Both ISM And IHS Markit PMIs Showing U.S. Economic Growth Is Slowing - Trump's Trade War Isn't Going To Help, Either

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by: Tim Worstall
Summary

Our general statistical information is showing that growth in the U.S. economy is slowing but is still there.

Both the IHS Markit and ISM PMIs are showing that slowing growth.

The real risk to the economy remains Trump's trade actions as the recent market slump shows.

We Know Growth Is Slowing

We know from the past few months of statistical information that the rate of growth in the US economy is slowing. What we don't know is when that growth is going to stop or go into reverse - we have a recession that is. It will happen at some point simply because we still have the business cycle. But when, ah, that's the question.

As far as we can see though it's not going to be either of the two usual causes for a recession. Booms can simply die of old age and they can be killed off by the Federal Reserve raising interest rates to head off inflation. Neither of those seems likely at present. Our one economic unpredictable is whatever it is that President Trump is going to do about tariffs and China. Hopefully, nothing worse than he already is but that's still up for grabs.

ISM NMI

The Institute of Supply Management gives us a purchasing manager's index each month. In fact, two, this one here being for services. Growth is slowing:

"The NMI® registered 53.7 percent, which is 1.4 percentage points lower than the June reading of 55.1 percent. This represents continued growth in the non-manufacturing sector, at a slower rate. This is the index's lowest reading since August 2016, when it registered 51.8 percent."

NMI here stands for non-manufacturing index, for which we should read services.

This is, as I say, growth slowing but not stopping.

In graphic form:

NMI

(ISM non-manufacturing index from Moody's Analytics)

As Moody's Analytics says about this:

The U.S. nonmanufacturing sector is now in its 114th month of consecutive growth, but downside risks are mounting. The ISM nonmanufacturing index has been declining since its cycle peak in late 2018 and is now at its lowest point since 2016. The index measures the breadth of growth, thus the falling value corresponds with a narrowing in the nonmanufacturing sector's expansion.

ISM MI

We had the manufacturing sector version of the same index just a couple of days back and that shows rather more slowdown.

Economic activity in the manufacturing sector expanded in July, and the overall economy grew for the 123rd consecutive month, say the nation's supply executives in the latest Manufacturing ISM® Report On Business®.

... "The July PMI® registered 51.2 percent, a decrease of 0.5 percentage point from the June reading of 51.7 percent."

The US manufacturing sector is very much smaller than the services sector meaning that this is less important. On the other hand manufacturing is the more variable of the two meaning that it does sometimes act as that leading warning. Balance those two as you wish.

IHS Markit PMI

We also have the very similar measure from IHS Markit:

However, although this represents an improvement on the average pace of expansion seen in the second quarter, July's rate of growth of services activity remained markedly weaker than seen in the first quarter.

Moreover, the services PMI data follow news that the manufacturing sector reported its toughest month since 2009 in July. The IHS Markit survey is indicative of manufacturing production falling at an annualised rate in excess of 3% and flirting with recession, led lower by a deterioration in exports.

Taken together, the weighted average of the PMIs for manufacturing and services points to GDP expanding at an annualised rate of under 2% in July, below the 2.1% gain seen in the second quarter and among the weakest rates recorded over the past three years.

Graphically, the PMI against GDP:

US PMI (US PMI and GDP from IHS Markit)

Discussion

Our basic analysis is that the US economy is still growing, most predictions being for about 2%. This isn't nothing and it's not bad for an economic expansion over a decade old already. It's also at about or perhaps a little under potential, meaning that we can - as long as nothing goes wrong - carry on like this forever at least in theory. Obviously we won't because something always does go wrong.

Manufacturing growth is slower than services, manufacturing on the edge of going into recession in fact. But that's such a small part of the economy now - say 10% as a round number - that it's not the concern it used to be.

Slowing but not dead yet then.

My View

All of the above is that objective reality. And I can't see anything in the usual economic numbers to tell us that this is about to end. Wages are going up, the expansion continues, inflation hasn't reared its head as yet, in fact is still below target. If this was all that we had going on then I'd be mildly optimistic about the markets.

And then I'm not optimistic because of Trump on trade. As Moody's Analytics puts it:

The escalating trade war is now the largest risk facing the U.S. economy. The nonmanufacturing index has previously dropped in the wake of big tariff announcements, and this is because the index measures both hard data and sentiment. Worried businesses may impact the index in the coming months, and current anecdotes, which did not take into account the most recent tariff developments, still included concerns with tariffs. If the Trump administration follows through with the latest tariff threat, the nonmanufacturing sector will take a much larger hit than previously, as a greater number of products are consumer goods.

As we saw with this latest announcement of another 10% tariff on Chinese goods - plus their reaction - we don't have just the economic factors to worry about. Politics is playing a part too. And I'm never sanguine about politics trying to fix the economy or markets. And I'm really never happy when someone who doesn't understand trade - the President - decides to use it as a weapon.

My view is that the American economy is doing just fine, growing sustainably. Our problem is whatever it is that gets done about trade. If victory is declared, a deal signed, then growth will continue. If we get yet another round of the trade war then I expect to see markets pulling off again and quite possibly much more than they have in the past couple of days.

The Investor View

Trade is the danger facing the American economy and thus the financial markets. It's unlikely that the trade war will actually cause a recession - trade with China simply isn't a large enough part of the American economy. But it's definitely large enough to slice a few more percentage points off the stock indices if the war games continue.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.