After a January full of not very encouraging economic indicators, February kicked off with some surprising numbers on manufacturing expansion that got the stock market excited and inspired numerous analysts to talk about the possibility that a sustainable recovery is under way. Should we be cheering?
On the surface the Institute for Supply Management’s report on December’s manufacturing economy looks good.
“The manufacturing sector grew for the sixth consecutive month in January as the PMI rose to 58.4 percent, its highest reading since August 2004 when it registered 58.5 percent. This month’s report provides significant assurance that the manufacturing sector is in recovery. Both the New Orders and Production Indexes are above 60 percent, indicating strong current and future performance for manufacturing. This month, 13 of 18 industries reported growth, up from nine industries last month, and this is a good indication that the impact of the recovery is expanding.”
BusinessInsider’s spin: The report “blew away expectations.” Everybody’s excited. If manufacturing growth continues, companies will start hiring, and a reduction in unemployment will lead to renewed consumer spending, etc.
WallStreetGeek offers up a pretty big caveat, however. The primary factor propelling economic growth in the fourth quarter of 2009 was a slowdown in the pace of inventory liquidation. It’s reasonable to assume that the boost in manufacturing can be largely attributed to restocking activity. But that’s a one-time boost. Consumer spending growth in December was tepid, suggesting that once warehouses are refilled, it will take some time to empty them again.
It looks to us like inventory restocking from deeply understocked levels will serve the purpose of lifting the economy in Q4, and maybe into Q1 as well. Still, be aware that this is a trend seen oftentimes in economic cycle history, and oftentimes it is followed by a second dip into economic contraction once normalized inventory meets still sub par absolute demand. Given still high unemployment and cautious employers, we find no reason to forecast any other consequence for this cycle, and therefore, for 2010.