Data are generally collected in value terms and deflated into volume terms using assumptions about accounting practices, stockholding patterns and price changes. The breakdown between the physical change and stock appreciation can be unreliable, especially during periods of rapid inflation.
Cycles
In general the level of stocks rises as national income increases, but there are wide fluctuations which reflect the economic cycle.
Stocks are a buffer between production and consumption. When demand increases unexpectedly, the first sign is a decrease in inventories before manufacturers can respond by increasing output. Alternatively, if an increase in demand is expected, stocks may be built up in advance ready to meet the extra demand. Either way, production can increase faster than demand for short periods during restocking or stockbuilding.
Stocks accumulate when demand turns down unexpectedly; production might fall faster than sales as excess stocks are consumed.
Inflation
Stocks of raw materials react violently to expected changes in world commodity prices (see also page 205).
Interpretation
The stocks:sales ratios at each stage of activity (manufacturing, wholesaling, retailing) are important leading indicators.
If the ratios are higher than normal (look at a long run of figures), this implies that production and imports will be cut unless demand increases. If the ratios are lower than normal the implication is that production and imports will rise unless demand falls (but note that stock ratios fell sharply in the industrial countries during the 1980s because of better stock control techniques such as just-in-time). If the ratios are low and there are capacity constraints (high capacity utilisation and/or low unemployment), the excess demand might go into higher inflation or imports.
High or low stocks:sales ratios all the way through the economy give fairly clear signals. Different ratios at different stages imply bottlenecks or structural problems. For example, a low ratio in retailing and a high ratio in manufacturing may indicate that an increase in consumer demand has not yet fed through to manufacturers, or it might suggest that domestic producers cannot provide the required goods and the excess consumer demand is going into imports.
Surveys (see Business conditions, page 115) provide useful evidence about companies’ perceptions of their stocks. If, say, manufacturers think that their stocks are too high, they will cut production over the next few months unless demand increases.
GDP
It is not the total level of stocks but the change in the rate of stockbuilding which affects the GDP expenditure measure. An increase in stocks reflects extra output that has not been consumed. Note, however, that a fall in the level of stocks can lead to an increase in GDP if the rate of destocking slows.
The effects of changes in stocks are limited when measured over several years, but stockbuilding is highly volatile quarter-by-quarter. Accordingly, changes in the rate of stockbuilding can be a major influence on demand and GDP. The snag is that stockbuilding is the trickiest component of GDP to forecast.
National savings, savings ratio
Measures: Total savings in an economy.
Significance: Major influence on investment and interest rates.
Presented as: Totals; percentage of GDP.
Focus on: Trends.
Yardstick: The OECD average was around 20% during the 1990s and 2000s.
Released: Quarterly with GDP figures. Total savings = investment.
Overview
Savings (deferred consumption) affect investment (the basis for future output and consumption). For the economy as a whole it is the national savings rate which is important: the sum of savings by the private sector and the government.
Gross savings are the savings required to finance gross investment. Net savings are those required to finance investment net of capital consumption. The national savings ratio is savings as a percentage of GDP.
Private savings
Private savings are the sum of savings by persons and companies. (See also Personal savings, page 96.) Company savings are cyclical since businesses hold liquid reserves to cushion themselves against the economic cycle and to provide funds for expansion.
8.3 Gross national savings
Source: OECD
Table 8.3 Savings ratios
Government savings
Government savings are general government revenue less current expenditure. Government capital spending is classed as investment. Thus although the budget balance is often taken as a proxy for government savings, there can be a large difference between the two (amounting to, for example, 5.0% of GDP for Italy during the early 1990s).
Government savings or, frequently, dissavings reflect political decisions and are largely cyclical. Budget cuts in the industrial countries led to higher government savings or lower government dissavings as a percentage of GDP in several OECD countries in the 1990s.
National savings and the investment gap
A net inflow of foreign capital implies that domestic savings are less than domestic investment: foreigners’ excess savings fill the gap. A net outflow of capital implies that domestic savings are bigger than domestic investment. Net foreign savings are conveniently defined as the balance on the current account of the balance of payments with the sign reversed (see Current-account balance, page 146).
Current-account deficits indicate the extent to which domestic investment is financed by foreign savings. For example, the American current account deficit (averaging 5.5% of GDP in 2005–08) represented anet inflow of foreign savings of the same proportion.
Interpretation
Trends in domestic savings are an important indicator to watch. The comments in this chapter suggest that an increase in domestic savings rates would be no bad thing.
Chapter 9
Industry and commerce
If economists were any good at business, they would be rich men instead of advisers to rich men.
Kirk Kerkorian
Partly for historical reasons, there is an abundance of economic indicators relating to industry and commerce in general and manufacturing in particular. These provide useful, timely signals of activity, but it should be borne in mind that their coverage is relatively narrow.
