By Rom Badilla, CFA
Manufacturing activity for the New York region improved but continues to remain weak which suggests sluggish economic growth. The Federal Reserve Bank of New York released results of its monthly Empire State Manufacturing index which is a regional conditions gauge and reflects current and future business activity. The index which covers manufacturing in New York, northern New Jersey, and Southern Connecticut rose in October to a reading of -6.16 from -10.41 in the prior month. Market participants were expecting a larger improvement over last month as the median forecast by economists was at -4.00. An Empire Manufacturing Index reading above zero represents economic expansion while below it shows contraction for the sector. The Index along with the Philly Fed survey, which is due for release on Thursday, is a leading indicator of the national manufacturing gauge, released by the Institute for Supply Management which is used to determine the health of the overall economy.
The weak headline number was supported by the various components. New Orders, which is a gauge of future demand, came in at -8.97 which is the fourth consecutive month in contractionary territory. Shipments, which represent current activity, fell from +2.75 in September to -6.40. Inventories fell more than two points to -2.15 while Unfilled Orders dropped to -18.28 from -14.89 in the prior month. Notably and unfortunately for out of work individuals, the Number of Employees component fell into negative territory. In October, the Number of Employees index dropped to -1.08 from +4.26 in September. The latest print is well below the 6-month average of +11.84.
Every month, executives of 200 large firms, with about half responding, are asked whether various measures of activity have increased, decreased or remained the same from the previous month. The New York Fed builds indices for each of nine measures of economic activity: employment, working hours, new and unfilled orders, shipments, inventories, delivery times, prices paid, and prices received, which all roll up into the headline number.
Despite the weak current conditions, the outlook continues to remain relatively high which may ease some concern according to Deutsche Bank Chief Economist, Joseph LaVorgna. In their latest U.S. Data Flash, he wrote the following:
If there is a silver lining in today's report it is that the 6-month outlook components were generally higher than the current conditions components. While the tail risk from Europe has largely been removed from the financial markets in light of the ECB's extraordinary actions, election uncertainty and the impending "fiscal cliff" may be negatively impacting purchasing mangers' behavior. If so, we could see a sharp improvement in the measures of underlying production once we get past the November 6 election. Overall, the 6-month outlook index fell in October (+19.4 vs. +27.2) but remains up from August (+15.2).
Since the Empire State survey has been diverging markedly from the ISM survey in recent months, Monday's data should not translate into a steeper drop for the national survey. Furthermore, the Outlook components are still lofty and suggest a brighter environment for manufacturers, six months from now and into 2013. As mentioned before, this crosses over and beyond the election and the Fiscal Cliff where many are suggesting a huge drop off in economic growth due to the potential for higher taxes. Given the rally in stocks coupled with the outlook components, it appears that the consumers continue to discount its potential effect on economic growth and how it could derail the rebound. While bulls are making new highs in prices fueled by Fed induced liquidity, the Fiscal Cliff is fast approaching and politicians will need to make the tough choice. Knowing their history, indecisiveness and brinkmanship could ensue which could make consumers flinch due to the bigger burden stemming from higher taxes. In such a scenario, consumer spending could fall and take overall economic growth down with it. As a result, the bid for safe haven assets could increase which may place more downward pressure on bond yields.