Rise in U.S. manufacturing activity masks underlying weakness

U.S. manufacturing grew for a third straight month in May, but factories appeared to be taking in fewer deliveries from their suppliers, which could hamper production in the months ahead.

Other data on Wednesday showed automobile sales slowing last month and a sharp drop in construction spending in April, bucking the recent flow of relatively strong data that suggested economic growth was regaining speed in the second quarter.

The Institute for Supply Management (ISM) said its index of national factory activity rose half a percentage point to a reading of 51.3 last month, with a jump in prices paid by factories for raw materials also accounting for the increase.

A reading above 50 indicates expansion in the manufacturing sector, which accounts for 12 percent of the U.S. economy. The ISM’s supplier deliveries sub-index surged five points to a reading of 54.1 last month. A reading above 50 in this index indicates slower deliveries.

“The rise in the ISM exaggerates the underlying tone in the U.S. manufacturing sector. While the jump in supplier deliveries is a good thing from an inventory perspective, it is perhaps a signal of weaker production activity ahead,” said Millan Mulraine, deputy chief economist at TD Securities in New York.

U.S. stocks were little changed, while the dollar fell against a basket of currencies. Prices for longer-dated U.S. government debt rose.

Manufacturing remains constrained by the lingering effects of the dollar’s surge and oil price plunge between June 2014 and December 2015. The sector has also been hurt by business efforts to reduce an inventory glut, which has resulted in fewer orders being placed with factories.

Although the dollar’s rally is fading and oil prices are steadily rising, economists do not expect a strong bounce back in factory activity.

New orders received by factories were little changed in May, production tumbled and order backlogs shrank. New export orders were unchanged and factory employment continued to contract. There was also an increase in the number of manufacturers reporting that customers’ inventories were too high.

PERSISTENT WEAKNESS

While the ISM index has remained in expansion territory for three consecutive months, so-called hard manufacturing data has been generally weak. The government reported last week that orders for long-lasting manufactured capital goods, excluding defense and aircraft, fell in April for a third straight month.

A separate manufacturing survey from data firm Markit showed factory activity in May was the weakest since September 2009.

“A turnaround in manufacturing is going to take time, it’s not going to happen overnight,” said Ryan Sweet, senior economist at Moody’s Analytics in West Chester, Pennsylvania.

Separately, reports from auto manufacturers showed weak demand for sedans and fewer selling days holding down motor vehicle sales in May. Ford Motor Co (F.N), reported a 6 percent drop in sales last month from a year earlier. It estimated overall U.S. sales would decrease by about 8 percent in May.

General Motors Co, the largest U.S. automaker, reported an 18 percent decline in sales last month. Weak auto sales would suggest a slowdown in consumer spending in May after posting its largest increase since August 2009 in April.

A third report from the Commerce Department showed construction spending tumbled 1.8 percent, the largest decline since January 2011, after an upwardly revised 1.5 percent jump in March. Construction spending was previously reported to have increased 0.3 percent in March.

The weak auto sales and construction reports interrupted the stream of bullish data – including consumer spending, industrial production, goods exports and housing – which have bolstered views the economy was regaining speed after growth braked to a 0.8 percent annualized rate in the first quarter.

As a result of the soft report, the Atlanta Federal Reserve cut its second-quarter gross domestic product estimate by four-tenths of a percentage point to a 2.5 percent rate.

However, the sharp upward revision to March’s construction spending suggests the government’s first-quarter GDP growth estimate could be revised higher.