Interpretation
Industrial and commercial indicators provide a guide to both the output and expenditure measures of GDP. These should be used in conjunction with cyclical indicators (page 55) to assess overall economic activity.
Output
The main clues to output include manufacturing and industrial production, car production and sales, construction spending, housing starts, and wholesale and retail sales.
Table 9.1 shows the relative importance of the main sectors. Note that services account for 66–77% of output in the major industrialised countries, according to the OECD, but they are relatively neglected among the commonly followed indicators of output. Employment (page 66), consumer spending (page 92) and government consumption (page 34) also provide clues to services.
Table 9.1 Output by sector, 2007 or latest
It is value added that matters: the value of output less the cost of raw materials and other inputs. This is what manufacturing and industrial production figures measure, but the other indicators are before the deduction of input costs.
Expenditure
The main indicators of industrial and commercial expenditure are fixed investment and investment in stocks (see Chapter 8).
Fixed investment figures are available only after a lag. This chapter will show that business conditions, construction spending and housing starts provide a useful advance guide; so do manufacturers’ production of capital goods and net imports of capital goods. Manufacturing, wholesale and retail inventories provide clues to changes in total stocks.
Investment figures should be used with consumer spending, government consumption and exports and imports to assess total GDP on an expenditure basis. This chapter’s briefs on retail and vehicle sales provide clues to consumer spen
ding and imports. Manufacturers’ orders from abroad are indicative of export demand.
9.1 Structure of production and sources of growth
Note: Includes countries where 2008 GNI per capita was above $11,905.
Source: World Bank
Coverage
Many figures such as orders and productivity can be related to the whole economy, but for convenience are often produced for manufacturing alone. It is important to be clear about the coverage of any figures you use. Where they relate to manufacturing alone, consider whether other sectors of the economy might be moving differently.
Key indicators
The following briefs are arranged broadly from top to bottom: from the whole economy through to individual sectors, and from manufacturing through wholesaling to retailing.
Business conditions; indices and surveys
Measures: Anecdotal evidence of business climate.
Significance: Valuable early warning of changes in economic cycle.
Presented as: Index number or percentage balance of companies optimistic or pessimistic.
Focus on: Trends.
Yardstick: Watch for indicators of rising or falling confidence. The US ISM index has a breakpoint of 50 (see text).
Released: Monthly or quarterly, one month in arrears; rarely revised.
Overview
Surveys provide valuable evidence of perceptions and expectations relating to business conditions, usually in manufacturing. Responses are subjective but they give early signals of changes in economic trends. (See briefs on Orders, Inventories, Prices, Retail sales, and so on, for comments on individual parts of the surveys.)
Private-sector bodies conduct surveys in some countries (for ex -ample, confederations of industry in Australia, Britain, Finland; IFO in Germany), but some government agencies do the work (for example, Statistics Canada, the Bank of Japan). Many surveys are quarterly, although where they are monthly some questions are asked only 3–4 times a year (for example, capacity use in France and Germany).
America
The US Institute for Supply Management (previously National Association of Purchasing Managers) publishes monthly indices covering factors such as the state of order books, inventories, production and prices, and a composite index of industrial conditions (the PMI).
A composite index reading above 50 indicates an expanding manufacturing sector, a figure below that indicates a contracting manufacturing sector. A reading below 44 is taken as a sign of a declining economy overall.
Also useful are the US Federal Reserve’s report on regional trends (known as the Tan or Beige Book) and the Conference Board’s surveys of business conditions.
The UK
The Confederation of British Industry (CBI) conducts several surveys. About 450 manufacturers take part in its monthly surveys, providing a guide to their expectations, mostly for the three months ahead. Its monthly distributive trades surveys, covering 20,000 outlets of firms responsible for 40% of employment in retailing, provide information about current and expected conditions in retailing and wholesaling outlets.
9.2 Industrial production
Sources: OECD; Economist Intelligence Unit
The CBI surveys are presented in the percentage balance of companies’ reporting orders, exports, etc up minus those reporting them down. The OECD uses a similar style. Interpretation is not as clear-cut as with the American surveys, but trends provide a good indication of perceived conditions. The CBI confidence measure is reckoned to provide a guide to corporate earnings nine months in advance.
British economists also watch the monthly indices published by the Chartered Institute of Purchasing and Supply (CIPS) and Markit Economics. They produce separate surveys of manufacturing, service and construction companies. As with the PMI in America, a CIPS index above 50 indicates expanding output; below 50 implies contraction.
Japan
The Tankan survey of business sentiment, issued quarterly by the Bank of Japan, covers about 9,000 firms. It is regarded as an influential guide to the health of the Japanese economy and of business confidence.
