Growth Slowing, but No Need to Panic

Aug. 10, 2015
Industrial production growth is slowing down, but if you’ve been paying attention to ITR’s advice, there’s no need to panic.

At just 2.0 percent, April marked the slowest year-over-year rise since July 2013 in the monthly U.S. Industrial Production Index, confirming our outlook that U.S. industrial production will slow noticeably through the latter half of the year. On an annual average basis, industrial production is still up 3.8 percent from a year ago, but the rate of rise is clearly diminishing.

Along with slowing economic growth come negative emotional reactions and downbeat media headlines. But don’t get caught up in the hype. If you have heeded our warnings, your business is well positioned for a decelerating U.S. economy in 2015; avoiding linear sales and budget projections this year, but also eschewing harsh cutbacks.

No need to overreact. The soft landing will persist into about the first quarter of 2016. Accelerating rise will characterize the U.S. economy once more in 2016 through 2017. If this year seems a bit sluggish, and it will not be for everyone, it is important to focus on the acceleration in 2016.

Within the components of U.S. industrial production, low commodity prices are having a substantial impact on total mining production. Mining activity in April was only 1.0 percent ahead of last year, the mildest such gain in over five years. Our analysis of commodity prices and leading indicators tells us that the mining industry is going to slow further during the coming months. The manufacturing component of industrial production (74 percent of total industrial production) is also easing, although it is up 3.8 percent over the previous year. Expect further deceleration through the latter half of this year, particularly in the high-end capital goods sectors.

One development that you need to be aware of this month (especially if you incorporate our leading indicator programs into your strategic planning) is the recent, dramatic revisions undertaken by the U.S. Census to the estimates of new orders for a broad range of goods. The revisions impact the period from 2011 to present, and involve substantial downward adjustments to the capital goods new orders series that are key for many of our clients.

The revisions have necessarily spurred ITR to adjust our forecasts accordingly. In particular, non-defense capital goods new orders (excluding aircraft), industrial machinery new orders, and defense capital goods new orders are all being driven into recession this year in light of the newly released data. New orders for construction machinery, metal working machinery, electrical equipment, and computer and electronics products are all fairing relatively better under the revised data and are still on track for a soft landing in 2015. For clients/subscribers to our services, we advised them of this dramatic shift earlier so they could adjust their projections for 2015-2016.

It is important to note that none of these changes have altered our previous long-term forecast for U.S. GDP or industrial production growth in 2015 and 2016. The evidence is clearly pointing to a transition into a mild macroeconomic slowdown. The impact will be primarily focused in sectors of industrial production (mining, manufacturing) and some sectors of non-defense capital goods new orders (machinery, exports).

The leading indicators (ITR Leading Indicator, Purchasing Managers Index and the U.S. Leading Indicator) confirm our outlook for a soft landing this year. Fortunately, as the industrial sector is slowing, consumer spending is gaining strength, which will shoulder the overall economy.

Oil prices

The drop in oil prices dominated the news through March until suddenly prices rebounded 25.3 percent from March to May (around $58-$60/barrel), where they have stabilized in the last three months. This decline was much stronger than anything close to normal—the kind of asynchronous activity that leaves us scratching our heads. The trend toward a weaker dollar started after oil prices soared, so it is not causal from a timeline point of view. There is always the potential that the price trend is simply normalizing after shooting down too far too fast, and that prices are moving back to a level that does not cripple the industries or nations. Our outlook indicates that prices have normalized. Pullback in the oil patch, specifically oil rigs, has been swift and severe, which is expected to keep prices from dropping lower. Our year-end forecast for oil future prices (WTI) will be around $65-$70/barrel.

Private non-residential construction trends

The winner of construction trends was chemical building construction, which had record spending through April of $28.1 billion (annual basis) and a nearly unbelievable 68.0 percent above the year prior. The quarterly comparison of 75.6 percent means there is even more growth ahead.

Warehouse building construction spending rose 52.3 percent year-over-year. Although the quarterly construction data is slowing, activity is a relatively healthy 37.1 percent higher than the same period one year ago. Manufacturing construction spending in April was a robust 54.1 percent ahead of April 2014. This is the best year-over-year comparison in seven years.

Annual construction spending rose to $61.5 billion, lifting growth in annual spending 28.2 percent above a year ago. Expect growth to stay strong for the manufacturing sector into early 2016 before activity begins to level off. The progression toward generally slower growth is occurring in many sectors of private non-residential construction, as evidenced by the rate-of-change trends. However, overall this is one sector of the economy that will generally rise through 2017, with a slower rate of rise evident in the next 12 months.

Annual civilian aircraft equipment production rose 6.3 percent over the past 12 months to April. Quarterly results are strong. Expect growth to peak in 3Q15 before decelerating heading into 2016. A slower trend will last the duration of 2016 followed by robust growth throughout the industry in 2017. North American light vehicle production is up 5.1 percent over the past 12 months. An accelerated trend returned to the industry after a slow February, just as our forecasts projected. A peak is expected in the second quarter, with mild deceleration going into 2016. Reacceleration will return to the industry by mid-2016 and last into early 2017.

European industrial production appears to have stabilized and is moving higher, likely benefiting from a weaker euro. We revised our forecast upward for 2015 and 2016, projecting annual growth to rise by 1.2 percent and 2.2 percent, respectively.

U.S. competitive advantage

The U.S. economy undoubtedly is in the slowing phase of the business cycle. As growth slows (and some markets see outright decline), the need to retain your edge in the face of increasingly motivated competition is greater than ever. And the importance of leveraging your competitive advantages to maintain or grow profitability even as your markets slow is critical.

The two fundamental sources of competitive advantage are product/service differentiation and cost advantage. In simple terms, do it better or do it cheaper. On the downstream side, this means capturing a larger slice of a static market or perhaps even a shrinking market by offering your customers a superior product at a better value than your rivals. Our friend Jaynie Smith, founder of Smart Advantage, teaches that it is imperative that the superiority of the product or service be quantified in terms the customer cares about.

On the production side, competitive advantage means maximizing technological, input cost or recruitment advantages you have over competing producers. On the backside of the business cycle, the need to differentiate yourself becomes acute. Buyers will look to cut costs for non-essential outlays, so make yourself essential. Above all, do not become a commodity that cash-strapped customers will try to economize on when the macroeconomic situation deteriorates. Not only do your differentiators need to meet the criteria described above, but as Smith reminds us, you need to communicate with them so they appeal from your customers’ point of view in a way that is clearly measurable.

Current business cycle conditions present another avenue for competitive advantage, in cost. We know that the normal cycles of input prices, output prices, wages, and financing expenses occur. Timing these cycles to lock in long-term supply agreements, labor contracts and leases under current conditions of mild pricing and low inflation expectations can provide you with a significant cost advantage over rivals, boosting your margins as you head into the more lucrative times on the upside of your business cycle.

Conversely, avoid dropping your prices as the low point of the cycle approaches. Cheapening your product can lead you into the trap of commoditizing your business, negating any product differentiation advantage you have spent the time and effort to build up. It can also make raising prices later more difficult if it alters customer perceptions of your product’s value.

Jack Welch, former CEO of GE, offered this advice: “If the rate of change on the outside (economy or industry) is faster than the rate of change on the inside, the end is nearing.”

>> Alan Beaulieu, [email protected], is president of the Institute for Trend Research (ITR). The ITR blog can be found at

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