US Perspectives: Just When You Thought Manufacturing Couldn't Get Any Better

Bodies in motion continued to stay in motion this week.

Robert Johnson, CFA 20.04.2011
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"Every object in a state of uniform motion tends to remain in that state of motion unless an external force is applied to it."--Isaac Newton


Economic news last week was further proof of Newton's First Law. Consumer spending, inflation, manufacturing, and the Chinese economy continued on their strong upward trajectories. Lately, I have been a real worrywart concerning high inflation potentially slowing the economy. I still hold to that belief, but that certainly wasn't evident in last week's economic reports.


Retail sales--excluding autos and gasoline--powered ahead by 0.6% in March. Even pokey restaurant sales continued to show renewed signs of life. It also didn't hurt that consumers stuck in their current homes decided to splurge on more home furnishings and building materials. Manufacturing seems to have a life of its own, too, as both the Empire State manufacturing report for April and the nationwide industrial production report for March came in well above expectations.


Inflation Accelerates Around the World, Central Bankers Can't Seem to Stop It

Unfortunately, inflation reports from around the world came in a bit above expectations. Year-over-year inflation accelerated to 5.4% in China for March, well above last month's level and general expectations. Chinese GDP growth hasn't slowed, either, as growth remained in the mid-9% range. Meanwhile in the eurozone, month-to-month inflation (annualized) accelerated to 2.7% in March up from 2.4% in February. Wholesale prices in India accelerated to 9% from the midsingle digits just a few months ago. Inflation continues to accelerate around the world despite attempts by central bankers worldwide to tighten rates and boost reserve requirements. It may not be as easy to put the inflation genie back in the magic lamp as the U.S. Federal Reserve seems to believe.


Inflation, Trade Will Hit the First Quarter Hard

As strong as things seem to be, I do caution that first-quarter GDP growth will come in considerably below the 3.5%-4% range that I had been using for the full year. More-negative-than-expected trade issues, the corrosive effect of inflation, a late Easter, and poor weather are likely to make growth any faster than 2% difficult. Some of those same factors may reverse themselves later in the year, so I am only taming my full-year forecast to 3.5% from 3.75%. Even that feels a little optimistic.


Retail Sales Look Very Good

Like previous individual store reports, last week's comprehensive retail sales looked very good, but not great. Cool weather and a late Easter conspired to keep March results under wraps.


The overall level of retail sales growth has been very good for several months. In the table below I have left out autos, which are highly volatile (and measured very differently in the GDP calculation), and gasoline, which tends to inflate the report. Adjusted for inflation, the improvement in retail sales has not been as robust but is still positive on a quarterly basis.

Retail Sales Growth Percentage (excludes Autos and Gasoline)


Oct 2010

Nov 2010

Dec 2010

Jan 2011

Feb 2011

Mar 2011

Monthly Growth







Quarterly Total














Inflation Annualized







Quarterly Retail
Infl-Adj Ann. Growth







Source: Census Department

Growth by category was also extremely positive as I had wished for in the week before last week's column.

Sequential Retail Sales Growth by Category



Small Movers










Building materials


Non-store retailers




Department stores










Average (all)


Inflation (CPI)


Source: Census Department BLS

What stands out is that consumers that are stranded in their current homes are finally beginning to spend on their existing homes. Both the furniture and building materials categories are beginning to show signs of life. If this trend were to continue, it could prove to be another mechanism to keep the economy expanding while we all wait for an improving new home market, maybe in 2012. Restaurant sales also showed decent growth for the second month in a row. This category has been a real laggard this recovery, and it's good to see a second month of excellent growth. It's also a decent measure of consumer confidence and might explain McDonald's efforts to hire an additional 50,000 workers a couple of weeks ago.


