Federal Reserve policy makers will meet in two weeks to weigh an interest-rate cut against the backdrop of a booming U.S. stock market, a seemingly unflappable American consumer and steady job growth.
Policy makers “recognize that the U.S. consumer is in a very solid shape,” said Michelle Girard, chief U.S. economist at NatWest Markets. “But the weakness on the manufacturing side is what they’re worried about, particularly on the global side.”
The Fed’s latest industrial production report Tuesday showed U.S. factory output declined at a 2.2 percent annualized pace in the second quarter after a 1.9 percent rate of decline in the previous three months. Within specific industry groups, metals, machinery, textiles, paper and petroleum and coal were among those that experienced outright production downturns during both quarters.
“It’s definitely concerning, and you’re seeing it globally, too,” said Brett Ryan, a senior U.S. economist at Deutsche Bank AG. “The manufacturing sector continues to be depressed. It’s been a leading indicator for other parts of the economy.”
Indeed, production weakened considerably in 2015 into the first half of 2016, resulting in economic growth of 1.5 percent or slower for three straight quarters. Still, the economy managed to avoid slipping into a recession.
Consumer spending accounts for about two-thirds of the economy, and recent data showed retail sales advanced at solid 0.4 percent monthly paces in both May and June. What’s more, manufacturing figures released this week showed activity was rebounding in July, highlighted by the biggest surge in a decade for the Philadelphia Fed’s general activity index.
Tariffs and devolving trade relations have China especially hard, but weakness in international trade flows have also taken a toll on Japan and European economies. According to the JPMorgan PMI data, international trade continued to weaken at the end of the second quarter, with new export business falling for a 10th straight month. The U.S. posted an increase.
In addition, the global retreat in manufacturing has coincided with a general weakening in demand. In China, the world’s second-largest economy behind the U.S., gross domestic product increased 6.2 percent in the second quarter from the same three months last year. That marked the weakest performance in data going back to 1992.
GDP in Germany, Europe’s largest economy, expanded just 0.7 percent from a year earlier after a 0.6 percent pace in the first quarter that was the poorest since 2013.
Not only have U.S. producers been contending with setbacks in trade and sluggish global demand, elevated inventories have prompted factories to limit production. Inventory accumulation added 2.33 percentage points to GDP growth in the third quarter of 2018, the most since the last three months of 2011, and gains have continued to lift GDP this year.
Unsold goods at U.S. manufacturers in May would last 1.38 months at that month’s sales pace, the highest ratio since September 2017. At the same time, producers appear to be making headway whittling down stockpiles, according to the Institute for Supply Management’s factory inventories gauge, which fell in June to the lowest level since December 2017.
Reporting by Vince Golle with assistance from Ryan Haar.