Inflation Numbers Surprise Markets Consumer Prices Rose By 0.7 Percent Last Month, The Biggest Monthly Gain Since September 1990.

Posted: May 15, 1999

WASHINGTON — Financial markets quaked yesterday when new government data showed that consumer prices soared in April, sparking fear that the Federal Reserve may raise interest rates soon to slow America's booming economy.

The Dow Jones industrial average of blue-chip stocks fell 193.87 points, or 1.75 percent, to 10,913.32. Broader stock-market indexes showed similar losses, with the S&P 500 dropping 29.76 points, or 2.18 percent, to 1,337.80. The Nasdaq Composite Index sank 54.14, or 2.10 percent, to 2,527.86.

Financial stocks led the decline. J.P. Morgan fell $5.813 to $140.938, and Citigroup lost $2.438 to $71. Charles Schwab Corp., the largest U.S. online broker, fell $7.625 to $109.375.

Consumer prices rocketed up by a surprising 0.7 percent in April, the biggest monthly gain since September 1990, the Bureau of Labor Statistics reported. While a 15 percent surge in gasoline prices explained about half the inflation index's jump, prices rose sharply as well across a broad range of goods and services, including apparel, housing, medical care and recreation.

Even the consumer price index's core-inflation measure - which excludes volatile energy and food prices - surged by 0.4 percent, twice as high as expected by analysts, who focus on that measure as the best indicator of broad inflation trends.

The price report marked a possible turning point for the U.S. economy, perhaps confirming long-simmering fears that the long economic boom surely must kindle inflation eventually. That could force the Fed to raise rates in response, which could lead to an economic slowdown, with falling profits and rising unemployment.

Only last week, Federal Reserve Chairman Alan Greenspan warned in a widely noted speech that inflation continued to threaten, although there had been no significant sign of it until yesterday. The Open Market Committee, the Fed's policymaking body, meets Tuesday.

For all that, when analyzed in detail, the consumer-price data were not as alarming as they first appeared, analysts said, adding that the Fed is unlikely to raise rates Tuesday in response. Some said, however, that the nation's central bank may hedge a bit by shifting policy from neutrality on interest rates toward a stance of "bias in favor" of tighter money if further evidence of inflation emerges.

"No, it is not as menacing as it appeared," said Gerald D. Cohen, senior economist with Merrill Lynch in New York. Prices in many sectors rebounded with unusual vigor in April only after months of unusual restraint, he said. Apparel prices rose 1.5 percent after declining every month since August, for example.

"We're getting a payback for very, very, very favorable data in the first quarter. We do not expect it to continue," Cohen said.

As for the Fed, the Merrill Lynch analyst said: "I don't think they are going to tighten. Whether they change the bias is a closer call. We believe they won't, but . . ."

Cynthia Latta, chief U.S. economist for Standard & Poor's DRI consultants in Lexington, Mass., agreed that the inflation numbers did not look so bad under scrutiny.

"When you look at the pieces, it's hard to find an underlying widespread problem going on in there," Latta said.

The driving force in lifting the core inflation rate was a 0.4 percent jump in housing costs, which account for 40 percent of the core index. But that is largely a bounce-back from subpar pricing in recent months. An identical 0.4 percent monthly jump in medical-care prices "is within the range of normal bouncing," Latta said. "So we're not ready to panic, and we think the Fed won't panic, either."

Energy prices are rebounding from historic lows because the Organization of Petroleum Exporting Countries, which is responsible for about 40 percent of global oil output, cut production last month to reduce a supply glut and increase prices.

Crude oil now sells for about $18 per barrel, or 42 gallons, up from about $12 last winter. But oil prices have dropped by about $1 a barrel over the last week, and prices for both retail gasoline and contracts for future delivery are dropping, too, suggesting they may have peaked even before the United States' heavy summer driving begins.

"A dollar-thirteen on average price per gallon is not going to make me sell my '70s muscle car," said Stephan Thurman, deputy chief economist for the U.S. Chamber of Commerce. Even with April's high numbers figured in, consumer-price inflation is running at only a 2.3 percent annual pace for 1999, which is well within the Fed's stated range of tolerance, Thurman noted.

One reason the Fed is unlikely to raise interest rates Tuesday is that private investors, spooked by inflation fears, have been pushing long-term rates higher in the bond market for the last couple of months. The 30-year Treasury bond, which paid only about 4.75 percent last fall, offered a yield of 5.91 percent yesterday.

A rising bond rate, which influences home-mortgage and other consumer-credit rates, could slow economic activity by itself.

"The bond market is doing a lot of the work for [the Fed]," said Cohen of Merrill Lynch.

The Fed is likely to wait to see whether subsequent economic reports signal that inflation is spreading, especially into wages, before it raises rates, analysts said. All measures of wage inflation continue to be surprisingly tame.

"I don't see suspense and drama over next Tuesday's [Fed] meeting," said Thurman of the U.S. Chamber of Commerce. "If we had a couple months of this, the Fed might jump in, but even if they are looking for a preemptive strike, I don't think it's going to happen yet."

* This article contains information from Bloomberg News.

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