were drawn down due to strong demand."
But the markets reacted to the reports bearishly. The benchmark 30-year U.S. Treasury dropped more than a point in price, down 1-2/32 for a yield of 6.09 percent. The Dow industrial average fell more than 160 points 10,810.28 by noon.
"We've got as much anxiety back into the markets as we had in May after the tightening," Ryding said, alluding to the bias adopted by the Federal Reserve that resulted in last months' rate hike.
-- from staff and wire reports
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