Fed's Warsh inherits economy increasingly squeezed by inflation

By Ann Saphir and Howard Schneider

June 3 (Reuters) - Federal Reserve Chairman Kevin ‌Warsh inherits an economy riding an ​investment boom but ​showing signs of consumer strain, weak hiring and rising prices, according to reports from his colleagues that will frame his debut meeting in two weeks as the head of the U.S. central bank.

"Business outlooks for the next six months were reported to have little change in anticipated growth, as elevated uncertainty and signs of weakening consumer ‌spending weighed on sentiment," the Fed said on Wednesday in its latest "Beige Book" report.

It is a roundup of qualitative economic data from across the country ⁠that policymakers use to inform their understanding of the economy and policy decisions.

Across sectors, the report pointed to weakening consumer demand and rising cost pressures.

"Districts noted that energy-related costs tied to the conflict in the Middle East were the primary driver ‌of inflationary pressures, with spillovers into shipping, packaging, groceries, ‌and fertilizer," the report said.

With higher gas prices, consumers are shifting towards hybrid cars or buying fewer new cars altogether, it found. And fewer empty shipping containers are being exported as shippers hold them back due to expectations of weak domestic demand.

Higher energy costs have also increased fertilizer prices. New York apple growers anticipated a much smaller harvest later this year because fertilizer ​has become too expensive to use.

Manufacturing firms told the Richmond Fed that demand had weakened due to consumer caution, and one equipment producer in the plastics industry said its customers were delaying capital investments due to expected oil shortages.

In the West, tourism-related demand was solid for specific events like concerts and corporate gatherings, the San Francisco Fed said. But demand at "value-oriented venues" and regional ⁠destinations declined as consumers cut back on driving and weekend trips.

One contact told the Kansas City Fed that "middle-income households are squeezing more life out of every dollar before deciding to spend it."

In a bright spot, nine of the 12 regional banks cited the building ​of AI data centers as driving demand for investment as well as construction and manufacturing labor, even as they reported softness in other areas.

Reflecting the uneven landscape, Oxford Economics economist Nancy Vanden Houten said the Beige Book was "consistent with an economy that is feeling the strain of the US/Israel ​war with Iran as higher prices pinch low- and middle-income households, but it still has enough momentum to produce ‌GDP growth of about 2% this year."

SOME YOUNG WORKERS SEE HIRING SLOW

Warsh replaced Jerome Powell as Fed chief in late May just as many central bank policymakers were starting to get more nervous about inflation, which has reaccelerated in recent months, in part due to the U.S.-backed war with Iran. Inflation ⁠has been above the Fed's 2% target for more than five years.

The sense within the central bank, based on public comments from policymakers as well as the minutes from its April 28 to 29 meeting, has shifted away from a shared expectation for an interest rate cut later this year to a growing feeling that a long hold at the current rate setting, or even a hike in borrowing costs, may be in order.

Inflation by the Fed's ⁠targeted measure jumped to 3.8% in April from 3.5% in March, while the labor market, which looked to be faltering last year as the Fed cut rates in response, has appeared to stabilize. Economists polled by Reuters expect ​the unemployment rate to remain at 4.3% when the U.S. government releases its jobs report for May on Friday.

President Donald Trump picked Warsh on the explicit expectation that he would cut rates, but the president has backed off his demand that it be done immediately due to the recent surge in gasoline prices.

The accounts in the latest Beige Book may add weight to the arguments within the Fed against cutting the policy rate, which ‌has stayed in the 3.50%-3.75% range so far this year.

According to reports from several Fed districts, greater use of AI seems to have slowed hiring for early-career workers.

The Minneapolis Fed said a third of companies in its monthly survey increased prices in April from the prior month, and a "majority of ‌firms reported that their average non-labor input prices had increased by more than 2% in the previous two months, with a quarter reporting increases of more than 5%."

An employment agency in upstate New York "noted a surplus of entry-level ⁠workers on the market," while a technical staffing agency in the New York ‌City area reported "hiring processes had become extended, with candidates going ​through several months and multiple rounds of interviews before being hired," according to the New York Fed.

While several districts reported that defense-related activity and rising data center demand were supporting hiring in manufacturing, most regions continued to see a low-hire, low-fire environment with workers reluctant to change jobs.

(Reporting by Ann Saphir; Editing by Paul ‌Simao and Cynthia Osterman)

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