Written by Steven Hansen
The ISM Manufacturing survey index (PMI) declined from 54.7 to 52.4 in February 2012 (50 separates manufacturing contraction and expansion). This was disappointing to the market which expected between 54.5 and 54.7.
Econintersect sees the new orders sub-index as having a higher and more precise correlation to recessions and the economy then the PMI overall. Although this subindex declined this month, it remains solidly in expansion territory. The three month trend shows the rate-of-growth is unchanged. Even the noisy Backlog of Orders -which also declined- remains solidly in expansion territory (backlog growth is an indicator of improving conditions).
Likely the big decline in the index this month is a combination of survey participants being too optimistic last month and too pessimistic this month.
“The PMI registered 52.4 percent, a decrease of 1.7 percentage points from January’s reading of 54.1 percent, indicating expansion in the manufacturing sector for the 31st consecutive month. The New Orders Index registered 54.9 percent, a decrease of 2.7 percentage points from January’s reading of 57.6 percent, reflecting the 34th consecutive month of growth in new orders. Prices of raw materials increased for the second consecutive month, with the Prices Index registering 61.5 percent. As was the case in January, new orders, production and employment all grew in February — although at somewhat slower rates than in January. Comments from the panel continue to reflect a generally positive outlook for the next few months.”
PERFORMANCE BY INDUSTRY – Of the 18 manufacturing industries, 11 are reporting growth in February, in the following order: Apparel, Leather & Allied Products; Machinery; Primary Metals; Transportation Equipment; Petroleum & Coal Products; Fabricated Metal Products; Paper Products; Computer & Electronic Products; Food, Beverage & Tobacco Products; Miscellaneous Manufacturing; and Chemical Products. The four industries reporting contraction in February are: Furniture & Related Products; Nonmetallic Mineral Products; Plastics & Rubber Products; and Electrical Equipment, Appliances & Components.
It is interesting to note that ISM Manufacturing represents less than 10% of USA employment, and approximately 20% of the business economy. Historically, there is little linkage between real employment and the ISM employment index.
New orders have direct economic consequences. Expanding new orders is a relatively reliable sign a recession is NOT imminent. However, New Orders contraction have given false recession warnings twice since 2000.
An improving economy is indicated based on the new orders component of ISM manufacturing. For those disappointed with the overall report, I suggest they get over it. Things are improving.
Caveats on the use of ISM Manufacturing Index:
This is a survey, a quantification of opinion – not facts and data. However, as pointed out above, certain elements of this survey have good to excellent correlation to the economy. Surveys lead hard data by weeks to months, and can provide early insight into changing conditions.
Many use ISM manufacturing for guidance in estimating manufacturing employment growth. Econintersect has run correlation coefficients for the ISM manufacturing employment and the BLS manufacturing employment data series above going back to 1988, using quarterly data. The coincident correlations are actually negative, but poor (r = -0.2 to -0.4 for various time periods examined). See here for definitions.
Before 2000 the ISM employment data had a weak positive correlation to the BLS data 4 to 7 quarters later (r values above 0.6). Since 2000 the correlations for ISM manufacturing employment as a leading indicator for the BLS manufacturing employment have been between 0 and 0.3 for r (correlation coefficient). These values define correlations as none to poor.
In other words, ISM employment index is not useful in understanding manufacturing jobs growth. The graph below shows BLS manufacturing employment month-over-month gains against the ISM Manufacturing employment index.
The ISM employment index was right in predicting the direction of monthly manufacturing employment growth in 2011 about half the time.