The Raff Report was going to start 2012 with a detailed look at New Orders for Durable Goods. Instead it is going to look at US Installed Capacity and Capacity Utilisation. Time has rushed past and it is some years since these time series were last considered. Theses could be written about the implications of changes shown in the charts that follow; and probably have been.
The monthly data covers 25 years to the end of 2011. The theoretical utilisation rate for industry is often quoted around 84%. Some industries like smelting and power generation often run at or a little over 100% for short periods of time. Running equipment without stopping for maintenance eventually leads to problems further down the track that are far more costly than if the operating rate was lower.
The following chart shows the spread of values over past 25 years. It is a fact that the average for this period is 79.9; the low point was 67.3 in June 2009, and the high point was 85.2 for January 1989. The US economy has only achieved an operating rate above 84% for 11% of the time. The trend for total industry seems to be heading downwards with lower peaks. At the same time population growth is 0.9% and productivity increases seem to be averaging around 3-4%, but has been much higher in the past.
Capacity Utilisation for all of industry stood at 78.1 for December 2011, zeroing in on the average of 79.9. The data is mixed: for instance the corresponding reading for Fabricated Metal Products was 81.2, comfortably above the long-term average of 77.3. Perhaps somewhat surprisingly, the reading of 65.3 for Motor Vehicles and Parts was still way below the 25-year average of 74.5. Strong global demand for raw materials is reflected in utilisation figures for Mining and Iron and Steel, recording 92.8 and 87.1 respectively. Both measures are well above the corresponding long-term averages of 86.8 and 83.3.
The US Oil and Gas sector is running flat out so it is not surprising that the operating rate last December was 100.9 against the 25-year average of 92.3. Ten years ago the bottom of the barrel was in sight for the US gas industry. With new technology and huge oil and gas reserves in shale deposits, it will not be many years before the US re-emerges as major exporter of petroleum products. This has come at the price of falling domestic gas price that gives US industry a competitive advantage at a time when the currency is weak. It would appear that US gas producers are maximizing production to offset lower prices.
The next 3 figures show elements of US Capacity Utilisation. A key point to note here is that the pace of recovery has been significantly slower than the pace of collapse. Non-metallic Minerals faired worse because the collapse in home construction decimated the demand for limestone, cement, clays, and sand etc., all key ingredients to make concrete, bricks and so forth. It is worrisome that it seems that capacity utilisation looks like it is nearing a peak across a swathe of US industries. These trends are most likely due to pressures from imports; Apparel is probably a case in point. The Raff buys shirts made in Hawaii (online of course). Last time the Raff was Stateside, US made garments were almost like hens teeth.
Now letís consider Installed Capacity. The next figure shows how important US vehicle manufacturing is to Durable Manufacturing. This is not a surprise; however, look at the bunch of industries that show little or no growth in Installed Capacity over the past 12 years. It should be of huge concern to one all and sundry that the growth in Total Industrial Capacity exhibited in the 1990s is probably relegated to history. The growth that generated millions of jobs in the 1990s is lost because of the ineptitude of a few.
Some industrial sectors have streaked ahead, but these are not generating jobs for the masses of largely unskilled workers. The next figure shows installed capacity for some elements of the tech sector, compared with Total Installed Industrial Capacity, and Installed Capacity for Durable Manufacturing. Unfortunately the growth in the tech sector will continue to destroy jobs. Take for example the growth in driverless earthmoving equipment. At its iron ore mines Rio Limited is increasing the number of driverless trucks from 10 to 150. The excuse is shortage of labour but clearly there is a strong profit motive, after all what is $25M in wages in the scheme of things when revenue is measured in the billions?
The last two figures show Capacity Utilisation versus Installed Capacity for two time series. Also shown are the first and second derivatives for Capacity Utilisation, which show the pace of change.
At the end of 2011, Capacity Utilisation for Durable Manufacturing was rising on a year ago, although at a slower pace than through 2010. The second derivative however has turned negative. This change is usually a bad omen.
The reader might also ponder if too much has been invested in Durable Manufacturing, indicated by the rise in installed capacity as the utilisation rate drifts lower. Perhaps a big recovery in residential housing would fix this discrepancy?
Fabricated Metal Products shows a different picture. Installed capacity is drifting lower and it seems certain from the derivatives that utilisation will rise to past cycle peaks.
There is absolutely no doubt that the US Economy is in a recovery mode but the nature and extent of the recovery seem uncertain after pondering industrial trends.
Turning now statistics from the US Census Bureau, the population of the USA will rise from 313.8M in 2012, to 322.4M in 2015, and reach 351.4M by 2025. It is interesting to note that a zero percent population growth rate is forecast for China in 2025. This is in contrast to India with 1.0% population growth forecast for 2025.
Population growth, high-tech sustained productivity increases and moribund industrial sectors will challenge US employment growth. It is hard to see a halt to the printing presses and pundits can only ponder on the impact that a rise in global interest rates will have on the debt laden US. The overall utilisation rate is not inflationary for the US and seems unlikely to become so before the next peak in the business cycle, which might be closer at hand, than many believe, especially if the price of oil keeps rising which it might well do so. Although slower economic growth now being mooted in China might provide some relief against further hikes in the price of oil, instability in the Middle East has potential for disastrous outcomes. The price of gold has recently exhibited a modest correction but the current social and economic environment is very much supportive of the yellow metal.
Also in the favor of gold is the average cost of production: the Raff has been told that it now exceeds US$1,000 per ounce. The rise in unit costs is due to higher operating costs and due to a fall in the average grade of ore mined. Many new gold mines have a head grade below 1.0 g/t gold. On the broad rule of thumb that a healthy industry requires the price received to be double the total cash cost (including royalty payments and maintenance capital expenditure), a gold price of US$1,800-$2,200 might reasonably be expected.
The next Raff Report will look at New Orders for Durable Goods and Industrial Output; these time series will provide a very good indication of how close the US is to a cyclical peak.