Monday, July 02, 2012

ISM Reports Slowdown in Manufacturing


Today's ISM report suggests that economic activity in the U.S. manufacturing sector contracted slightly in June, as the overall ISM manufacturing index (PMI) fell below 50 for the first time since July 2009 (see chart above).  However, the direction of both the "manufacturing production" and the "manufacturing employment" sub-indexes are still considered to be "growing" according to the ISM, although both are now listed as "slowing" for the "rate of change."  Based on today's report, growth in the overall economy (GDP) could be slowing to 2.4% this year based on May's PMI, but could be as high as 3.5% based on the PMI during the first half of the year. Here are some highlights:

"Manufacturing contracted in June as the PMI registered 49.7 percent, a decrease of 3.8 percentage points when compared to May's reading of 53.5 percent (see chart above). A reading above 50 percent indicates that the manufacturing economy is generally expanding; below 50 percent indicates that it is generally contracting.

A PMI in excess of 42.6 percent, over a period of time, generally indicates an expansion of the overall economy. Therefore, the June PMI indicates growth for the 37th consecutive month in the overall economy, but indicates contraction in the manufacturing sector for the first time since July 2009, when the PMI registered 49.2 percent.

ISM Chair Bradley Holcomb said, "The past relationship between the PMI and the overall economy indicates that the average PMI for January through June (53 percent) corresponds to a 3.5 percent increase in real gross domestic product (GDP). In addition, if the PMI for June (49.7 percent) is annualized, it corresponds to a 2.4 percent increase in real GDP annually."

36 Comments:

At 7/02/2012 9:38 AM, Blogger Jon Murphy said...

Bullshit. The PMI needs to be below 46.0 for it to actually be a "contraction." Anything else is "virtually even." Especially this number. No sign of a slowdown here. Although in just a few minutes, we'll be hearing the cries of recession.

 
At 7/02/2012 9:42 AM, Blogger Jon Murphy said...

Actually, reading into the report more, there aren't any terrible indicators. The most stark one is New Orders, but that was primed for a fall anyway.

PMI will bump back up next month.

 
At 7/02/2012 9:48 AM, Blogger seekingtraceevidence said...

Jon Murphy is dead on target. ISM is only good for calling economic turns at the bottom. It is not helpful for any other part of the economic cycle. The HWOL up 232,000 for June is a far better indicator of the economy: Link http://www.conference-board.org/data/helpwantedOnline.cfm

 
At 7/02/2012 9:50 AM, Blogger Jon Murphy said...

It is not helpful for any other part of the economic cycle.

Well, it does have its uses on other parts of the business cycle, but yes. What's more important is to understand what the report is actually saying.

 
At 7/02/2012 9:51 AM, Blogger Buddy R Pacifico said...

The one glaring sign of contraction to me is prices. The Index percentage change was -10.5%. The two month trend is "decreasing, faster" and is -24%.

Falling commodity prices account for most the decrease. Interestingly, natural gas and guar are bucking the price decrease trend.

Oh, and guar is a food additive thickening agent and a dieting aid to help the stomach feel full.

 
At 7/02/2012 9:56 AM, Blogger Jon Murphy said...

One other thing to bare in mind: the PMI is a leading economic indicator. It tends to lead US economic activity by 10-12 months. So, if we were to assume the PMI were to keep falling and eventually slip into the "recession zone," then the earliest this indicator would suggest a recession is mid-2013.

Although many people will treat this as a coincident economic indicator.

 
At 7/02/2012 10:33 AM, Blogger Unknown said...

In 1985, the manufacturing ISM was below 50 for 8 of 12 months. We hardly had a recession then.

Jon is correct. Especially given that May's new orders sub-index was a whopping 60, it would take at least a few months of sub-50 readings for me to get worried.

 
At 7/02/2012 10:52 AM, Blogger morganovich said...

jon-

new orders saw their biggest drop in a decade and went under 50.

what about that makes you think that PMI will "bump back up next month."

this is not an indicator i look at much and so i don't have a ton of experience with it, but when you see new orders drop that sharply, it tends to make one suspect that the next month will look weak.

what makes you think otherwise?

 
At 7/02/2012 10:56 AM, Blogger bart said...

"Interesting" how the PMI dropped below 50 in Dec 2007, the month the last recession started.

Cue the optimists or the crickets, or both.

 
At 7/02/2012 11:07 AM, Blogger rjs said...

i'll take the under on that GDP forecast...release date is the 27th...

 
At 7/02/2012 11:26 AM, Blogger Jon Murphy said...

Cue the optimists or the crickets, or both.

