Everyone benefits when manufacturing increases

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Last year was a good one for U.S. manufacturing and related industries, with the value of production increasing more than it has in quite some time. This means that these segments of the economy are growing, which is clearly good news.

Businesses of all types benefit when manufacturing expands. Some provide the goods and services needed for production, and others sell the items purchased with the wages and salaries earning up and down the production chain.

Employment in these sectors also expanded, which is very encouraging and not always the case. It is widely chronicled and often lamented that the U.S. has suffered a notable long-term decline in manufacturing employment.

What is usually lost in such discussions, however, is the fact that manufacturing output is setting new records just about every year (including 2017). We are making more stuff than ever, but we are using more technology to generate higher value-added in the process.

The U.S. remains very much a manufacturing economy and becomes more so every year. When employment and industrial production are both trending upward, as they are now, it is an especially welcomed and positive signal.

The industrial production index is a widely watched measure of the health of U.S. manufacturing, mining (including oil and gas), and electric and gas utilities. To back up a step, “production” measures the value of output for all facilities in the industry of interest. (“Output” is simply the value of the goods or services they make.)

The Federal Reserve tracks industrial production and releases estimates every month, proving helpful insight into short-term changes and structural developments in the economy.

The latest numbers show that total industrial production jumped significantly in the fourth quarter, after being constrained in the third quarter by Hurricanes Harvey and Irma.

For the year, the index increased 3.6 percent. While that may sound like a small gain, it’s the largest increase since 2010 and it puts the index at an all-time high (fully adjusted for inflation).

Looking at the changes by industry, the mining industry group rose at an impressive rate of almost 12 percent with the recovery in crude oil prices and the resulting resurgence in exploration and production in the segment.

The production index for oil and gas well drilling rose by 40 percent. Even more impressive gains were realized in the computers and peripheral equipment industry group, up nearly 23 percent.

A number of industries are contracting, primarily in the generally lower-technology aspects of manufacturing such as apparel and furniture.

Most industry groups are expanding, but the past five years or so have seen dramatic production increases in several, indicating the overall trends in the economy.

Not surprisingly, the semiconductors and related electronic components and computers and peripheral equipment groups topped the list, with the value of output up more than 45 percent over the period. Motor vehicles and parts are also up significantly.

In addition to output, the Federal Reserve also looks at capacity and capacity utilization. The capacity utilization rate measures the percentage of resources (both labor and capital) used by corporations and factories to produce the finished goods to meet demand.

As of December 2017, overall capacity utilization stood at about 78 percent, up from 76 percent a year prior. Full capacity is not the goal, because that leaves little or no flexibility to deal with changes in demand; in addition, pushing up utilization too far can cause inefficiencies and bottlenecks in the production process.

A common “normal” utilization is about 80 percent. During the Great Recession, capacity utilization dipped below 67 percent, which was the lowest it had been in about five decades, and today’s level is a major improvement even though it remains a little below the long-term historical average.

Looking at the industry detail for capacity utilization reveals several industries which are close to the maximum.

Computers and peripheral equipment stands at near full capacity (more than 97 percent). Several others are above normal including paper; mining (which includes oil and gas); electrical equipment, appliances, and components; motor vehicles and parts; fabricated metal products; and plastics. On the other hand, apparel and leather, printing and support, and nonmetallic mineral products are operating well below capacity.

For industries near capacity, resources will be added if companies believe demand will remain strong. Hiring and investing in new facilities is very strong in certain aspects of technology, for example, and will likely continue. Such innovative industries are where the future of US manufacturing lies, as they are where we can best use our considerable competitive advantages.

Dr. M. Ray Perryman is President and Chief Executive Officer of The Perryman Group (www.perrymangroup.com). He also serves as Institute Distinguished Professor of Economic Theory and Method at the International Institute for Advanced Studies.

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