U.S. Inflation Accelerates, but Less than the Rest of the World

The U.S. producer price index and the consumer price index moved up 0.7% and 0.5%, respectively, during March--slightly less than expectations. The market took particular solace in the PPI number, which fell from February's vertigo-inducing 1.1% increase. Even the CPI number managed not to accelerate from February's 0.5% level. Year-over-year CPI inflation did move up again, increasing to 2.7%. Over the next several months, that number is likely to move up over 3% based on price increases already in the pipeline. Beyond another month or two, I suspect that we could see some improvement on the inflation front. However, my optimism depends on better weather for growing crops and rising interest rates beginning to take a bite out of commodity speculation. Food, oil, and other commodities have been the key drivers of the recent inflationary binge.


Japan did seem to have one surprising effect on March's CPI figure in that new auto prices were up a surprisingly strong 0.7% and used cars were up 0.8%. At least part of that move was probably due to fears about the supply of Japanese cars due to anticipated supply chain issues.


The Unstoppable Manufacturing Sector

Industrial production in March grew 0.8%, ahead of the 0.6% consensus estimate, as I alluded to the week before last week. Higher inflation or issues related to Japan didn't appear to turn up in this month's report. I suspect that supply-chain issues related to Japan might show up next month. Most categories were uniformly strong, although auto and consumer goods both appeared to be particularly robust. Eric Landry, head of Morningstar's industrials team, summarized the report as follows:

As expected, industrial production posted another strong reading in March. The index climbed 0.8% from February's level and 5.6% from last year's period. March marks the fourth consecutive month of at least 0.7% sequential growth. A strong 1.7% sequential gain in the volatile utilities sector helped the index after two months of sharp declines. Mining advanced by about as much as manufacturing, which itself was up 0.7% from February and a strong 6.6% from last year's period. The overall index now sits 12% above the June 2009 trough, but still 7% below the December 2007 highs.


We expect industrial production to largely continue its strong performance during the next several months, with some likely hiccups along the way. Our composite of leading indicators is still pointing to good annual growth going forward, but this may weaken a bit depending upon supply chain disruptions in the auto sector. Auto manufacturing is one of the single largest influences on industrial production, so the expected slowdown this spring and summer will have an impact. Even so, we expect auto demand to remain strong for some time, indicating any production lost in the near term likely will be made up in later months.

April Manufacturing Survey Points in the Right Direction

The Empire State Manufacturing report was also shockingly strong, showing an increase to 22 from 18 even as most economists were bracing for a decline. Even more important is that the forward-looking new orders index jumped 17 points to 21. Shipments and employment subcomponents also showed continued strength. This report bodes well for other April manufacturing reports. My only fear relative to manufacturing is a possible lull in the auto sector related to production issues with Japanese manufacturers. But as Eric pointed out above, that pause will probably mean better production in the later months of the year.


Trade Data Likely to Hurt First-Quarter GDP Forecast

Although many headlines blurted out news of a falling trade deficit, the detailed analysis wasn't nearly as optimistic. The reason the number appeared to fall was that last month's number was revised upward. The raw level of the deficit came in at $46 billion, well above the consensus estimate of $43 billion. The relatively poor result came even as the quantity of oil imported actually declined for the month, more than offsetting the effects of a large price increase for oil imports. The combination of the January and February trade deficit sent most economists, including me, back to the drawing board for calculating our first-quarter GDP forecasts, as noted above. About the only good news in the report was that our deficit with China fell to the midteens of billions of dollars from the mid-20s, the first major decline of the recovery. However, I suspect that the Chinese New Year affected the trade numbers, and they will probably reverse themselves next month.


Holiday-Shortened Week Short on Data

Housing starts and existing home sales are the only real data of consequence this week. Even these figures aren't very consequential, as existing home sales don't directly affect GDP (except commissions) and new home sales are really too small to move the economic needle (about 1% of GDP).


Expectations are for existing home sales to increase 2.5% to about 5.0 million units on an annualized basis. That is very consistent with the leading pending sales index, which was up 2.1% for its latest reading. Housing starts are expected to remain at nearly depression-like levels of 500,000 units or so. Better weather is about the only reason for optimism in housing starts, perhaps along with record low inventories that should aid results later in the year.


This is an edited version. The article originated from Robert Johnson’s column at

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Robert Johnson, CFA  Robert Johnson, CFA, is director of economic analysis with Morningstar.

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