Eh, I've already said my piece :-P

 
At 7/02/2012 11:31 AM, Blogger morganovich said...

http://www.calculatedriskblog.com/2012/06/kansas-city-fed-growth-in-regional.html

the average of all the regional fed indexes went negative for june as well and has been dropping sharply since january.

there is certainly a great deal of evidence that the economy is slowing. making a recession call is going to depend entirely on what you use as a deflator.

if this were 1980, the last 3 q's would already have been called a recession based on these business conditions.

 
At 7/02/2012 12:11 PM, Blogger Jon Murphy said...

what about that makes you think that PMI will "bump back up next month."

The PMI is a monthly questionairre. It basically asks "compared to last month, how are things this month?" Given the really high levels of New Orders the previous 2 months (57.0 and 60.0, respectively) I would have been surprised if June's didn't contract. Prices have also been falling, especially gasoline. I suspect that much of that will reverse (at least, not contract further) in July's report.

 
At 7/02/2012 12:29 PM, Blogger Bill said...

I bet the folks at ECRI are happy about this number and will use it to support their call for a mid-2012 recession.

 
At 7/02/2012 12:54 PM, Blogger juandos said...

"The PMI needs to be below 46.0 for it to actually be a "contraction"...

Says who jm?

I'm curious as to your reasoning for your comment if you don't mind?

Note this press release or posting from the Institute for Supply Management, FOR RELEASE: July 2, 2012...

(Tempe, Arizona) — Economic activity in the manufacturing sector contracted in June for the first time since July 2009; however, the overall economy grew for the 37th consecutive month, say the nation's supply executives in the latest Manufacturing ISM Report On Business®.

jm in reading this posting I sort of agree with your thoughts that it isn't as bad as all that...

It would seem after reading this particular posting that this monthly contraction just might be a blip that would be typical over time...

 
At 7/02/2012 1:10 PM, Blogger Mark J. Perry said...

From the ISM report today:

"A PMI in excess of 42.6 percent, over a period of time, generally indicates an expansion of the overall economy."

 
At 7/02/2012 1:16 PM, Blogger Jon Murphy said...

I'm curious as to your reasoning for your comment if you don't mind?

Sure. When dealing with a diffusion index (which the PMI is), there is always wiggle room. Yes, anything below 50.0 is technically a contraction. However, due to statistical error, that number could be a reporting error, or a misplaced decimal, or whatever. There is a number with which that there becomes no doubt as to a contraction. For the PMI, that number is 47.0 (I made a mistake before saying it was 46.0. Sorry about that. Source).

 
At 7/02/2012 1:19 PM, Blogger Jon Murphy said...

Oh, just to avoid confusion: my comments are centered around contraction specifically in manufacturing. Dr. Perry's is discussing the economy as a whole.

 
At 7/02/2012 1:33 PM, Blogger morganovich said...

"Given the really high levels of New Orders the previous 2 months (57.0 and 60.0, respectively) I would have been surprised if June's didn't contract."

ok, but if those new oprders are predictive, why did the june PMI drop under 50 and continue a 5 month downtrend?

i can see orders taking a break after strength, but if they were solid, why would the actual index contract?

 
At 7/02/2012 1:39 PM, Blogger Bill said...

Although largely flat on a rolling 3 month average, I believe Capital Goods Orders ex. transportation are still ok and up year over year which do not suggest a recession.

 
At 7/02/2012 1:40 PM, Blogger morganovich said...

mark-

that lower pmi reading associated with growth seems odd to me.

also from the release today: "The PMI registered 49.7 percent, a decrease of 3.8 percentage points from May's reading of 53.5 percent, indicating contraction in the manufacturing sector for the first time since July 2009"

so why does manufacturing have to be so deep in contraction for the economy as a whole to contract?

i see the line in the release that you reference, i'm just trying to get a sense of why the relationship would be like that. it seems non-intuitive to me. sure, manufacturing is more volaitle than the economy as a whole, but was does anyhting above a pretty sharp contraction in manufacturing imply that the economy as a whole is growing?

i can see the relationship in the data, it just seems odd that you can have so much manufacturing contraction and still get growth in gdp, especially as you'd expect gdp reducing imports to take up the slack. (of course, this is what makes gdp such a strange indicator, but that's another issue entirely)

 
At 7/02/2012 1:42 PM, Blogger Jon Murphy said...

i can see orders taking a break after strength, but if they were solid, why would the actual index contract?

Prices also fell considerably. The Prices Index fell from 47.5 to 37.0. That's a decline of 10.5 percentage points! Between New Orders and Prices, we're talking a drop of 22.7 percentage points. Seeing as each component is weighed the same, those two drops had a significant influence in the PMI. I think that's why the PMI is reading virtually flat as opposed to expansion or contraction. And why it will bump back up next month. Drops of those kind are really an anomaly. Considering the activity in the consumer sector, I expect New Orders will start to rise again in the near term. Also, prices will likely start to rise again now that summer is here: increased demand for energy will mean higher natgas and oil prices. There are signs of China reaccelerating which could drive input prices higher.

