Industrial and manufacturing production mixed, but also consistent with the end of front-running

 

 - by New Deal democrat

Today’s second report was for industrial production, including its important manufacturing component. 

The data for May was mixed, as total production (blue) declined -0.2%, while manufacturing production (red) increased 0.1%

In March I wrote that “I suspect the big increases in February and March in manufacturing, like this morning’s retail sales numbers, were about front-running T—-p’s tariffs. Which means that like retail sales, production might have been pulled forward from the next few months, which may lead to whipsaw declines.”

Revisions to the data released this morning and going all the way back to last year showed a more complex picture. The net effect of the revisions was a decline of -0.1% for each measure through April. But the main point stands, as total production peaked in February, and manufacturing production peaked in March:

On a YoY basis, both total and manufacturing production are up 0.6%, a sharp deceleration from the previous four months:

Both of this morning’s reports were important. Industrial production has historically been one of the two main coincident indicators for recessions, while real retail sales are both an important short leading indicator, and to the extent they presage real personal consumption, which is another important coincident behavior. Both of them declined, probably due to the end of front-running tariffs by both consumers and producers. At the same time, both are within the range of noise, and for both to actually signal a downturn I would need confirmation from other short leading indicators, as I discussed yesterday.

May real retail sales: the front-running of tariffs is over

 

 - by New Deal democrat

We can safely say that the front-running of tariffs is over. As usual, real retail sales is one of my favorite indicators, because it tells us so much about consumers, and since consumption leads employment, it gives us information about the trend in that as well. And this morning’s report for May was our earliest indication in the monthly data of the post-Tariff-palooza! trend.

Nominally retail sales declined -0.9% in May, and were up 3.3% YoY. But because consumer prices rose 0.1%, real retail sales declined -1.0% for the month (blue in the graphs below). In recent months I have also been calculated real sales excluding shelter, because that has been distorting the CPI. This month real retail sales ex-shelter were down -1.1% (gold). In the below graph I also show real personal consumption expenditures for goods (red), which tends to track real retail sales well, but won’t be reported for several more weeks (Note: graphs normed to 100 as of just before the pandemic):

With rare exceptions - one of which was in 2023-24 - when real retail sales are negative YoY, a recession has followed shortly. Even after this month’s downturn, in the past 12 months, real retail sales YoY are up 0.9%, and excluding shelter, up 1.8%:

Probably the best way to look at this is to average last month and this month, which would mean that the YoY trend has been about equal with that of the end of last year, when real sales were in the range of 2.0%-2.5% higher YoY. If next month’s report does not show a further decline, the YoY measure will still be positive. But if it is further decline like this month, likely the measure will be negative again.

Finally, let’s compare the YoY% changes with their potential effects on employment (red):

To reiterate, consumption leads employment. Changes in the strength of sales show up with some number of months’ delay in changes in the strength of employment. Because real sales are still positive, and the average of the last few months has not deteriorated, that suggests that the jobs report should stay positive for the next few months, with YoY gains on the order of 1%, with two caveats: (1) the YoY comparisons in employment in the next few months will be with gains of less than 100,000 last summer, meaning that similar numbers might be expected this summer as well; and (2) the QCEW, which is the “gold standard” for employment, has been indicating gains of only about 0.8%-0.9% YoY for the latter parts of last year, meaning that for the YoY gains to remain steady, even weaker job reports in the next few months might be expected.

But to reiterate: the main takeaway from this month’s retail sales report is that the consumer front-running of tariffs has ended, and payback (of unknown duration and strength) has begun.

Updating the nonfinancial long leading indicators, plus several important short leading ones

 

 - by New Deal democrat

Since a couple of years ago, I temporarily suspended my updating of the long leading indicators. That is because their negative slant in 2022 was completely overcome by the hurricane force tailwind of the unspooling supply chain kinks. By that time the Fed had already raised rates more steeply than at any point since 1981. So looking forward, should the financial indicators in particular still be normed to their best post-pandemic readings, or re-normed to after the supply chain unkinked? There was no way to know.

But at some point they must resume their salience. At this point I think it is fair to restart examining the non-financial long leading indicators; that is, those not directly under the control of the Fed or at least partially so, like interest rates, the yield curve, and real money supply.

The non-financial long leading indicators are housing permits, corporate profits, and real sales per capita. So let me take a K.I.S.S. look at each of those, plus several other salient short leading indicators; namely, real spending on goods, real aggregate nonsupervisory payrolls, and initial jobless claims. All of the graphs below are rendered YoY for ease of comparison.

First, here are corporate profits after tax, both before (light gray) and after (dark blue) accounting for inventories, divided into three time periods, again for ease of viewing. Here is 1948-1966:

Note that the measure adjusting for inventories appears to be a slightly better indicator.

Next, here is 1967-1996, and 1997-2019, also including the quarterly average of initial jobless claims, which began to be reported in 1966 (inverted):

Note again that adjusting for inventories gives us a better indicator. And when we include initial jobless claims as well, i.e., both indicators must be negative, the record is perfect except for one quarter in 1998.

Now here is the post-pandemic record:

Again, at no time since the pandemic have both profits after adjusting for inventories and initial jobless claims been negative simultaneously. 

Here is the update, as of last week, of corporate profits as reported to investors through Q1, together with Wall Street estimates going forward:

Note that profits are anticipated to decline for the second quarter in a row this quarter, but not to be negative YoY.

Next, let’s look at housing permits (blue) together with housing units under construction (red), which is the more “real” measure of ongoing economic activity in this sector:

With the exception of Q4 2023, permits have been negative since the summer of 2022. Units under construction went negative in late 2023, and turned ever more negative through the end of 2024. They are still down more YoY than at any time entering a recession, except for 2007.

Next let’s look at real retail sales (blue) for the 60 years up until the pandemic. The below graph is not per capita in order to K.I.S.S., but population growth has tended to average about 0.75% to 1% a year, so it is easy to adjust. I’ve additionally included real personal consumption of goods (red), which has a similar trend:

Except for a few isolated months, when real retail sales went negative YoY, a recession was imminent or had just started. Real spending on goods avoided those false positives, but several times did not turn negative YoY until late in recessions or not at all.

Now here is the post-pandemic look:

Real retail sales again gave a false positive for an extended period of time, but has turned up over the past year. Real spending on goods avoided most of that, and has similarly trended higher beginning in 2023. Much of the positivity in the last few months has probably involved front-running tariffs, so it will be interesting to see what happens in the May reports, which for retail sales will be issued tomorrow.

Finally, here is an update on real aggregate nonsupervisory payrolls, based on the CPI reported last week:

Again, this almost always has turned negative YoY, or at least decelerated sharply, just before a recession has begun. By contrast, this measure has been trending higher since the beginning of 2024. It currently sits at higher by 2.8% YoY. I would expect that to decline below 1% by the time a recession begins.

Let’s sum up the nonfinancial long leading indicators. The housing sector is giving recessionary readings. Corporate profits adjusted for inventories are weakening, but are still positive YoY. But real sales are not just positive, but they have been improving.

Additionally, neither real aggregate payrolls nor initial jobless claims are signaling a downturn at this point. In fact, while the latter is weak, the former measure is strongly positive through last month.

I would expect all of the above measures to falter, or falter further, before a recession were to begin, even with the complete chaos coming out of Washington. That is, I would expect corporate profits to decline further, real sales to turn down, and real aggregate payrolls to decelerate sharply by then.