INSIGHTS: U.S. MANUFACTURING ALIVE AND WELL
BY Guest Columnist Mark J. Perry:
Scholar at the American Enterprise Institute and a professor of economics and finance at the University of Michigan’s Flint campus. Reprinted with permission.
The BEA’s report last week on GDP-by-Industry showed that real manufacturing output (value added) in the US reached an all-time record high of more than $2 trillion (in 2009 dollars) in the first quarter of this year. See related CD post “De-industrialization? Well, America’s thriving manufacturing sector just produced a record level of output in Q1.” That was actually the third quarter in a row starting in 2017:Q3 that US manufacturing reached record high levels, surpassing the previous record high level of US factory output established back in 2007:3 before America’s and other countries’ manufacturing sectors were devastated by the Great Recession. Those effects of the recessions were so significant, that it took about a decade for US manufacturing output to completely recover and reach record high production levels again. Many other countries like the UK, France, Canada, Italy, UK, Brazil, Australia, Sweden and Greece also experienced a long recovery period for manufacturing following the Great Recessions. For the US, despite all of the negative news we hear about the supposed de-industrialization of America, the hollowing out of US manufacturing, and claims that we “don’t make anything here anymore,” the fact that the US set new records for manufacturing output for the last three quarters runs counter to those negative narratives of gloom and doom about American manufacturing.
And there several other interesting long-term trends that help put America’s record-setting level of output in recent quarters in sharper perspective.
1. As the top chart above shows, manufacturing output as a share of US GDP has been in steady decline since the early 1950s, falling from a high of 28% in 1953 to a low of 11.6% last year. Consistent with that declining share of GDP is the fact that US manufacturing output has grown at a slower annual rate than GDP by more than one percentage point: 5.2% for manufacturing vs. 6.4% for GDP. Over the last 25 years, GDP has grown annually by 4.4% while factory output has grown annually by only 2.9%, 1.5 percentage points lower. That difference in growth rates helps explain why GDP recovered within several years of the Great Recession while it took US manufacturing much longer.
2. The CPI price series in the bottom chart above (as percentage changes since 1985) helps explain the downward trend of the manufacturing share of GDP, by showing how much the CPI series for manufactured durable consumer goods (vehicles, furniture, appliances, tools, toys, computers, etc.) have declined in price over time compared to the CPI for All Items and the CPI for Services. Since 1985, the CPI for Durable Goods declined by 2% while the overall CPI increased by 137% and the CPI for Services almost tripled, increasing by nearly 200%.
Bottom Line: One of the reasons that America’s manufactured goods have become a smaller share of GDP over time (top chart) is that those goods get cheaper and cheaper over time relative to other goods, and especially relative to the cost of services (bottom chart). Therefore, for US manufacturing output to be at record high levels is even more impressive when you consider that the prices of manufactured goods have been continually and significantly falling for decades relative to other goods, services, and wages. As stated before, US manufacturing is not in decline, but is alive and well, producing record levels of output in recent quarters despite significant price deflation for manufactured goods. No other sector of the US economy delivers greater value to American consumers than manufacturing when it comes to delivering more and more output at lower and lower prices.
ON THE ECONOMY: FOR THOSE ABOUT TO ROCK
By John Dunham:
Managing Partner, John Dunham & Associates
Stand up and be counted, for what you are about to receive. We are the dealers, we’ll give you everything you need. Hail-hail to the good times, ‘cause rock has got the right of way. We ain’t no legend, ain’t no cause, we’re just living for today. For those about to rock, we salute you. For those about to rock, we salute you. Thus begins the 1981 song by the Australian band AC/DC. Written by band members Angus Young, Malcolm Young and Brian Johnson, the song is based on the Roman salute made by prisoners about to die in the games: Hail Caesar, we who are about to die, salute you.
The economy grew by 4.1 percent in the 2nd quarter according to the Advance Estimate put out by the Bureau of Economic Analysis. This was right in line with our estimate of about 4.0 percent (which by the way, we pulled down from 5 percent earlier in the year as a result of all of the tariff talk). Now this figure is disappointing to some who had predicted that GDP would grow by nearly 5 percent in the 2nd quarter, but have no fear, the BEA always makes huge percentage adjustments in its figures over time. For example, the 1st quarter numbers that were initially reported at 2.0 percent were revised upwards to 2.2 percent. While this may seem small in basis point terms, it’s a 10 percent increase in the number. So with the caveat that these numbers are likely to undergo major adjustments, what does the Advance GDP report tell us about the economy.
First, the BEA incorporated some major statistical and forecasting changes in the model this quarter. While these did move prior figures around a bit, overall, the effects were slight, and should not have a significant bearing on examinations of year-over-year or quarter-over-quarter growth other than the fact that changes to seasonal adjustment calculations might help to eliminate the tendency for underreporting in the first quarter of each year.
Looking at the numbers themselves, in the 2nd quarter all of the measurements going into GDP posted gains except for one – inventories. Personal consumption expenditures accounted for 269 basis points of growth, investment 94 basis points, government spending 37 basis points, and net exports 106 basis points. Changes in inventories subtracted 100 bps from GDP. So what does this all mean for the economy?
Let’s start with the negative first. The reduction in inventories after a sustained period of inventory growth is actually a positive for the economy. While this shows up as a negative in the GDP figures is suggests that businesses are not keeping up with orders. Some have suggested that this may also be due to firms selling in advance of anticipated tariffs, but either way, reductions in inventory mean that US producers and wholesalers are selling more products.
Net exports went from $(639.2) billion in the first quarter to $(552.4) billion in the 2nd quarter, a reduction of nearly $87 billion in the trade deficit. This was due to a 3.7 percent increase in exports. Some of this could be the effect of increased remittances of capital due to the change in the tax code, and some due to pre-selling of products that might fall under a tariff. We actually expected remittances to be showing up in a bigger way in the first quarter, which was why our initial growth projections for the period were very high.
The largest area of growth was from consumer expenditures (remember in GDP speak expenditures are equal to production). Overall personal consumption expenditures rose by $200 billion in the 2nd quarter, with growth occurring across all reported goods and services sectors. So people are spending the money that the tax cuts have provided, and this has goosed the economy this quarter across a wide front.
Increased government spending added to the economy, a positive in GDP terms (though this spending all comes at the expense of either consumer or investment spending). This is mainly due to the result of increased military spending; however, state and local government infrastructure investment was also up in the quarter by about $10 billion -something that bodes well for future growth prospects.
Finally, the most important part of the GDP calculation, investment spending, increased by nearly $75 billion. This is important because new investment leads to higher production and productivity in the future. The growth was concentrated in commercial and industrial structures and intellectual property, with machinery and transportation equipment spending actually falling. As we have discussed in the past, the possibility that there is significant malinvestment in the technology sector is high, so seeing most of the growth in investment spending being sucked up by these types of firms actually may not bode well.
Overall, this was a sound GDP report, and we expect to see it revised upwards in the next couple of months. We also continue to hold that GDP growth will continue to be solid throughout 2018.
But Hail-hail to the good times, because we are likely still just living for today. Unless the trade issues are settled, and firms continue to invest in new plant and equipment, it is likely that the economy will begin to hit some major bumps in 2019 including worker shortages, higher prices, reduced exports and likely some major adjustments in some overbuilt sectors like social media and internet services. But for now, for those about to rock, we salute you.
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