By Michael K. Evans

Both shipments and new orders strengthened in July, rebounding to 57.3 and 56.4, respectively. With shipments rising slightly faster than new orders, the index component for unfilled orders fell slightly, dropping to 48.7 from 52.6.

Shipments also rose faster than production; that index fell to 54.9 from 60.6. This indicates inventory stocks were drawn down in July, and that component of the index fell to 41.2 from 47.2. However, that also resulted in a very lean inventory/sales ratio relative to desired levels, so that component of the index rose to 56.2 from 51.4.

Manufacturing employment rose in July for the fourth month in a row and seven out of the last eight months, with that component of the index rising to 59.8 from 54.1. This gain is attributed in part to fewer summer plant closings, although even without that factor, employment gains appear robust.

Production plans dipped to 48.5 in July, which suggests somewhat less robust growth in production over the next three months. However, that figure should be interpreted in the light of fewer plant closings in July. The average gain in production from June through September will probably be about 0.3 percent per month.


Current Conditions Components
•Manufacturing Shipments continued their robust gains in July, rising an estimated 0.7 percent. In June, the Commerce Department reported that durable goods shipments rose 1.8 percent, with strong gains in all components.

•Manufacturing Employment continues to post gains. Last month, the APICS survey reported a 15,000 gain; the preliminary Bureau of Labor Statistics (BLS) figures showed a 14,000 gain. The gain for July could be larger; many survey participants report that plant closings in July will be shorter or milder than usual. However, the seasonal factor BLS uses is different from the APICS seasonal; applying the BLS seasonals to these data indicates another 15,000 gain in employment for July.

•According to the APICS survey, Manufacturing Production rose 0.3 percent in February and March, 0.4 percent in April and May, and 0.6 percent in June. After substantial data revision, the Fed series now shows an average gain of 0.3 percent for the past three months; we think the June figure will be revised closer to the APICS numbers, as previously happened with the April and May data. For July, the APICS survey shows another gain of 0.3 to 0.4 percent.

•Unfilled Orders for durable goods, excluding transportation, rose 0.3 percent in June, roughly in line with but slightly higher than the APICS estimate. For July we look for a slight dip in unfilled orders, as shipments rose somewhat faster than new orders.

•Manufacturing Inventory Stocks dipped again in July, as shipments rose faster than production. In line with cost-cutting measures generally, firms continue to pare manufacturing inventory stocks wherever possible. A drop of 0.3 percent in stocks is expected for July. The Commerce methodology for measuring inventory valuation adjustment is somewhat different; on their basis, stocks will probably be unchanged.


Future Conditions Components
•New Orders for durable goods, excluding aircraft and defense, rose about 0.5 percent in July, according to the APICS survey. Last month, this category of orders rose 0.8 percent, more than anticipated by the APICS survey.

•The index for Production Planning dropped below 50 for the first time since February. However, that figure partially reflects the fact that more firms than usual kept their plants running at regular levels in July. That was also seen in the unusually high Production Planning Index reading of 60 for June. If these two months are averaged together, the resulting figure of 54.2 indicates a 0.3 percent average monthly gain in production for the July-September quarter.

•The actual to desired Inventory/Sales Ratio, which is an inverted series, moved up to 56.2 from 51.4 in July. With the substantial gain in sales and further drawdown in inventory stocks for the month, I/S ratios are at unusually low levels, which should augur well for production and shipments during the next few months.


Just Like Ol' Man River ...
... The economy keeps rolling along. The APICS index for the past four months has been 53.4, 53.0, 52.4 and 53.0 again in July. Such a period of stability is unprecedented. But then again, the economy is firing away smoothly on all cylinders, growing at a steady rate of almost 4 percent, equivalent to the expansion of total capacity.

Indeed, outside of the badly distorted Gross Domestic Product statistics, there is no evidence that the economy surged ahead in the first quarter and then slumped in the second quarter. The figures for production, employment and personal income, excluding transfers, show roughly the same rate of growth in both quarters. Only the wildly erratic retail sales numbers give rise to the rumor of a boom/slump scenario.

Whether the economy stumbled or not this spring — and the reported slowdown was largely illusory — the decline in bond yields of almost a full percentage point from their mid-April highs provides yet another reason for smooth sailing ahead.

Initially there was some concern that the tax cut would boost the deficit, thereby raising interest rates, but that concern was wiped out by the $60 billion drop in the deficit for the second year in a row, and the likelihood that the budget will indeed be balanced in FY 1998.

The inflation story has long since become a non-event, although a few economists still don't believe that. However, long-term studies on behavior of investors show that, in spite of the frenetic minute-to-minute trading of bond market jockeys on each and every piece of irrelevant economic information, it takes about five years before investors fully adjust to major shifts in inflation. In this case, there were two myths to overcome: first, that inflation could decline below 4 percent, and second, that it could remain stable once the economy reached full employment.

1996 marked the fifth consecutive year that the inflation rate, as measured by the consumer price index (CPI), rose 3.0 percent or less; 1997 will be the sixth consecutive year. However, many people were not convinced until the early 1997 data showed slower growth in both the CPI and employee costs.

An exogenous shock, if severe enough, could boost the inflation rate again. Nonetheless, we feel very comfortable in saying that in the absence of energy crises or wars, the inflation rate will remain at or below 3 percent indefinitely. Indeed, with the BLS quietly making several changes that will have the cumulative impact of slicing 0.3 to 0.4 percent per year off the rate of inflation, the reported rate of inflation will probably average 2.5 percent over the next several years.

If this is indeed the case, and the budget stays in balance, the Treasury bond yield should decline another full percentage point, falling below 5.5 percent. As a result, 3.5 percent growth for the overall economy — and 4 percent for the manufacturing sector — could continue indefinitely.

Some claim that the growth rate could eventually outstrip total capacity, leading to a reappearance of inflationary pressures. However, our data do not support that hypothesis. They show employment is rising 2 percent per year, capital stock is increasing 3 percent per year and technological progress is advancing at least 1 percent and probably 1.5 percent per year; the government figures for this measure are woefully understated. Based on these numbers, total capacity is indeed increasing 3.5 to 4 percent per year.

For quite some time Alan Greenspan did not understand this, so he thought it was necessary for the Fed to tighten if real growth exceeded 3 percent. However, Greenspan admitted that while he didn't understand why the economy was growing so rapidly, it didn't seem to be doing any harm.

Thus with stable inflation and no impediments from the monetary authorities, the APICS index continues to point to robust growth ahead for the indefinite future. Real GDP should rise 3.5 to 4 percent not only in the second half of this year, but in 1998 as well.

The APICS Business Outlook Index was created and developed by Michael Evans of Northwestern University, in conjunction with APICS. The index consists of the following components, based on Evans' monthly survey of participating manufacturing firms:

•CURRENT CONDITIONS COMPONENT: Manufacturing shipments, employment, industrial production, inventory stocks

•FUTURE CONDITIONS COMPONENT: Future Component lagged 2 months. Durable goods new orders (excluding aircraft and defense), production plans, unfilled orders, ratio of actual-to-desired inventory/sales ratio APICS members and others from companies that might be potential participants in the APICS Business Outlook Index are urged to call Dr. Michael Evans at (847) 328-2468. APICS staff contact for the index is Barbara Gleason, APR, senior communications manager, APICS Headquarters, (703) 237-8344, ext. 2271. APICS Index Performance