Growing Reasons for U.S. Manufacturing Optimism

by Cliff Waldman, Chief Economist

In spite of the modest drop in the Institute for Supply Management’s (ISM) widely-followed Purchasing Managers’ Index (PMI), U.S. manufacturing growth remains on a path of considerable improvement. After reaching 57.8% in June, more than 3 percentage points above the current 12-month average, the PMI slipped by 1.5 percentage points in July to a still strong 56.3%. Key survey indices such as new orders, production, and the backlog of orders remain in solid growth territory although they all fell modestly last month. New orders and production indices are rarely above 60% but held that level in July. At 55%, the backlog of orders also remains strong, suggesting that there is pressure on production schedules, which is lending momentum to current manufacturing output gains.

ISM survey respondent comments are generally optimistic about short and intermediate-term prospects for the U.S. factory sector. One respondent noted, “Orders are strong and quote activity is just as strong.” Another, “In regard to sales, we have had our best year ever.” Of the 18 manufacturing industries, 15 reported growth.

Persistently weak capital spending has left executives in the business equipment sectors cautious in spite of their optimism. One respondent from the machinery sector commented, “Business is steady, but everyone is waiting till the last minute to place their orders.” Will steady performance escalate to strong? Capital investment appears to be firming from years of weakness, signaling a potential turn that bears watching, as it would affect the outlook for both manufacturing and overall U.S. economic performance.

As has been the case for the past six months, the Federal Reserve’s data on manufacturing output growth are gaining strength, but are nonetheless measurably less exciting than the strong ISM survey numbers and the buoyant optimism of most ISM survey respondents. U.S. manufacturing output grew by 2.1% in the first quarter of 2017 and by 1.4% in the second quarter. While hardly strong, these numbers are better than the 2013-2016 period, during which factory sector output growth averaged an essentially stagnant 0.6%.

Today’s ISM release reinforces the growing optimism, in both business and economics communities, about improving manufacturing growth. The brighter data are supported by fundamentally positive shifts. The global economy is on the mend, with long-suffering regions beginning to show better growth performance. The strong dollar, a difficult impediment to manufacturing growth, has been falling modestly since the beginning of 2017. As I noted in my blog on the second quarter GDP report, the two key drivers of U.S. manufacturing demand are trade and equipment spending. These drivers are starting to make positive contributions to overall GDP growth. 

These difficult post-financial crisis years have been a challenge to positive, forward thinking. For once, the more optimistic scenario may very well prevail.