Oil Prices Expected to Soar, Stifling US Growth

Last week, data showed that the United States is picking up slowly. However, there are still some areas of concern. The Beige Book reported moderate expansion with solid manufacturing but rising input costs because of inflation. Home sales and construction continued to decline; especially in Atlanta and Kansas City. As productivity increases with higher costs, businesses might hold back on hiring.

However, the unemployment rate dipped below its 9% range to 8.9%, its lowest level since April of 2009. ISM numbers increased to 59.7 in February from 59.4 in January; readings above 50 signal expansion. Initial jobless claims fell by 20,000 to 368,000 last week, the lowest since May 2008. Consumer confidence was also given a boost with personal income up from 0.4% to 1%. Personal spending and consumption remained flat at 0.8% and 0.1% respectively.

Its not yet time for cheers of a recovery. Construction spending fell to -0.7% from -1.6% Pending home sales are up from -3.2% to -2.8% but still not acceptable. The initial release of positive data caused investors to break free from the safety of US bonds as 10 year Treasury prices fell 16/32 to a yield of 3.531%

Fed Chairman Bernanke voiced concerns about the fiscal conditions on the state level. At the Citizen's Budget Commission's annual dinner event, Bernanke stated that the Fed will continue to monitor the municipal bond market closely, and that states need to stabilize revenue streams. This comes after several economists raise concern about the risk of state debt defaults. Meredith Whitney, and now Roubini Global Economics report that states face major issues in repaying debt and maintaining sustainable budgets. Defaults are likely to occur from small projects deemed unimportant, but will add up. States like Wisconsin are starting strict austerity measures by tackling unions and other forms of unsustainable spending. Like states, US manufacturers are set to experience the pains of high costs as oil is expected to continue to rise in the weeks ahead.

Oil and other commodities will continue to be the topic of discussion this week.US manufacturers will notice higher input costs, and struggle to gain foot.  Zerohedge reports that the United States is reviewing the option to tap into its strategic oil reserve to cool prices. However, at the same time China is looking to buy more oil to keep in reserve for their own future use as a hedge against high prices. Tricky situation for the US, but more confirmation that China's demand will continue to raise oil prices. With this in mind, a long position in the Canadian dollar will provide some speculative gains this week. 

Meanwhile, the European Central Bank kept key lending rates unchanged for the second straight month. ECB President Trichet expressed his worries about inflation and overheating in Germany and other Eurozone countries. "An increase in the next meeting is possible" he said. The ECB will probably not raise the key lending rate, but revert to some other light monetary tightening. This prediction is backed by the recent warnings by the IMF that the ECB should not pursue aggressive tightening. Employment and housing are still sluggish. There seems to be more concern about the periphery instead of the major countries at hurt. Mortgage holders will bear the brunt of a rate increases in countries such as Spain. Europe is in a similar position as the UK, which kept rates unchanged despite 4% inflation. They too should refrain from tightening. Expectations of a rate hike next month sent the euro and bond yields higher. 

This week is light on data releases, so oil will be in play. Also, New Zealand will make an interest rate decision. Analysts expect New Zealand to cut rates after hefty spending to recover from earthquake damages. There was also the fear of its credit rating to decrease as the country struggles to balance its fiscal position in the wake of the natural disaster. Overall, the economy is still growing like its sister country Australia. I predict rates to remain unchanged, but investors should be prepared for a rate cut. Either way, the Kiwi will continue a decline.