Lowest manufacturing output in more than ten years looms as a major economic concern

With the key September ISM manufacturing reading, known as the PMI, issued yesterday by the Institute for Supply Management (ISM) coming in at its lowest level in more than ten years, it stands to reason there is a fair amount of concern, as this index is followed closely by myriad supply chain stakeholders.

And that comes with good reason, too, considering that the when the PMI is at a healthy level, a reading of 50 or higher indicates growth is occurring and that things are on a healthy track.

But with sub-50 PMI readings in both August, at 49.1, and September, at 47.8 (which was the lowest reading since June 2009’s 46.3), manufacturing output has drifted off the healthy track it had been on for 35 consecutive months through June 2019.

In my monthly interview with Tim Fiore, ISM Manufacturing Business Survey Committee Chair, Fiore pulled no punches in explaining the recent declines and the main reason manufacturing is in its current situation.

“What has gotten us here is a steady decline in new orders,” he explained. “As a result of that, we are at overcapacity, which means we are not hiring people and are actually contracting. Production output is down compared to where it was three or four months ago, due to a lack of new orders.”

Compounding the drying up of new orders, which are commonly viewed as the engine that drives manufacturing, is that the level of backlog of orders has “pretty much gone away,” according to Fiore, which, in turn, has a negative impact on manufacturers’ ability to keep employment levels up. And, what’s more, that has led to what he called a “strangling of inventory,” as manufacturers are not making investments into inventory, at the moment, as they don’t want to be left holding the bag so to speak. 

Looking ahead, he explained this creates a difficult situation, in that it is unlikely any changes in interest rates will boost manufacturing output, nor will any type of quantitative easing belt-tightening moves.  

Instead, he placed many of the manufacturing sector’s woes on the current state of global trade.

“I think this is a trade issue,” he said. “Contrary to what the President thinks, it is a trade issue…I think the whole world thinks that, and he is the only one that does not want to acknowledge it. He blames these low numbers on Jay Powell.”

For those that may disagree with Fiore, consider that just yesterday the World Trade Organization (WTO) reduced its 2019 trade volume forecast to 1.2% from a previous 2.6% in April, and its 2020 forecast was downgraded from 3.0% to 2.7%, with the 2020 forecast contingent on a “return to more normal trade relations,” WTO said, something which clearly is far from certain.

As for the impact of a contracting manufacturing sector on the freight transportation sector, Ben Hartford, transportation analyst for Robert W. Baird & Co., observed in a research note that the pace of declines and weakness in recent PMI readings are notable.

Hartford explained that has been apparent in the form of below-seasonal industrial rail carload trends during the recently-completed third quarter has served as a “tell for continued sequential deterioration” in PMI readings. And he added that the September PMI reading is consistent with an industry environment in which fundamentals have not troughed.

The current manufacturing outlook is troubling on myriad levels, and it looks like that may remain the case, at least for the next little while. Yes, consumer spending remains decent for the most part, but with the trade situation remaining a major concern, as evidenced by how it is dinting manufacturing output, a key economic indicator, coupled with a pretty pedestrian 2.0 GDP reading, perhaps things are not as rosy as some people in high offices make them out to be. Manufacturing growth over 35 consecutive months tends to build confidence and economic momentum. We need to get back to that feeling soon without politics and partisan differences standing in the way.