U.S. Import Price Inflation Tame

With the euro rising, it is not surprising to see the EMU area’s trade surplus erode. But the sharpness in the July erosion and the spurt in imports is good news that makes that erosion look more like it is due to a rekindling for growth than to a loss in competitiveness. This report is not a clear sign of export prospects. Retail data from Germany on export orders and on industrial output has showed some weakening. The export picture does not revive those fears nor does it ease them. To be sure the German wise-man Bofinger already has been talking of the prospect of using foreign exchange intervention - a clear sign that someone is getting hurt by the strong euro. But this month’s EMU trade erosion looks more like it is due to the good news of improved growth as the balance erosion is mostly due to the spurt in imports. With the dangers of financial contagion lurking, this report is somewhat reassuring. That, of course, does not mean that the ECB will no longer be under pressure or that Sarkozy will stop complaining about ECB policy. But an economy on stronger footing will make the ECB’s decisions somewhat easier if this hint of strength proves to be lasting.

For more on the Empire State Manufacturing Survey, including methodologies and the latest report, click here.

The current account deficits in the three Baltic countries, Estonia, Latvia and Lithuania have sky rocketed in the last year or so. In the first quarter of this year, Lithuania reported that its current account deficit as a percent of Gross Domestic Product was 12%, For Estonia, the figure was 17% and for Latvia, 27%. The first chart shows the current account deficits as a percentage of GDP for the three countries.

All three countries have experienced high rates of growth largely as a result of increased consumption and residential investments. In all three countries, the net inflow of foreign funds has helped to finance this growth. Of some concern, however, is the predominance of "other investments". These inflows have exceeded the net inflow of both direct and portfolio investments in the last year or so as can be seen in the second, third and fourth charts. The net inflow of "other investments" more than doubled between 2005 and 2006 in Estonia and Latvia and almost doubled in Lithuania. "Other investments," which include, among other things, loans to banks and unaffiliated persons tend to be more short-term oriented and more volatile than either direct or portfolio investment. The fifth chart that shows short-term and long-term "other investment" liabilities for Estonia, the only one of the three countries that reports short and long "other investments".

The extraordinarily large deficits have led to a down grading of the ratings on the external debt of these countries. In addition, concerns are being raised regarding the safety of their currencies. Economic trends in these countries can be tracked in the Haver data base EMERGECW and daily changes in the foreign exchange rates can be tracked in the Haver data base INTDAILY. Later this month second quarter data on the balance of payments will be released.