Economy in Brief: April 2023

The Germany’s IFO index moved higher in April to a reading of +0.3 from a reading of -0.8 in March. Two of the five components among the sectors log positive values in April; those are manufacturing and services; manufacturing showed a small improvement as services, while staying positive, backtracked from its reading in March. Retailing had a stronger value at -11.3 in April compared to -13.5 in March. Construction also improved to -16.7 from -17.5 in March. The wholesaling sector, however, deteriorated to -10.3, down from -7.5 in March. On balance, the climate readings in April were mixed in terms of their month-to-month changes but remained weak in terms of their standings. Only two sectors show standings above their historic medians on data back to 1991: those are construction and retailing with construction at a standing at 52.2% and retailing at a standing of 53.9%. Manufacturing has a standing of 45.5%, wholesaling is at 38.3% and services at 21.6%. However, based on the weighting scheme, the all-sector index surpasses 50% with a reading of 50.3%, bringing climate overall to an above-median reading by a small margin.

Current conditions in April slipped with the all-sector index falling back to 16.4 from 17.5 in March. April saw slippage in each of the five sectors. Each sector logged a positive reading in April but in each case, it was lower than the positive reading in March. Current conditions showed most sectors- 4 out of five of them; in fact, with readings above their historic medians. Manufacturing, construction wholesaling and retailing all were at percentile standings above 50%. However, the services sector standing at 26.0% is weak enough and the sector is important enough to hold the overall all-sector current conditions ranking at a 28.2 percentile standing.

The month in perspective What improved in the month were expectations. The all-sector expectations reading rose to -6.7 in April from -9.3 in March. There were improvements in three out of five of the sectors. Manufacturing improved, construction improved and retailing approved. Backtracking on the month were wholesaling that barely tipped lower to -26.3 from -26.2 and services that fell back to a 7.2 reading from a -4.0 reading in March.

The percentile standings for expectations are uniformly weak with only one reading among the five sectors is above its 20th percentile: in manufacturing with the 36.2 percentile standing. Construction has a 5.1 percentile standing, wholesaling an 8.2 percentile standing, services a 13-percentile standing, and retailing a 15.2 percentile standing.

The bottom line for the IFO is that climate improved marginally on the month as the current conditions index backtracked and its expectations logged a less negative reading. The percentile standings of the current conditions and the expectations components are for the most part still extremely weak. Within current conditions, two sectors have moderately strong readings and two others have moderately firm readings. But within expectations, all the readings are unequivocally and significantly weak. Comparing the readings in April 2023 to the pre-COVID January 2020 readings, we find very mixed results; the all-sector climate reading is better by only 0.9 points, the all-sector current conditions index is stronger by 12.7 points and the all-sector expectations index is stronger by just 1.6 points. Three sectors in expectations are weaker than they were in January 2020 and two are weaker on balance under current conditions. Climate is weaker for three sectors.

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.