Strength raises rates concern Stock and bond prices plunge for second consecutive day


WASHINGTON -- The U.S. economy is roaring back from a midyear lull as new reports yesterday showed that consumer spending rose last month, manufacturing picked up steam and consumer confidence marched higher.

That combination was too strong for many investors, though, and U.S. stock and bond prices plunged for a second consecutive day. The concern is that the Federal Reserve will stomp on the brakes with higher interest rates to cool the economy it expected to slow in the second half of the year.

"It's the best of both worlds if you're a manufacturer, but it's the worst of all worlds for the Federal Reserve," said Hugh Johnson, chief investment officer at First Albany Bank in Albany, N.Y.

Orders placed with U.S. factories rose last month to the highest level on record, led by demand for electronics and industrial machinery, the Commerce Department said. The 1.8 percent increase for the month was double what analysts had expected.

And in another sign of strength, the Purchasing Management Association of Chicago said its overall index soared to 60.0 this month from 51.2 last month. An index reading higher than 50 means manufacturers reporting improved business outnumbered those reporting deteriorating conditions.

The robust factory outlook may be linked to expectations that American consumers will continue to pick up the pace of their consumption. Support for that notion came in a report yesterday from the University of Michigan showing that its final index of consumer sentiment for this month rose to 95.3 from 94.7 in July. It was the highest reading since January 1995.

For many investors, those signs of an economy powering ahead overshadowed an early morning Commerce Department report that showed consumer spending rose only 0.2 percent last month. That's an improvement from June's decline of 0.4 percent, but it's still only half the 0.4 percent average monthly increase for the first seven months of the year. Weak spending on autos and other big-ticket goods during the month restrained the size of the July spending increase.

National Association of Manufacturers President Jerry Jasinowski, who for months has been arguing against a Fed rate increase, said July's small spending rise leads him to conclude investors are overreacting. "The message is clear: The slowdown in the third quarter has already begun," he said. "With incomes slowing sharply and households facing heavy debt loads, consumers are likely to retrench."

Personal income, meanwhile, inched up just 0.1 percent in July -- the weakest showing since January and a big comedown from June's 0.9 percent increase and the 0.5 percent average for the first seven months of the year.

The benchmark 30-year Treasury bond fell a full point after the day's second wave of economic reports was released at 10 a.m. In late New York trading, the yield on the bond was up almost 8 basis points to 7.12 percent. Stocks also tumbled. The Dow Jones industrial average -- after slumping almost 60 points -- fell 31.44 points to close at 5616.21.

The government also said yesterday that disposable income, or the money left over after taxes, increased 0.1 percent in July, while the savings rate was unchanged from a month earlier at 5.3 percent.

Because it accounts for two-thirds of economic activity, consumer spending provides a key indicator of where the economy is going. Based on the findings of the last two months -- June's consumer spending decline turned out to be twice as large as the 0.2 percent loss originally estimated a month ago -- the message from yesterday's Commerce Department spending report was mixed.

Still, retail sales have increased since July's stall out, which analysts linked to people staying home to watch television coverage of the Olympics. And other recent economic indicators also suggest consumers "have both the will and the means to finance a moderate rebound in consumer spending," said Scott Brown, an economist at Raymond James & Associates in St. Petersburg, Fla.

For example, consumer confidence in the economy advanced to a six-year high this month, according to a monthly Conference Board survey of 5,000 households. New home sales are also rising.

Pub Date: 8/31/96

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