Factory activity sparks up. Factory jobs? Not so much.

Article originally posted on CoStar on January 8, 2025

Momentum seems to be building in the American manufacturing sector after more than two years of weakness.

The Purchasing Manager’s Index (PMI) from the Institute for Supply Management (ISM) moved higher for the second consecutive month in December despite the sector remaining in contraction. Survey respondents in several industries reported optimism for stronger demand.

At 49.3%, it was the survey’s second-highest reading since October 2022, second only to March 2024, the only month during that period when the index exceeded the expansionary threshold of 50%. Moreover, the reading beat market expectations.

While December’s reading capped what had been a stagnant year for factory activity, a closer look at the survey’s components suggests better days to come as 2025 unfolds. The bulk of optimism came from a surge in new orders, which posted their second consecutive month of expansion, rising 2.1 percentage points to 52.5%. Consistent new orders helped move production levels into positive territory in December after six months of contraction.

The growth in orders and production varied by industry, with tech-heavy sectors such as electrical equipment, appliances, and computers and electronic products adding orders, along with commodity-related manufacturing such as food, beverages, and paper products.

Other industries, such as transportation equipment and wood product manufacturing, continued to contract, highlighting slower construction spending and reinforcing the latest report from the U.S. Census Bureau on durable goods orders.

Sentiment remains somewhat mixed about how sustainable manufacturing momentum might be, as both headwinds and tailwinds impact the outlook.

Continued federal spending from the CHIPS and Science Act and the Inflation Reduction Act could boost activity, especially in those tech-heavy sectors that saw the largest increase in orders in December. And some producers may seek to backfill lower inventories by stockpiling in anticipation of potential tariffs being imposed on their materials and input imports in the near term. The prospect of lower corporate tax rates and higher military spending proposed by the incoming administration may incentivize longer-term investment.

However, persistently high longer-term interest rates have put a damper on the housing market, a major driver of demand for equipment and materials manufacturing, and higher financing costs are likely to constrain some spending.

While declines in energy and steel prices supported increased production in the plastics and primary metal manufacturing sectors, overall price levels grew in December, according to the ISM survey. An increasing share of manufacturing respondents — 14.4%, compared to 12.2% in November — reported paying higher prices, while only 9.5% reported lower prices in December. That is consistent with slight increases in the consumer and producer price indices and the Federal Reserve’s preferred measure of inflation, the personal consumption expenditures (PCE) index, which has risen to 2.4% in November from 2.1% in September.

However, December’s PMI report did not reveal much momentum for factory workers. The employment index posted the lowest reading of any component in December at 45.3%, the seventh consecutive month of contraction.

While weather disasters and work stoppages have weighed on job numbers in the final months of 2024, weakness in the manufacturing job market has been consistent since the second half of 2023 — or, indeed, for much of the century, as manufacturing became more capital intensive and fewer workers were needed.

As a share of all nonfarm jobs, manufacturing jobs have steadily declined, falling below 10% by 2008 and never exceeding that share since. Its decline appears to have slowed for now, but don’t expect it to rise significantly again, even if federal efforts to reshore production spur some growth in ancillary sectors.

December’s jobs report, to be released later this week, should provide more clues on the labor market’s health, including the manufacturing sector.

Economic growth has been exceptionally strong lately. The Commerce Department reported that its final growth estimate in the third quarter was 3.1%, an upwardly revised estimate, following the second quarter’s increase of 3%. This is twice as fast as most other advanced economies experienced in 2024. Fiscal expansion and strong consumer spending are largely responsible.

At the Federal Reserve’s final meeting of the year, the policymaking committee voted to cut its policy rate by another 25 basis points but indicated that future cuts would come more slowly than previously expected as inflation has been stickier than desired. That news came as a disappointment to markets, but with the incoming administration promising to impose widespread tariffs and more restrictive immigration policies, both seen as inflationary, that might have been a prudent call.