Prepared by The Educational Society

For Resource Management

October Report Highlights

The APICS Business Outlook dropped sharply in October, falling to 45.1 from 54.3. This is the second time in three months the index has dipped below 50, after having remained above that level from March through July.

Furthermore, the index points to even slower growth in the months ahead, with the future component for October dropping to 39.5 from 53.5. The current component posted a more modest decline, falling to 50.6 from 55.2.

According to the APICS index, shipments, new orders, and unfilled orders all posted declines in October. Production increased only 0.1%, and is expected to show virtually no gain over the next three months.

The only components of the APICS index that remained above 50 for October were employment, which reflects its status as a slightly lagging indicator; and inventory stocks, where most of the gain was unanticipated. That is offset by the very low reading of 33.8 for the (inverted) ratio of the actual to desired inventory/sales ratio, suggesting firms will be cutting back their inventory stocks over the next few months.

When the index declined to 50.4 in August, our comments at the time suggested that much of the drop was due to the UPS strike. When shipments and production bounced back in September, that viewpoint seemed to be supported. The October dip, however, now confirms that the drop in August also reflected the onset of slower growth in the manufacturing sector.

			  Current Component		CUR
		SHIP	EMPL	PROD	INV	UOR	COMP
Oct 96		53.0	45.2	50.2	42.4	45.7	47.7
Nov		46.7	43.7	52.1	50.8	46.6	48.3
Dec		59.5	54.5	50.0	41.0	49.7	51.2
Jan 97		38.5	51.4	43.8	37.2	40.5	42.3
Feb		47.5	56.1	53.2	39.7	47.4	48.8
Mar		47.5	48.9	53.2	46.1	56.3	50.4
Apr		61.1	54.4	57.1	44.1	47.8	52.9
May		54.4	56.9	56.3	47.5	48.8	52.8
Jun		45.2	54.1	60.6	47.2	52.6	51.9
Jul		57.3	59.8	54.9	41.2	48.7	52.4
Aug		39.6	60.2	41.9	54.6	55.7	50.4
Sep		59.8	53.7	60.6	47.5	54.4	55.2
Oct		44.0	53.5	48.8	62.1	44.7	50.6


						Total
		    Future Component	FUT	APICS
		NOR	PRP	LI/S	COMP	INDEX-X
Oct 96		50.5	55.1	51.1	50.6	49.1
Nov		41.9	49.3	43.3	45.3	46.8
Dec		55.3	47.5	57.1	52.4	51.8
Jan 97		41.7	56.5	50.7	49.6	45.9
Feb		43.6	48.4	48.8	46.9	47.8
Mar		49.3	56.5	50.0	51.9	51.1
Apr		52.9	50.0	59.1	54.0	53.4
May		55.6	53.9	50.0	53.2	53.0
Jun		47.2	60.0	51.4	52.9	52.4
Jul		56.4	48.5	56.2	53.7	53.0
Aug		42.9	44.8	46.2	44.6	47.5
Sep		52.6	51.6	56.3	53.5	54.3
Oct		36.9	47.9	33.8	39.5	45.1

*–Current and Future Components with equal weights.

Current Conditions Components

–After rising sharply in September, Manufacturing Shipments fell again in October, declining an estimated 0.6%. Over the past three months, the index for shipments had averaged 52.2, indicating about a 0.3% to 0.4% average monthly gain.

–Manufacturing Employment probably increased about the same amount in October as it rose in September, which we estimate was 5,000 to 10,000. BLS reported that manufacturing employment fell 16,000 in September, but that had followed a reported 48,000 gain in August, which was due in part to a return of striking auto workers. The APICS estimate of a 5,000 to 10,000 gain in manufacturing employment in both September and October is down significantly from the average monthly gain of 15,000 to 20,000 for April through August.

–Manufacturing Production rose only 0.1% in October, according to the survey. Last month, the APICS survey indicated a 0.6% gain; the preliminary Fed data showed a 0.4% gain. Except for the dip in August, which we think was related to the UPS strike, this is the lowest reading for the industrial production index since January.

