Upside Surprise to U.S. Retail Sales Fails to Spur Optimism Among Economists

Monday's release of better-than-expected U.S. retail sales data for March did little to sway economists' views of deteriorating consumer spending and possibility a recessionary U.S. economy.

"U.S. retail sales were marginally above consensus forecasts in March (and February's figures were revised slightly higher), but the fact that the data beat the markets' low expectations should not distract from the bigger picture: consumer spending is already soft, and the slump in consumer confidence suggests it will weaken further," said Julian Jessop, chief international economist from Capital Economics.

U.S. retail sales rebounded in March according to a report from the Commerce Department, which showed a 0.2% month-over-month rise in sales following the previous month's revised 0.4% pullback. Economists had been expecting a flat reading. Prior to revisions, retail sales were down 0.6% in February.

Economists at Bear Stearns agreed with the negative outlook, writing in a note to clients that, "These data in no way affect our judgment that the economy slipped into recession in December, which is largely based on labor market related data."

Rob Carnell, chief U.S. economist at ING Financial wrote, "Whilst this release might be viewed as slightly more upbeat than expectations, with Easter falling at an unusually early time this year we have concerns about the accuracy of the seasonal adjustment right now."

He noted that what is really happening with consumer spending and retail sales may not be evident for another month of two. "But, taking our cues from indicators of consumer confidence, we believe that household spending is turning decisively down and will register growth of less than 1% in 1Q08," he said.

Excluding automobiles, retail sales rose 0.1% after shedding a revised 0.1% in February. The consensus was for a 0.1% month-over-month rise. Unrevised retail sales excluding autos fell 0.2% in February.

Meanwhile, retail sales excluding auto and gas showed no change compared to the previous month's 0.1% decline.

The report came as a surprise to economists who had regarded weakness in February as broad based. "Major chain store reports were generally quite weak, unit auto sales fell to a two and a half-year low, retail payrolls contracted again, and consumer confidence plunged," said Adrienne Warren from Scotia Capital. "Falling home prices, a stagnant job market, soaring gas prices and tighter credit conditions will keep U.S. consumers on the sidelines for some time."

Among the leading the gains were a 0.2% rebound in motor vehicles and parts following the previous month's 1.2% pullback and a 1.1% rebound in gasoline station sales, after February's 0.5% pullback. Food and beverage sales also posted a 0.4% increase following the previous month's unchanged reading.

Building materials fell 1.6% after falling 0.1% previously, and general merchandise fell 0.6% after rising 0.3% in February.

"This minimal gain in consumer spending will do little to prevent overall GDP growth from recording another flat reading in Q1 and does not augur well for preventing a decline in Q2 in the face of falling housing activity," said Paul Ferley, assistant chief economist RBC Capital Markets. "To ensure that negative GDP growth does not extend into the second half of the year, we expect that the Fed will continue to lower Fed funds by 50 basis points at the end of this month followed by another 25 basis points in June."

Markets nevertheless took the news positively with futures on the Dow Jones industrial average up 55 points to 12315 in the twenty minutes following the release, while two-year U.S. Treasury notes picked up 6 bps to 1.725% and 10-year notes up 3 bps to 3.455%. The US Dollar was relatively unchanged by the release.

By Erik Kevin Franco and edited by Stephen Huebl