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Energy prices pumping inflation, reducing growth

WASHINGTON—Skyrocketing oil and gasoline prices are sending inflation shockwaves through the U.S. economy, driving consumer prices up sharply in July and slowing industrial output, two federal agencies reported Tuesday.

Consumer prices jumped 0.5 percent in July, the biggest monthly spike since April, according to the Labor Department. Soaring prices of crude oil drove them up, as its byproducts—fuels, asphalt, fertilizers, chemicals—all got more expensive. That, in turn, forces up the cost of everything from overnight package delivery to the manufacture of plant food.

Rising oil prices also are chilling industrial production, which grew just 0.1 percent in July, down from 0.8 percent in June, according to the Federal Reserve. High gas prices are slowing auto sales and thus auto production, which drove down the whole industrial index.

The new data confirm that inflation is a growing threat—the trend is worsening in August—but economists say it's not likely to sink the U.S. economy into recession.

It will curb growth, however. High oil and gas prices erode the purchasing power, and thus the confidence, of U.S. consumers. That's sure to slow growth and possibly hobble what's been a robust U.S. economy.

"Where we are today is definitely going to lead to a weaker economy ... (but) it's not sufficient to derail the economy," said William C. Dudley, chief economist for Goldman, Sachs & Co. in New York.

The U.S. economy has grown at an inflation-adjusted annual rate of 4.1 percent over the past eight quarters and would have grown more if oil prices hadn't started rising late last year. In fact, the U.S. and global economies have been growing so robustly because demand for oil is high and supplies are tight.

As high as today's fuel prices are—oil closed at $66.25 a barrel on Tuesday, as regular gasoline sold at $2.55 per gallon, on average—they're still below record levels when adjusted for inflation. Gasoline would have to hit $3.11 per gallon to match the inflation-adjusted peak set in 1981.

But fuel prices could rise higher and that could cause a recession.

"When I worry at night what could wreck the U.S. economy, it is what could happen in one of the foreign countries that supply oil to the United States," said Dudley. "I think the economy is at risk. ... So far the shocks haven't been big enough. It wouldn't take much of a shock to cause significantly higher oil prices."

A shock could come from many sources:

_U.S. intelligence points to terror threats in Saudi Arabia, the world's biggest oil producer.

_The oil industry in Russia, another giant supplier, is snarled in a government takeover of private companies.

_Venezuela, the fourth-largest U.S. supplier, threatened Sunday to break relations with Washington.

_The fifth-biggest supplier, Nigeria, is rife with civil unrest.

_It's hurricane season and U.S. oil wells in the Gulf of Mexico are at risk.

Such unstable factors add to the volatility of a market in which global oil production is barely sufficient to meet demand. Buyers fearing oil may be more expensive tomorrow bid up contract prices today guaranteeing future deliveries.

Tuesday's inflation figures show how high fuel prices are rippling across the economy.

"We're seeing it already. If you look at Wal-Mart's numbers and strip out the effect of grocery-store sales, there are signs of stress behind the scenes there," said James Glassman, senior policy strategist for J.P. Morgan & Co. in New York. "What many of us are concluding here is that ... because of what is going on with energy, we will probably see a much softer fourth quarter."

Wal-Mart, the nation's largest retailer, reported Tuesday that its second-quarter profit rose only 5.8 percent, the smallest rise in almost four years. It blamed rising utility and transportation costs—both oil-related.

Wal-Mart Chief Executive Officer Lee Scott acknowledged in a statement that high gasoline prices are eating into his customers' cash.

"I worry about the effect of higher oil prices," Scott said.

High gas prices hit the U.S. auto sector particularly hard, which put a drag on the nation's overall industrial production. Automotive output fell 2.9 percent in July, which "contributed heavily" to the broader index's plunge, the Federal Reserve said.

Stung at the pump, Americans are frowning on gas-guzzling SUVs and pickup trucks. That's forced car dealers to offer discounts; new-car prices fell by 1 percent in July.

That hurt dealer profits but helped keep a lid on core inflation—the rate when volatile fuel and food prices are stripped out. Core inflation rose only 0.1 percent in July, the Labor Department reported.

That trend "will be largely reversed when the promotion ends in September" and core inflation should grow, predicted Dean Baker, the co-director of the Center for Economic and Policy Research in Washington, a liberal think tank.

If crude oil prices remain above $60 a barrel, experts believe the pain will spread.

"High energy prices will have a depressing impact on petrochemicals, metals and other energy-intensive industries and will contribute to the deceleration of manufacturing production this year and next," said Daniel J. Meckstroth, the chief economist for the Manufacturer's Alliance/Mapi, a trade group in Arlington, Va.

If Americans spend more on gas, presumably they should spend less on other things, but so far there's not much evidence of that.

"The consumer reaction to higher gas prices has been somewhat puzzling. There is no doubt that high gas prices cut into consumer income, but ... consumers are still spending and retail sales are growing more than expected," said Ellen Tolley Davis, spokeswoman for the National Retail Federation.

In fact, rising fuel prices made only a tiny dent last month in the Consumer Confidence Index, published by the Conference Board, a nonprofit business research organization.

"Barring an unforeseen shock, we would expect consumer confidence to continue to hover around current levels, indicating continued economic growth," said Lynn Franco, director of the board's Consumer Research Center.

Strong employment figures boost consumer confidence more than high gas prices dent it, she said. Unemployment stood relatively low at 5 percent in July as payroll jobs grew by 207,000, the Labor Department reported earlier this month.

Stacey Stansbury, a stay-at-home mom shopping for groceries in the Maryland town of Upper Marlboro, sees no choice but to fill her Chevrolet Trailblazer.

"You still have to go places, you still have to run errands," she said. Even so, there are limits, she said: "It may affect things when it gets over the $3 mark."

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(c) 2005, Knight Ridder/Tribune Information Services.

PHOTO (from KRT Photo Service, 202-383-6099): ECONOMY

GRAPHICS (from KRT Graphics, 202-383-6064): CPI, GAS PRICES

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