Investors Should Feel a Little Better About the Economy, Even with the Looming Fiscal Cliff

Monday, 01 Oct 2012 12:45 PM

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INDICATOR: September Supply Managers’ Manufacturing Index

KEY DATA: ISM: (Manufacturing): 51.5 Percent (Up 1.9 percentage points): New Orders: Up 5.2 percentage points: Employment: Up 3.1 percentage points

IN A NUTSHELL: “The summer might have been the pause that refreshed rather than depressed manufacturers.”

WHAT IT MEANS: There have been growing concerns that the manufacturing sector, which was the only really strong element of the recovery, had given up the ghost. Well, it may have only pulled a Samuel Clemens, as the reports of its demise look to be premature.

The Institute for Supply Management’s survey of manufacturers came in a lot better than expected. After contracting for three months, the sector started to grow again in September, led by a sharp rise in orders. Let’s be clear, we are not talking about strong increases in activity, but up is an awful lot better than down.

While output eased a touch, that is not likely to continue, as firms are hiring more strongly, and you don’t add workers if you are slowing production.

Inventories are still being managed carefully, and while they are growing a little, with order books thinning, I wouldn’t expect a whole lot of additions to stocks over the next few months. The trade sector is hurting, as exports are still declining while imports are off as well.

In a separate report, construction spending fell 0.6 percent to an annual rate of $837.1 billion in August. While the rebounding residential sector showed further gains, office and commercial construction was weak, and spending on schools continued to be reduced, leading to a decline in government activity.

MARKETS AND FED POLICY IMPLICATIONS: We need manufacturing to resume a leadership position if the recovery is to pick up any steam. Consumers are still spending, but they can only do so much with inflation destroying the minimal income gains they are receiving.

The supply managers are saying industrial activity is getting better, but the results remain mixed, so we have to be cautious about the extent of the comeback. That said, investors should feel a little better about the economy, even if the fiscal cliff is looming.

Indeed, it is sounding more and more that no matter what happens, the payroll tax holiday is likely to end at the end of the year, and that means wage earners will be paying higher taxes. That is a reminder that there is no such thing as a free budget-reduction action, be it a spending cut or a tax increase. The issue is how to minimize the negative impacts in both the short term and the long run.

Of course, that would require our Senators and Representatives to actually have meaningful discussions about the positives and negatives of proposals. That bridge I have is still for sale.

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