Today’s durable goods report is disappointing because everyone’s looking for unassailable confirmation that the economy has sufficient wherewithal to forge ahead. The latest numbers out of Washington fall well short of delivering a macro knock-out blow by that standard. The good news is that a close look at the durable goods stats doesn’t look fatal either.
New orders for durable goods slipped by 2.1% on a seasonally adjusted basis in June, reversing May’s 1.9% gain. But the back and forth of late, which feeds into the notion that the economy is stuck in neutral, masks a somewhat rosier trend. In the first half of 2011, for example, durable goods are up by 4.7%. Not too shabby, although it remains to be seen if the pace will continue. Meantime, if we take out the volatile transport sector, however, durable goods rose slightly in June, inching ahead by 0.1%, suggesting that short-term noise may be muddling the numbers as usual.
If we consider the bigger picture, there’s nothing particularly ominous in today’s numbers. The annual rate of change in new orders for durable goods is still encouraging. For the year through last month, this series was higher by 7.6%, as the chart below shows. Yes, the annual pace has been declining for more than a year, but that’s not surprising. After the initial surge from the early stages of the economic rebound fade, it’s inevitable that something approaching a normal level of growth is destiny.
For the record, a 7.6% growth rate looks impressive with the pre-crash days. Even if the trend slips further in the months ahead, which is likely, there’s still quite a bit of breathing room for positive thinking. Indeed, anything north of 3% to 4% on an annual basis implies that the broader economy will steer clear of recession. That by itself doesn’t solve the problem of low job growth, and that is surely a bigger issue if it rolls on. But that’s a topic for another post.
Meanwhile, why should we put so much stock in durable goods orders? Economist Bernard Baumohl explains in his book The Secrets of Economic Indicators: Hidden Clues to Future Economic Trends and Investment Opportunities:
Most economic indicators tell a story about what has already happened in the economy. Only a few provide solid clues about what might occur in the future. The Advance Report on Durable Goods orders is one such statistic, and that’s why it gets center-stage attention from the financial markets and the business community the moment it is released. When we are looking at “orders” for factory goods, it is about production that will take place in the months ahead.
A recent study that analyzes durable goods and asset prices agrees. “Durable orders likely reflect a more forward looking assessment of the economy,” according to professors Chris Jones and Selale Tuzel, both at the University of Southern California. “This is true for several reasons,” they write:
The first is that durable goods are largely comprised of capital spending and inputs to the production of other durables. Thus, orders of durables should reflect the expectations of businesses about the future profitability of capital investment. Second, durable goods are different from most nondurables in that they often require a substantial amount of time to produce. An order for a durable consumption good, for instance, therefore reflects a view of future rather than current demand for that product. An order for durable capital equipment may reflect a view of consumer demand that is even more forward looking if the use of that equipment is in the future production of other durable goods.
By that reckoning, the fact that durable goods are still rising on an annual basis suggests there’s more growth ahead in general. But the enthusiasm by looking backward only goes so far. It’s clear that the economy has recently suffered a slowdown, or rough patch or whatever you want to call it. For the moment, the blowback still looks rather mild by a number of analytical measures, including durable goods.
It’s also true that the recent slowdown has only started to infect the numbers and so it’s premature to estimate the damage. The real question is how the economic reports will look for, say, September on a year-over-year basis. If the annual pace in durable goods can continue to resist the forces of contraction in the months ahead, in concert with other metrics, we may have truly dodged a bullet. It’s still an open debate, but that’s encouraging, relative to what the crowd was thinking a month ago.
Even so, there’s no shortage of pitfalls lurking, including one rather large potential hazard.