Wall Street had grown hopeful that the Federal Reserve would soon end its interest rate hikes, but a mix of economic data in recent days have prompted a sharp stock sell-off. The Dow has shed 437 points over the past five trading sessions, including a 214 point tumble on Wednesday, CBS News correspondent Susan McGinnis reports.
With the latest inflation report showing an upswing in consumer prices, it remains to be seen whether the Fed will keep lifting interest rates to prevent the economy from speeding off.
Investors had become increasingly optimistic that the Fed had boosted short-term lending rates enough to contain inflation and prevent economic growth from accelerating. That confidence fueled a 2006 rally which last week carried the Dow Jones industrial average to within 13 points of its best-ever close from January 2000.
But those hopes came crashing down last week after the Fed signaled that inflationary pressure from record oil and metal prices continues to be a problem and could require further rate hikes. The central bank has boosted interest rates 16 times since June 2004, aiming to cap escalating prices.
On Wednesday, the Labor Department's consumer price index confirmed some of Wall Street's worst fears. Core prices rose more than economists had predicted, which came as a sign that soaring oil prices have begun to affect other parts of the economy.
Lou Dobbs, host of CNN's "Lou Dobbs Tonight" told CBS News' The Early Show that the consumer price index rose higher due to "primarily energy prices."
"We're starting to see some great concern about what's happening to working men and women and their families in this country because their disposable income, which has been limited by stagnant real wages for years now, is now being well seriously crunched by some higher energy prices and higher cost of living for things that we all need like food, and energy," Dobbs said on The Early Show.
The inflation scare sent investors in industries - including energy to pharmaceuticals to home builders to internet firms - running for cover as the Dow tumbled 214 points, its biggest one-day loss in more than three years, which followed a 261-point drop toward the end of last week, McGinnis reports. The Nasdaq composite index also turned negative for the first time in 2006.
"What we're seeing is a correction in the market, the Dow had run up, and that had been with a series of rising risk factors accompanying that," said Scott Fullman, chief investment strategist for Hapoalim Securities. "You're seeing the market correcting because of this negative news and a lack of buyers coming in."
The Dow on Wednesday sank 214.28, or 1.88 percent, to 11,205.61, a one-month low. The Dow slid as much as 245.51 points during the day and logged its biggest single-session slide since falling 307 points on March 24, 2003.
The Standard & Poor's 500 index lost 21.76, or 1.68 percent, to 1,270.32, its lowest since finishing at 1,262.86 on Feb. 13; the Nasdaq fell 33.33, or 1.5 percent, to 2,195.80, showing a loss for the first time in 2006.
Some analysts are saying that higher interest rates are inevitable given the global economy's strength. Oil sits near a record $75 a barrel, gold is trading at 25-year highs and the dollar continues losing ground to the Japanese yen. More volatility is expected in the near term as investors reposition their holdings.
The global market also reacted to the overnight plunge on Wall Street. Asian stocks tumbled Thursday as expectations of higher U.S. interest rates sent jitters through the region's markets.
India's benchmark index plummeted 6.8 percent, Indonesian stocks fell 4.2 percent, and Australia's market had its biggest one-day drop since October.
In Japan, the region's biggest bourse, shares declined for the seventh time in eight days, dragged down by auto and electronics issues. The Nikkei 225 index shed 220.49 points, or 1.35 percent, to finish at 16,087.18 points on the Tokyo Stock Exchange, the lowest close since March 9.
Philippine shares tumbled to a two-week low Thursday as investors unloaded stocks. The 30-company Philippine Stock Exchange Index plunged 84.83 points, or 3.4 percent, to 2,378.74, its lowest close since May 3. The index was up 0.1 percent Wednesday.
The drop was triggered by concerns that an increase in consumer prices meant more U.S. interest rate hikes could slow economic growth and demand for Asia's exports.
"We were obviously spooked by the 200-point drop on Wall Street due to inflation fears," said Erwin Balita, analyst at AB Capital Securities. "We moved in step with the region."
But Ken Tower, chief market strategist for Schwab's CyberTrader, said Wall Street could bounce back after several sessions of steep losses.
"So the question now really is where can we find some support?" Tower said.
Investors may have gotten ahead of themselves before last week's Fed meeting. Many were betting that the central bank would pause its rate hikes to assess the impact of prior increases.
The Fed raised the key short-term interest rate to 5 percent and gave itself flexibility to temporarily stop the increases. However, the central bank cautioned that soaring commodities prices posed a threat to inflation and could warrant more rate tightening. Tuesday's producer price index and Wednesday's CPI report reinforced that warning.
"This is the second straight month that core CPI was above expectations," Tower said. "There is a fear out there that inflation is beginning to catch hold, and that it will prevent the Fed from ceasing its interest rate hikes. That will eventually hurt the economy."
Still, the market remains largely split on whether the Fed will increase short-term lending rates by another quarter percentage point when policymakers meet on June 29, said Gregory Miller, SunTrust Banks' chief economist.
Meanwhile, the dollar is steadily weakening against the Japanese yen; its retreat could propel inflation since more of the U.S. currency will be needed to purchase foreign-made goods.