 
At 7/02/2012 1:58 PM, Blogger morganovich said...

jon-

it looks to me like employment and imports were the things really holding it up.

inventories, deliveries, order backlog, and export were all in contraction.

that seems a bit worrying for july, but, again, i really do not use this indicator and do not have a lot of experience with how this flows through.

 
At 7/02/2012 1:59 PM, Blogger juandos said...

"However, due to statistical error, that number could be a reporting error, or a misplaced decimal, or whatever"...

Yeah, I wondered about that myself jm...

Thanks for the reply and the link...

Thank you too mark p...

 
At 7/02/2012 2:00 PM, Blogger bart said...

ISM employment is also down, for the 2nd month in a row and has been minus on a YoY change basis since last July.

 
At 7/02/2012 2:16 PM, Blogger Junkyard_hawg1985 said...

Looking at the historical data, it appears the ISM manufacturing index has correctly predicted 10 out of the last 5 recessions. A drop in the ISM index is a necessary, but not sufficient indicator for recessions.

 
At 7/02/2012 2:19 PM, Blogger Jon Murphy said...

inventories, deliveries, order backlog, and export were all in contraction.

True, but only "exports" is a new addition to that list. I'm not too sure exports' direction in the near term. It could go either way.

 
At 7/02/2012 2:24 PM, Blogger Jon Murphy said...

so why does manufacturing have to be so deep in contraction for the economy as a whole to contract?

Well, part of it is a statistical/survey error I mentioned earlier.

Another point is that think of what the index is saying: A reading of 50.0 says that half of the respondents say things were better, half say worse. If the index was, say 40.0, then 60% said things were worse and 40% said things were better. So, the idea is that if a 42.6 is recorded, then enough manufacturers reported worse conditions as to be indicative of a recession. This is based the fact that no recession has occurred unless the PMI has fallen below 42.6 for several months.

 
At 7/02/2012 2:26 PM, Blogger Junkyard_hawg1985 said...

The ISM manufacturing index has correctly identified 10 of the last 5 recessions. It is a necessary but not sufficient indicator for recessions.

 
At 7/02/2012 2:39 PM, Blogger bart said...

This comment has been removed by the author.

 
At 7/02/2012 2:41 PM, Blogger bart said...

This is based the fact that no recession has occurred unless the PMI has fallen below 42.6 for several months.


ooops, picked up NMI by mistake


The ISM readings the last 4 months before the recession that started in 12/2007:

50.0
50.9
51.5
49.0


The last 4 months before the recession starting in 3/01:



45.3
47.5
50.7
52.4

 
At 7/02/2012 2:49 PM, Blogger PeakTrader said...

Manufacturing shrinks, first time in nearly three years
Jul 2, 2012

"...fell to 49.7 from 53.5 the month before, missing expectations of 52.0.

A reading below 47 would be consistent with another recession.

The report is consistent with an economy that is growing at an annualized rate of a little below 1 percent after 1.9 percent growth in the first quarter."

 
At 7/02/2012 2:57 PM, Blogger bart said...

Repeating my prior post


The ISM readings the last 4 months before the recession that started in 12/2007:

50.0
50.9
51.5
49.0


The last 4 months before the recession starting in 3/01:



45.3
47.5
50.7
52.4

 
At 7/02/2012 6:59 PM, Blogger bart said...

The Last Time New Orders Collapsed Like This, It Was Right After 9-11

 
At 7/04/2012 9:59 AM, Blogger VangelV said...

Bullshit. The PMI needs to be below 46.0 for it to actually be a "contraction." Anything else is "virtually even." Especially this number. No sign of a slowdown here. Although in just a few minutes, we'll be hearing the cries of recession.

First, all of the numbers are suspect so let us not worry about this. Second, you are missing the much bigger picture here. The problems that face the US are many. The states and municipalities are bankrupt. Businesses face rising costs in the form of Obamacare. Unemployment rates are high and workers are losing their skill sets as they sit idle for long periods of time. Government spending is out of hand and with both parties favouring deficits for decades there is little hope of the more than $100 trillion of liabilities being paid off in the absence of a massive devaluation.

There is a big crisis coming. The fact that the optimists cannot see it is an indication of their failure to understand economics, not a case to be optimistic.

 
At 7/04/2012 10:16 AM, Blogger bart said...

The fact that the optimists cannot see it is an indication of their failure to understand economics, not a case to be optimistic.

+1

 

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