–Unfilled Orders, which had been rising for the past two months, fell an estimated 0.5% in October, as new orders declined faster than shipments. Excluding aircraft and defense, order backlogs have been little changed all year, but the October data suggests manufacturers are working toward reducing backlogs now that the overall growth rate of the economy has slowed.

–Inventory Stocks probably rose 0.3% in October, as cutbacks in shipments were substantially greater than production. However, this rise in inventory stocks is likely to be temporary.

Future Conditions Components

–New Orders excluding aircraft and defense fell sharply in October, declining about 1½%. New orders had weakened in August and rebounded only moderately in September, so the latest three-month average shows a reading of only 44.1 for this component of the index. That suggests substantially lower growth in the manufacturing sector in the months ahead.

–The index for Production Planning indicates virtually no gain in production over the next three months. Some of that decline presumably reflects an attempt to reduce excess inventory stocks; it also is tied to the three-month slowdown in new orders mentioned just above.

–The decline in the index for the ratio of the actual to desired Inventory/Sales ratio indicates an unusually large proportion of firms reported that the actual ratio rose above desired levels in October. That will undoubtedly lead to cutbacks in production over the next several months.

The recent slowdown in the manufacturing sector indicated by the October APICS survey–with some hints in the August and September data as well–is probably due more to international than domestic events. However, there will be a substantial domestic counterpart to this international slowdown as well.

The recent slowdown is due in large part to the stronger dollar and the recent decline of real growth in East Asia. While the plunge in the currencies of Thailand, Malaysia, and Indonesia captured the lion's share of attention, the underlying malaise in these economies that sparked the currency flights had begun earlier in the year. Hence export orders were weakening even before the headline-generating drops in those exchange rates, and the spread of financial unrest to Hong Kong, Taiwan, and other countries whose currencies are fundamentally sound.

Over the past three years, many firms have expanded at breakneck speed, spurred by relatively low interest rates and a robust economy. As a result, the rate of capacity utilization remains below the 85% level where inflationary pressures usually start to build, even though the U.S. economy has been at full employment over this period. By substituting capital for labor, inflation remains low and stable, and productivity gains are unusually robust for this stage of the business cycle.

U.S. firms have thus been purchasing new plant and equipment at near- record rates as the real growth rate accelerates. However, many other regions of the world economy have also been investing at above-average rates even after their growth rates started to decline. This has resulted in an unusually large amount of worldwide excess capacity.

With slower growth around the world and the increased pressures of international competition and excess capacity, domestic investment will grow at a slower rate next year. So the slowdown in East Asia will not only affect U.S. net exports, but domestic capital spending.

The foreign situation has changed more rapidly than usual, but many economists in this country, programmed to look at key domestic indicators, may be a bit slow off the mark in assessing the increased importance of the foreign sector and worldwide excess capacity, and hence a slowdown in domestic capital spending.

However, even a fairly sharp drop in both net exports and capital spending will not bring the U.S. economy to its knees. Considering the current situation of overfull employment, and the major concerns about rising inflation, a decline of 1% in the growth rate next year would be seen by many as a welcome development. It would cause interest rates to decline, hence boosting consumer spending even if investment turned sluggish.

If real growth for the overall economy does indeed slow down to 2½% from 4%, as indicated by the latest APICS survey, that would lead to lower interest rates even if the Fed does not ease. For as growth slows, upward pressure on wages diminishes, and the threat of inflation recedes into the distance.

Also, to the extent the stronger dollar widens the U.S. trade deficit, it improves the trade surplus for other countries. That boosts their growth rate, soaking up some of the excess worldwide demand; and after taking lags into consideration, also boosts U.S. exports.

The latest APICS survey results thus indicate that growth in the manufacturing sector has already slowed and should be falling further over the next few months, both because of lower net exports and a slower growth rate in domestic capital spending. These developments will reduce real growth from 4% to 2½%.

However, since this slowdown is likely to be accompanied by lower interest rates, interest-sensitive sectors of the economy should rebound next year, keeping the growth rate for the U.S. economy in the 2½% to 3% range for 1998.

October 30, 1997 The Educational Society

For Resource Management

500 West Annandale Road, Falls Church, Virginia

Consensus National Futures and Financial On Line Index

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