As Cost Pressures Temporarily Abate, Factory Orders Rise

Factory orders climbed 1.8 percent in June due largely to an already-known surge in aircraft orders. But extransportation and non-durable orders rose modestly in the month. Inventories are building too quickly.

Tough Climate for Manufacturing: Low Prices & Strong Dollar

Factory orders increased 1.8 percent in June; it was only the second time this year that this broad indicator for the factory sector has been positive. Durable goods orders were up 3.4 percent and nondurables were up 0.4 percent.

At times, it has been hard to square the weak orders figures with other factory-sector indicators, like the ISM index which has remained firmly in expansion territory every month so far this year. 

There are a number of impediments to orders. The drop in oil and commodity prices has diminished demand for new equipment in those industries while at the same time bringing down the nominal value of orders amid the broad decline in wholesale prices. To some extent this price dynamic was muted in June as there was a pause in oil and commodity price declines during the month. Unfortunately, it was a painfully brief respite as broad declines in commodity price resumed in July, which will pressure the nominal value of orders for that month.

The strong U.S. dollar has not been a friend of the U.S. factory sector recently either. Since this time last year, the board trade-weighted value of the dollar is up roughly 15 percent. All else equal, that makes U.S. manufactured goods more expensive to foreigners. This dynamic was also evident in the export orders component of the ISM index released earlier this week which slipped further into contraction territory in July.

Informed by these factors but buoyed by our confidence in the still-vibrant domestic economy, our outlook for the manufacturing sector is for continued slow growth. Last week’s GDP report showed that equipment spending contracted at a 4.1 percent annualized pace in the second quarter. If oil and commodity prices continue to plumb lower price levels, the prospects for future orders figures will fall with it.

Inventory Unwinding to Weigh on Second Half Growth

Inventories increased 0.6 percent—the largest incremental increase in stockpiles for 2015 and an affirmation of the $110 billion increase in the pace of inventory building the second quarter.

The inventory-to-shipments ratio has climbed from 1.30 in September to 1.35 at present. This is an indication that shipments are not keeping up with inventories and that some of the stockpiling is unintended.

The back-to-back quarterly increases of more than $100 billion per quarter in the pace of inventory building in the first half of 2015 represent the largest two-period inventory build on record. It also highlights the probability that an unwinding of this stockpiling will almost assuredly result in a drag on GDP growth in the second half of the year.