Manufacturing industry contracts for first time in three years as PMI drops below 50 percent

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Well, it finally happened. The manufacturing industry’s strong run of consecutive monthly growth has come to an end, according to one key economic supply chain indicator.

For the first time in exactly three years, the Institute for Supply Management (ISM) Report on Business has registered a contracted Purchasing Managers’ Index (PMI) with August’s 49.1 percent reading. Any PMI 50 percent or higher indicates manufacturing expansion. Since March 2016, this is only the second time that the PMI has dipped below the 50 percent threshold.

Although some manufacturing economic forecasts predicted August to end with a 51 percent PMI, the fact that it dropped below 50 isn’t all that surprising considering how the last several months had been trending. After a 2.5 percent decrease from March (55.3) to April (52.8), the index continued a steady decline each month.

"Comments from the panel reflect a notable decrease in business confidence,” ISM Manufacturing Business Survey Committee Chair Timothy Fiore said. "August saw the end of the PMI expansion that spanned 35 months, with steady expansion softening over the last four months.”

A few sub-indices stood out the most during August’s supply chain plummet, mainly in new orders. The New Orders Index took a major hit, contracting to 47.2 percent. That was compounded by the fact the New Export Orders Index also contracted to 43.3 percent, a drop of nearly 5 points from July. Those lower orders, in turn, caused much less demand and slowed down workforce growth. The Employment Index contracted a jarring 4.3 percent from July to 47.4 percent.

This time last year, the PMI peaked at 60.8 percent, its highest mark since the Spring of 2011, when the PMI registered more than 60 percent four months in a row between February and May.

But what a difference 365 days make. The past year has been marred by a chaotic trade war with China, and that only intensified over the past few weeks when the Trump administration recently raised tariffs from 10 percent to 15 percent on $300 billion worth of Chinese products. And this past weekend, the U.S. added additional tariffs to another $112 billion. In response, China filed an official complaint with the Worth Trade Organization and tagged tariffs to $75 billion worth of American goods, including a 5 percent crude oil tariff.

So, it comes to no surprise that the ISM panel cited the trade war with China as the biggest determining factor in August’s 49.1 PMI reading.

"Respondents expressed slightly more concern about U.S.-China trade turbulence, but trade remains the most significant issue, indicated by the strong contraction in new export orders,” Fiore said. “Respondents continued to note supply chain adjustments as a result of moving manufacturing from China. Overall, sentiment this month declined and reached its lowest level in 2019.”

On top of the concerning trade war developments, U.S. manufacturing companies are also awaiting the fate of the Trump administration’s new North America trade deal. The proposed United States-Mexico-Canada Agreement (USMCA) still needs Congressional approval in order to replace the North America Free Trade Agreement (NAFTA).

On the metal fabrication side of things, August’s ISM report noted that the sector once again saw declines across several key categories, including overall production, new orders, employment, and export orders. The anonymous representative from the fabricated metal products segment the sector is, of course, keeping a careful eye on economic developments.: "Slightly lower rate of incoming orders may be seasonal or a sign of a general slowdown. Monitoring closely."

Keith Prather, co-managing director at Armada Corporate Intelligence, says that while legitimate fears over a recession aren’t warranted just yet, the red throughout the August ISM report shows that manufacturing has slowed down at an alarming rate after two years of robust industry-wide growth.

“Perhaps it was a sign of a single period of sluggishness – but it more likely is a sign that the U.S. manufacturing sector is really in some trouble,” Prather said in Armada’s recent Black Owl Report. “We typically don’t see the entire report react this way unless there’s real weakness (not a sluggish month or a problem with timing, weather, etc.). The good news is that the PMI really has to hit the low to mid 40’s for a couple of consecutive months before the broader economy would be at risk of recession.”