Industrial and manufacturing production
Measures: Value-added output of mines, manufacturing companies, utilities and, in some cases, construction.
Significance: Indicator of industrial activity.
Presented as: Index numbers in volume terms.
Focus on: Trends in volume terms.
Yardstick: OECD average industrial production grew by 1.7% a year during 2000–08. Manufacturing production in the euro area grew by 0.6% during the same period.
Released: Monthly, at least one month in arrears; revised.
Coverage
There are two main series, which are usually released together.
Manufacturing production. This is the value-added output of manufacturing companies.
Industrial production. This is manufacturing production plus the supply of energy and water, and the output of mines, oil wells and quarries, and, sometimes, construction. It generally excludes agriculture, trade, transport, finance and all other services.
National coverage varies widely eg, Germany covers construction, Eurostat data excludes it. Russia includes estimates of hidden production by registered enterprises and the production of entrepreneurs operating without a corporate legal entity (obtained from tax records).
In total, for industry the index in Japan covers about 60%, Spain around 70%, Germany and Italy 80%, and the Netherlands, Sweden and Britain up to 100%. France conducts a monthly survey covering 65% and a fuller quarterly survey covering 85% of industry. Australia and Switzerland have quarterly indices only.
The importance of manufacturing and industry Manufacturing
Broadly speaking, in advanced economies, manufacturing ranges from about 12% of GDP in France to 23% in Germany and 34% in China (see Table 9.1). Manufacturing is tiny in some African states, but it rises to 30–35% of GDP in emerging markets such as Malaysia and Thailand. Chart 9.3 shows the importance of manufacturing across 13 countries, the euro area and OECD.
Chart 9.3 Manufacturing sector
Source: World Bank
Industry
The difference between manufacturing and industrial production accounts for about 10% of GDP on average. This takes total industrial production to about 22% of American GDP and about 30% of Japan’s (see Table 9.1).
The gap is more significant where the energy-producing sector is large; OPEC members’ industrial production often exceeds half of GDP.
Interpretation
Industrial production as a whole is broadly indicative of the state of the economic cycle. The output of industries producing capital goods and consumer durables tends to be squeezed most during a downturn. Some countries produce separate figures for various sectors (see Motor vehicles, page 123). Steel production is a useful lead indicator since it is an input to many other industries.
Capacity use and utilisation
Measures: Extent to which plant and machinery is in use.
Significance: Indicator of output and inflationary pressures.
Presented as: Percentage of total capacity.
Focus on: Absolute level and trends.
Yardstick: 80–90%; more may be inflationary, less indicates room for growth.
Released: Monthly, 1–3 months in arrears; revised.
Overview
Total capacity
Capacity is a vague, hard-to-measure concept which varies over time and according to economic conditions. The term is generally used to refer to the sustainable maximum output that could be prosduced by existing (installed) manufacturing plant and machinery, although sometimes other factors such as labour are taken into account. Either way “normal capacity” will vary if working practices are changed, even if only by increasing the working week by one hour. (See Productivity, page 53.)
Capacity use
Capacity use is usually defined as output divided by sustainable maximum capacity. Sustainable maximum output is lower t
han temporarily attainable peak production, so use of (sustainable) capacity can and occasionally does exceed 100% in some industries.
Overall capacity use does not go as high as 100% because different companies reach their peaks at different stages of the economic cycle. Also bottlenecks in one industry restrict supplies and therefore output in another: in major cyclical peaks, a shortage of metals can limit output of consumer durables and business machinery, and restrain capacity utilisation in those industries.
Capital investment
Figures for capital investment are sometimes taken as indicators of changes in capacity, but investment is usually measured gross, with no allowance for scrapping. Even where allowance is made, the net capital stock may not be representative of output potential. Moreover, the increase in capacity derived from a unit of new capital is affected by factors such as new technology, an increasingly shorter life for capital equipment, a longer work week for capital, restructuring of industry and the closure of plants.
Interpretation
Strong economic growth with high capacity use usually suggests inflationary pressures. However, if demand is expected to remain buoyant and if interest rates are low, producers may invest in new plant and machinery.
If the economy is expanding, but there is low capacity use and no evidence of recent new investment, it may be that the economy is recovering from recession.
American capacity utilisation
The US Federal Reserve is one of the few national official bodies to produce estimates of capacity use and its figures are undoubtedly the most detailed and consistent available, but not even the Fed conducts surveys of capacity or capacity utilisation. Instead it uses data from the Census Bureau and various trade organisations to estimate capacity in various industries. Overall capacity utilisation is industrial production divided by the capacity index.
The Fed defines capacity as the realistically sustainable maximum capacity, rather than unsustainable short-term peak capacity.
Guide to Economic Indicators Page 10
