The RSM US Manufacturing Outlook Index increased in March but is showing signs of impending economic damage caused by the Russian invasion of Ukraine. Those warning signs may be creating the conditions for a classic midcycle slowing in overall manufacturing sentiment and activity.
Although this month’s index remains above normal manufacturing conditions, the index has been in an eight-month downtrend.
Our index is a composite of surveys of manufacturing activity conducted by five regional Federal Reserve banks. The results in March continue to suggest that manufacturers are finding ways to work within the parameters of longer delivery times and rising prices.
And because of the importance of manufacturing to the downstream economy, the health and prospects of the manufacturing sector are indicative of potential economic activity.
As our analysis indicates, the RSM index rarely goes above 2.0 standard deviations, with most of these brief elevated episodes in the period immediately following a recession.
Although this month’s index value of 0.6 standard deviations remains above normal manufacturing conditions, the index has been in an eight-month downtrend, characterized by a series of lower lows and lower highs. This appears to be indicative of the midcycle downturns that have occurred in each of the recent business cycles.
In 1985, the drop in manufacturing activity came during a period of high unemployment, sluggish demand and negative net exports as the American public turned to purchases of foreign goods.
In 1995-96, the economy slowed when the Federal Reserve hiked rates from 3% to 6% on inflation fears and there was a government shutdown, resulting in a large inventory overhang and a drop in new manufacturing orders.
In 2003, concerns over the Iraq war morphed into an economic slowdown. A commodity price collapse was the catalyst for the 2015-16 mini-recession. And finally, the 2018 trade war developed into the global manufacturing recession that preceded the pandemic.
There continue to be noticeable month-to-month differences in manufacturing conditions among the regional surveys—notably, New York is down while Kansas City set record highs. And as of yet, there are only anecdotal reports attributed to the introduction of geopolitical anxiety.
New York Fed
Business activity in March declined in New York State for the first time since early in the pandemic, with the survey’s general business conditions index falling to its lowest level since May 2020.
Business activity in March declined in New York State for the first time since early in the pandemic.
In the survey conducted in the first week of March, manufacturers responded that new orders and shipments had declined modestly, while unfilled orders increased. Delivery times continued to lengthen substantially and inventories expanded.
Labor market indicators pointed to a modest increase in employment and a slightly longer average work week. The prices paid index remained elevated, and the prices received index reached yet another record high.
Despite the rising prices and the downturn in current activity, firms expressed optimism regarding the next six months, while plans for capital and technology spending remained solid.
Manufacturing activity in the Philadelphia Fed region is keeping to the script of moderation after an earlier unsustainable upsurge. In the survey conducted in the second week of March, general activity, shipments and new orders all rose after last month’s declines, appearing to mean revert within a more reasonable range for current and expected activity.
Prices are anything but reasonable, however, with more than 87% of firms reporting increases in input prices, and only 6% reporting decreases.
In special questions, nearly all firms reported labor supply and supply chains as constraints to capacity utilization, which remains at a median of 70% to 80%. And although nearly two-thirds of the firms reported the energy markets were not acting as a constraint in the current quarter, more than two-thirds expected energy markets to worsen over the next three months.
Manufacturing activity in the Richmond Fed’s Fifth District improved in the March 22 release of its survey of roughly 70 firms in the District of Columbia, Maryland, North Carolina, South Carolina, Virginia and most of West Virginia.
All three of the survey’s component indexes—shipments, volume of new orders and number of employees—increased during the month, notably shipments. The volume of new orders also increased.
Expectations for the next six months remain positive in the Southeast but have nevertheless shown a moderating trend after the initial post-pandemic sense of relief.
The decline in recent months appears to coincide with the increase in geopolitical anxiety. And as expressed by survey respondents, the shortage of qualified labor is expected to continue.
Kansas City Fed
Manufacturing activity in the Kansas City Fed’s Tenth District has continued its recovery from a slump in the second half of last year. The bank’s survey, released in the third week of March, reported record growth in the month along with surging expectations for the next six months. Increased activity was reported in manufacturing of printing and paper, plastics, electrical equipment, furniture and especially transportation equipment. There were declines in food and machinery manufacturing.
Indexes for production, shipments, new orders, backlog of orders and supplier delivery time increased at faster rates, while the pace of growth for the number of employees and new orders for exports moved lower.
Responses to special questions found that 47% of firms faced higher prices compared to last year, with 23% reporting a significant decrease in profit margins since the beginning of the year. Firms also reported the impact of the Russia-Ukraine conflict centered around supply chain disruptions and higher input costs.
Interestingly, one firm reported that “it feels like demand for our products is plateauing. After months of almost unprecedented demand increases, orders seem to be leveling off—not decreasing, just leveling off. Hopefully we can have a ‘soft-landing’ from these crazy times and not a sharp drop off a cliff.”
Another comment was that “employee problems everyone is facing have only gotten worse. This has and will continue to be our biggest hurdle for our company and so many others.”
Factory activity in Texas continued to increase at solid pace, according to the Dallas Fed’s Manufacturing Outlook Survey conducted in the third week of March, with mixed movements signaling continued expansion. The new orders index fell to its lowest reading in over a year, while the growth rate of orders index held steady. The capacity utilization index increased, while the shipments index declined.
Perceptions of broader business conditions followed a similar pattern, falling but remaining well above average. Firms were evenly split on whether their outlooks improved versus worsened over the past month, and the survey’s uncertainty index pushed higher. Capital expenditures and employment showed mixed movements but remained solidly in positive territory.
Special questions found that higher recent energy prices were having a negative impact on business. In addition, supply chain issues were restraining revenues for half of the firms, while 39% of firms considered staffing issues as a limiting factor.