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September 15, 1994
Things looked okay after a modest, .3% gain in Tuesday's Consumer Price Index. But today's reports on Industrial Production (up .9%, double the forecast) and Capacity Utilization rate (to 84.7% from 83.9%, versus expectations of unchanged) have done real damage.
The bond market mood on Monday was best described by the Dr. Johnsonism that nothing so thoroughly clears the mind as the prospect of one's own hanging (by the CPI on Tuesday). Tuesday brought the Churchillian sensation: nothing in life is as exhilarating as being shot at, and missed.
Today, they're attaching the rope to the scaffold, and testing the trap door.
Mortgage rates are still holding below the April highs, but the 30-year "long" Treasury bond yield is up to 7.78%, the highest in a couple of years. When one of these long term, persistent trading ranges breaks up, the new top in rates is, wellŠ.undefined.
The industrial production report demolished the notion that the economy is slowing down. Worse, a utilization rate near 85% says that production bottlenecks are no longer a possibility; they're here. Today's utilization rate is a five-year high, and that old high was an immediate precursor to a spike in interest rates and the last recession.
There remains only one barrier holding inflation back: wages. In the middle stages of an economic recovery, commodity and materials prices start to rise. That set of price rises started in January. Later in a recovery, wholesale prices for manufactured goods begin to rise. That event was announced for the first time in last week's producer price report.
The excitement doesn't really start until consumer prices begin to rise fast. Then inflation is here.
Why don't consumer prices rise with material and wholesale prices? In semi-circular fashion, consumer prices can't go up until consumers have the higher wages with which to pay higher prices, and consumer prices are largely made up of wages.
Roughly 70% of American business costs are wages. And, nearly 60% of the consumer price index consists of services, which are, by definition, all labor and no merchandise.
This overwhelming dominance of wages in the economy is the reason the bond market attaches so much importance to the monthly employment figures. The next jobs report is Friday, October 7, and the usual focus on "non-farm payrolls" is going to shift to the wage component (nobody except politicians pays attention to the unemployment rate).
Payrolls may hold to a reasonable, steady gain around 250,000. But if wages show growth, clear your mind.
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