Signs of Growth Spur Inflation Fear

Trade Deficit, Retail Sales Indicate Economic Vigor, But Markets See Down Side

MARY KISSEL / Wall Street Journal 15jun04

WASHINGTON -- A trade deficit wider than expected and strong retail sales signaled that the economy remains on a solid upward trajectory but prompted concerns in the markets that inflation is heating up.

The trade gap widened 3.6% to a record $48.3 billion in April, from March's $46.6 billion, according to the Commerce Department. The deficit reflected a decline in exports of $1.5 billion, while imports remained largely flat. The drop covered a broad range of exports, but a number of analysts dismissed it as a statistical aberration.

"Over the last year, exports were up 10%; over the last three months, exports rose almost 20% at an annual rate," says John Ryding, chief U.S. economist for the investment bank Bear Stearns. "The trend is unambiguously higher." The National Association of Manufacturers also dismissed the decline as "a one-time correction."

The widening trade deficit could put downward pressure on the dollar as investors lose confidence in the ability of the U.S. to repay its debts, boosting the prices of imports higher than they otherwise would be. But the deficit can also be a signal of economic strength. That is because the U.S. is growing more rapidly than other industrialized nation and absorbing more imports than its trading partners.

Retail sales, which grew at a 1.2% pace in May, compared with a 0.6% drop in April, was another signal of a strengthening U.S. economy. May's growth drew on a healthier job market and aggressive discounting at car dealerships looking to counter higher gasoline prices. Light-vehicle sales among the Big Three U.S. auto makers rose 14.6% in May compared with the month before, the National Automobile Dealers Association said.

Stocks fell yesterday as traders grew concerned that economic growth could propel inflation. The Dow Jones Industrial Average declined 75.37 points to 10334.73, while the Nasdaq Composite Index slid 29.88 to 1969.99.

On June 29 and 30, the Federal Open Market Committee is meeting to determine the direction of interest rates. The Fed is widely expected to start to raise rates from a 46-year low of 1% and has said it will move at a "measured" pace. If inflation is seen as growing threat, the Fed could set a half-point increment, rather than a quarter-point.

The persistence of the trade deficit has been something of a mystery, given the decline in the dollar's value during the past two years. That should make imports more expensive and discourage consumers in the U.S. from purchasing as many of them. The U.S. dollar has fallen 9.5% in trade-weighted terms -- a wide measure of its value versus world currencies -- from its peak in February 2002, according to J.P. Morgan.

But according to Mark Zandi, chief economist at consultancy Economy.com, the dollar would have to fall an additional 15% to 20% to affect U.S. exports significantly. Price changes may take a year or more to work through the economy, economists say. Moreover, higher prices for imported oil also have boosted imports.

The trade balance with China widened to $12 billion in April from $10.4 billion in the previous month.