NEW YORK (MainStreet) — The latest GDP numbers for the U.S. economy look good: the 2.8% growth in Q3 bettered the 2.5% of the previous quarter, and critical sectors like housing continued their recovery.
Yet these numbers are too macro, and they tend to lag behind events on the ground; for example, the government shutdown-related consequences for the U.S. economy will only show up when next quarter's numbers are released.
Thankfully, the Institute of Supply Management (ISM) — an industry body with 40,000 plus members from supply and purchase functions —measures the health of the U.S. economy on a month-wise basis with an index called the Purchase Managers Index (PMI). The PMI comprises five parameters: production level, new orders, supplier deliveries, inventories and employment level.
A monthly survey asks managers to indicate both the direction of change — whether the parameter is moving upwards or downwards — and the rate of that change.
"PMI doesn't measure output in a strict sense," said Tom Cahill, portfolio strategist at Ventura Wealth Management. "It is a measure of sentiment among purchasing managers. Readings above 50 indicate that those surveyed feel the economy is improving. Readings below indicate contraction."
A sub-42 score in particular is bad news as it indicates recessionary conditions. So how did the U.S. economy do on its latest PMI report card?
Omens from October
The good news is that the October PMI is at 56.4, showing a continuous growing trend from June 2013 onwards. In May 2013 the PMI had dipped to 49 from an April score of 50.70.
The rate of change is also termed as "faster" and has come mostly on the back of growing "new orders" and "inventories."
However the U.S. economy is a far way off from being out of the woods yet. "Consumers are still heavily indebted," Cahill cautions. "However, rising stock prices and a recovery in the housing market are providing a boost to spending power. Corporations, on the other hand, are reluctant to hire and make capital investments."
A deeper dive into the October PMI seems to confirm this — production and employment indices were lower than the September PMI. An analysis of these numbers shows that companies seem unwilling to trust consumer demand beyond the short-term and are happy to let existing inventories do the heavy lifting.
So what are the underlying reasons why businesses are afraid to commit? "Questions concerning the regulatory environment, tax policy, and the situation on Capitol Hill are making them wary to expand," Cahill answers. "They just don't know what the future holds."
The employment numbers — possibly going to be made worse by the recent government shutdown — are potentially the biggest factor in the economy's faltering recovery. Until the U.S. can reduce the unemployment rate substantially below 7%, consumer demand is likely to be fragile and susceptible to bubbles. Also, the jobs that are being created need to pay enough and be secure in the medium- to long-term to aid consumer confidence. Cahill underlines how important this is.
"Consumers are only saving around 4.5% of disposable income — not much for a rainy day," he said. "If they are going to make a considerable purchase, whether a home, car or vacation, they need to be confident that they will have a job when the bill comes due. If the macro environment is recessionary, people are going to lose their jobs."
The China Equation
With China playing such a major role in the U.S. economy, how is its own PMI stacking up in these challenging times?
China has both officially computed and privately conducted PMI versions, and on occasion, the Chinese have suspended releasing official PMI data due to concerns about accuracy. The October PMI data for China, like in the U.S., offer hope at an overall level. While official PMI was at 51.4, the HSBC conducted PMI was at 50.9, a seven-month high.
Many Chinese companies reported strong demand from the U.S. behind improved sentiment, and employment indices also showed expansion for the first time since March 2013. Ironically, because the U.S. recovery is seen as fragile, China watchers are unwilling to forecast that there is an oncoming export wave that the country will be able to ride on and get back to its previously spectacular growth rates.
A Miracle at Christmas?
The National Retail Federation expects holiday sales to increase by 4%, and online sales by 15%, and October has seen nine U.S. retailers report an increase in same-store sales. However, this could be attributed to deep discounting by retailers and an earlier start to the holiday season, which could peter out.
Also, Morgan Stanley's done its bit as a party pooper by releasing a report that is predicting the weakest holiday retail sales since 2008. It points to poor consumer confidence and the likelihood of big-ticket spending on consumer durables cannibalizing sales of categories like apparel.
Cahill predicts some tough times ahead before thing get better.
"Families cannot continually spend beyond their means," he says. "That's also true for corporations and governments. Sometimes we just have to tighten our belts and focus on needs, instead of wants. It's time to re-examine our spending habits and prioritize which purchases provide the highest benefits."
While the U.S. has managed to recover faster than western countries in the Eurozone, it has achieved this only with the help of a massive continuing stimulus.
Will the PMI look very different once the taper begins?
--Written by Preetam Kaushik for MainStreet