Food and energy costs jump (L.A. Times)

Prices at the wholesale level rise 1% in January as home values continue to fall in most areas of the U.S.

By Tom Petruno and Maura Reynolds

Americans' confidence is withering amid a toxic combination of surging food and energy costs and falling home values.

That troublesome mix also may make it more difficult for policymakers to rescue the ailing economy.

The government on Tuesday said its main measure of inflation at the wholesale level jumped 1% in January, lifting the 12-month increase to 7.4%, the highest rate in 26 years.

The ascent last month was fed by a 1.5% rise in energy prices and a 1.7% leap in food costs.

For consumers, the threat of having to shell out more for necessities comes as the value of their biggest asset -- their homes -- continues to fall in most areas of the country.

An index of U.S. home prices tumbled 8.9% in the fourth quarter from a year earlier, the worst decline in 20 years of record keeping, data firm Standard & Poor's said Tuesday. In the Los Angeles area, the decline was 13.7%.

"Consumers are getting squeezed on all sides," said Maria Fiorini Ramirez, head of economic consulting firm MFR Inc. in New York.

Little relief from inflation pressures appears in sight, in part because of still-robust demand in much of the world for many raw materials.

The price of crude oil shot up to a record high Tuesday, gaining $1.65 to $100.88 a barrel. Prices of two food staples, wheat and soybeans, also hit all-time highs this week, threatening to filter through to the cost of bread and many packaged foods.

The latest jump in grain prices "is going to take a while to work its way through to the cereal box," Ramirez said. "But you know it's coming."

Analysts say the double-barreled hit to Americans' pocketbooks and net worth was reflected in a monthly index of consumer confidence released Tuesday, which fell to a five-year low.

The index, based on a survey of 5,000 households, showed a particularly steep drop in people's expectations for the economy over the next six months, said Lynn Franco, director of consumer research for the Conference Board, a business group that maintains the index.

That shift in sentiment risks making a sharp economic pullback a self-fulfilling prophecy.

"With so few consumers expecting conditions to turn around in the months ahead, the outlook for the economy continues to worsen and the risk of a recession continues to increase," Franco said.

The economy and financial system have been reeling since late summer amid rocketing mortgage delinquencies and plummeting home values.

As the picture has turned significantly worse since December the Federal Reserve has slashed short-term interest rates, cutting its benchmark rate from 4.25% in mid-December to 3% in an effort to stimulate the economy.

Wall Street -- which rallied modestly Tuesday despite the downbeat economic news -- widely expects the Fed to cut its rate again, to 2.5%, when policymakers meet March 18.

But the increasingly worrisome inflation data complicate the Fed's ability to respond, experts say. Normally when inflation is rising the Fed is tightening credit, not easing it, to slow the economy and beat back price pressures.

The wholesale inflation report for January followed a disturbing report last week on consumer price inflation for the same month. The latter showed prices overall up 0.4% for the month and up 4.3% from a year earlier.

The government's wholesale inflation index measures price changes of goods in the pipeline before they reach retail shelves. So the January data could foretell more upward pressure on the prices Americans pay at the store.

Even excluding food and energy, the so-called core index of wholesale prices for finished goods rose 0.4% in January, twice what analysts had expected. But it was up a relatively restrained 2.3% from January 2007.

The risk now: If policymakers allow inflation to pick up speed, they could face a much tougher time bringing it down again.

"The danger is that inflation expectations will become unhinged," said Kenneth Beauchemin, an economist with Global Insight, a forecasting firm in Lexington, Mass. "That will make the Fed's job a lot tougher."

Yet with recession threatening, many analysts say the central bank must continue to focus on bolstering the economy and put inflation concerns on the back burner.

"They'll worry about that later," said Milton Ezrati, economist at investment firm Lord, Abbett & Co.

On Tuesday, Fed Vice Chairman Donald L. Kohn said in a speech in North Carolina that the risk of a worsening economy was a "greater threat" than inflation.

For consumers, that may mean more sticker shock at the gas pump and grocery store in the near term.

In part, the rise of developing economies such as China and India is stoking inflation pressures worldwide.

Vigorous economic growth abroad is lifting foreign consumers' wealth and spending power. That is translating into greater demand for food, in particular for meat -- which in turn drives up demand for grain to feed livestock.

The cost of a bushel of soybeans rocketed above $14 this month, up from $10 in October and $8 a year ago.

Wheat now costs nearly $12 a bushel, up from $9 at the start of the year.

Bad weather in some crop-producing nations has reduced grain supplies at a time of strong demand. The U.S. Department of Agriculture estimated this month that global wheat inventories would fall to 30-year lows this year.

Another factor helping to drive up commodity costs: investors flooding into futures markets hoping to cash in on a sustained rise.

"There is clearly a speculative element in the market" for commodities, said William O'Neill, an expert on the markets at Logic Advisors in Upper Saddle River, N.J.

That raises the possibility that commodity markets are experiencing a bubble that is bound to pop as the economy weakens, driving down prices when it does.

"Recessions are inflation killers," said Thomas Higgins, economist at investment firm Payden & Rygel in Los Angeles.

But at least for now, even though raw materials generally account for a small percentage of the retail prices of goods, the bite they are taking is becoming more noticeable.

Kraft Foods Inc., maker of Nabisco crackers and Maxwell House coffee, said last week that it was facing "unprecedented input costs" and had "redoubled efforts to reduce overhead and other costs."

The potential for a further jump in consumer prices even as the economy weakens has raised the specter of a repeat of the "stagflation" of the 1970s -- a stagnant economy bedeviled by surging prices.

But many analysts note that inflation remains far below the worst levels of the 1970s. Wholesale prices, for example, were rising at an annualized rate exceeding 12% in the mid-'70s and again in 1979-80.

"The inflation numbers aren't good," said Joseph LaVorgna, chief U.S. economist at Deutsche Bank Securities in New York, "but it's not the 1970s."