U.S. Manufacturing Cools as Residential Construction Warms Up
- The ISM Manufacturing Index for June fell to 49.7 percent, the first sub-50 reading since July 2009.
- Construction Spending for May increased by 0.9 percent, boosted by residential projects.
Ominously, the Institute of Supply Management’s purchasing managers’ index for manufacturing fell below 50 in June to 49.7 percent. This indicates a contraction in the manufacturing sector, for the first month since July 2009; essentially the first time since the Great Recession ended. Conventional wisdom says the PMI can fall into the mid-40s and the economy can still be in overall expansion. Indeed, the series dipped below 50 in 2002 and 2003, early in the last expansion cycle, and again in 2007 technically before the Great Recession (December 2007-June 2009) began. However, these are not conventional times. The rule of thumb that states that a manufacturing PMI in the range of 44-50 percent is still consistent with an overall expanding economy requires that there is enough strength in the nonmanufacturing economy to overcome the drag from manufacturing. That strength is not apparent in the government sector which has shrunk in every quarter since the end of 2010. The resources and mining sector is not big enough by itself to drive the economy forward, and energy prices are weak anyway so we need to net out mining. This leaves the private service sector plus private construction as the necessary engines of growth. To get a bead on that part of the economy, we can look at monthly payroll job growth in the private service sector plus construction. That broad sector of the economy added 217,000 jobs in February, 105,000 in March, 78,000 in April and 69,000 in May; positive numbers, but clearly a decelerating trend. What all these numbers add up to is an economy that is back on its heels, still expanding but uncomfortably close to stall speed as the drag from Europe worsens, as drilling activity may be peaking due to falling prices, as Asia cools, and as the Fiscal Cliff of early 2013 looms ever closer. In this environment a sub-50 MF-PMI should not be shrugged off.
One of the bright spots in this otherwise gloomy analysis is residential construction. Total construction spending in May increased by 0.9 percent, boosted by gains in private residential activity. Private residential construction spending gained 3.0 percent in May, and was up 13.1 percent from May 2011. Given strong housing permits numbers for May we can expect private residential construction spending to continue to increase through the summer. Total public construction fell by 0.4 percent in May and is down by 3.9 percent from a year earlier. Given the wind down in fiscal stimulus spending, we can expect more losses in public construction spending over the summer.
Market Reaction: U.S. equities markets dipped on the ISM data. Treasury yields are down. Oil is down to $82.81/barrel. The dollar is down against the yen and up versus the euro.