Flash PMIs: Divided We… Survive?

The S&P Global flash PMIs are for April that show strengthening in the composite readings for each of the reporting economic units in the table. Manufacturing, however, is weakening in three of the five reporting areas including the European Monetary Union and its two largest members, Germany and France. Manufacturing also weakens in the United Kingdom. Japan shows manufacturing strengthening after weakening a month ago. The U.S. is posting ongoing strengthening in its manufacturing sector. The composite PMIs are stronger in every reporter in April and March, and in all-but France and the U.K. in February. Also, in February services strengthen in all reporters, except France and the United Kingdom.

Tightening usually is procyclical; but usually does not spur growth These are surprising developments although they are still ongoing developments. It's not surprising in this report, per se, but it's surprising that this trend of improvement continues with this report far into an ongoing tightening by all the central banks represented in the table except for the Bank of Japan.

The old sequential switcheroo Sequential growth rates that over three months - and these sequential calculations are for finalized and lagged data so they're up-to-date through March not through April - conditions continue to strengthen in the European Monetary Union, Germany, and the United Kingdom for the composite. France also has strengthening in the manufacturing sector while Japan has strengthening in the services sector and the U.S. displays weakening across the board over three months (with a one-month lag). Looking at changes over 6 months and 12 months, with very few exceptions, the record shows weakening in the composite and manufacturing and in services across all these reporting units only Japan offers any exception to this. Compare the sequential change over lagged three-month data to the most recent 3-months reported in February, March, and April…stunning differences… amid monetary tightening and the highest real interest rates seen in well over a year and, in fact, much longer. No wonder the economy is strengthening?

April showers bring May flowers…but tightening? What we see in April is a culmination of a rebound that has been in progress in recent months and that is completely contrary to past trends. It's occurring after weakening in an environment where manufacturing has been and continues to weaken and in which inflation is extremely high and in conditions under which central banks have raised rates - and in most cases - rather significantly. It is probably not a result that would be predicted by many, if any, macroeconomic models. Of course, it's the strength in the services sector that is supporting ongoing strength in job growth since the services sector is the job creating sector and all these reporting regions.

How strong are the current PMIs? Beyond the monthly data and the sequential data, we can move to look at the position of the April reports relative to their historic queue of data back to January 2019. The rank standings of all the composite indexes average 68.1%. The rank standings of the services sectors average in the 74th percentile. The average for manufacturing is in the 11th percentile. Apart from differences in momentum, that are clear from looking at the results in the table, the standings of the two sectors are completely different. Manufacturing sectors have rankings near the bottom 10 percentile of what they have scored historically since 2019 with individual country standings ranging from a low of 5.8% in France to a high of 48.1% in Japan. Service sector standings range from a low of 53.8% in the United States, to 96.2% in Japan and to 90.4% in the European Monetary Union. The composites rank from a low of 51.9% in the United States to a high of 92.3% in Japan.

Manufacturing and service sectors occupy what appear to be completely different economic habitats. Only in Japan is there some semblance of similar economic conditions for manufacturing and services where the services sector has a 96-percentile standing compared to a near-50% standing for manufacturing. Even there, the ranking of the two sectors is in some sense wrong since manufacturing tends to lead and Japan is clearly still undergoing some rebound that's being supported by its services sector.

Ain’t that peculiar? Make no mistake about it; these are peculiar economic conditions. They are especially peculiar with inflation having run high over the past year and with central banks having been raising interest rates considerably over the past year. However, perhaps one of the reasons that this isn't as peculiar as it seems is that we are in an unusual period where central banks have allowed inflation to be significantly higher than interest rates for some time and we are in a situation in which interest rates still do not clearly top inflation rates anywhere even though interest rates have been raised by a lot.

Why such dissonance? One of the reasons for dissonance over what policy is doing and how the economies are performing has to do with the impression we have that central banks have been tightening policy for over a year and yet growth is still firm-to-strong in several places. This dissonance stems from the difference between changing interest rates and the level of interest rates relative to inflation. Well, interest rates have been going up for some time. While they have gone up fairly rapidly over some of the periods over the past year, the level of interest rates still is not high enough to make monetary policy restrictive. In fact, most of the time over the past year, real interest rates have been exceptionally low EVEN AS THE FED AND OTHERS HIKED RATES. However, it's also true that monetary policy must greater or lesser extent boomed and busted money growth in all these countries so that given the lags in monetary policy, we are probably still seeing economies being driven by the effects of past monetary excessive easing, rather than being burdened by the more recent tightening and monetary policy- that is what still lies ahead... (…he said ominously).

Economists prevaricate And I believe this is one of the reasons why a number of economists have backed off criticizing the Fed for not getting interest rates up high enough fast enough. And in this observation, I think particularly of the comments that have been made by Larry Summers who early in the going was very critical of the Fed’s low interest rate policy and of its plans to raise rates slowly but has since come to worry more about the economy having what he has called a Wile E. Coyote moment.

Central bankers bear the blame make NO MISTAKE about it It's the booming and busting of monetary growth that I believe causes economists to be wary about the future. More recently, it's the banking sector problems that clearly have stemmed from a long period of low interest rates from central banks cranking up money supply growth during a period of low interest rates when banks were essentially forced to put low interest-bearing government securities on their balance sheets followed by action by central banks to raise interest rates sharply and drive those securities holdings into a relatively deep discount position instantly having a negative impact on the capital positions of banks whether their securities positions were marked-to-market or not.

The future is unknown, and risks are not low To a greater or lesser extent, these events have played out across the global economy since all countries have experienced the inflation, all countries experienced low interest rates, all countries have since experienced a rise in interest rates (well, except Japan), and all countries experience some degree of a boom and bust in their money supply. The PMI data offer a cautionary note about what's happening and what might happen in the future. The bifurcation of the two main economic sectors increases our dissonance about what the economy is doing: it’s weak! It’s strong! As a result, the risk from policy remains relatively high and the outlook for the future remains obscure. People looking for a soft landing are looking for a pot of gold at the end of the rainbow while it’s still raining, and a flood-watch is in effect.