Recession Signals: Industrial Production September Decline

By: Joseph_Brusuelas

While, the service sector does account for well over 80% of overall economic activity, industrial production often provides a very timely indicator implying the end of the business cycle and the onset of a recession. The pro-cyclical nature of the report provides a well-timed and sensitive indicator of the current rate of growth in overall output.

We expect that the September industrial production report based on our forecast of a -1.4% print will confirm other grim data that the market has observed in the manufacturing sector and looks to provide a strong signal that the business cycle has reached its end and the American economy has entered a recession.

As always, the devil is in the details. On first glance, industrial activity picked up in the early summer due to the increase in production caused by the settlement of the strike at American Axel, a key supplier of parts to the domestic automotive industry. However, during the second quarter of 2008 total industrial production on a year over year basis, contracted at a rate of -3.2%. Moreover, with domestic light auto and truck sales in an advanced state of collapse, this implies that auto assembly going forward will see another round of retrenchment.

Looking at the September employment report total hours and overtime hours worked in the manufacturing declined for the third straight month with noticeable declines in the primary metals and fabricated metals sectors. Hours worked in natural resources and mining declined 1.0% on a monthly basis.

Perhaps more troubling is the decline in the September ISM report that saw the overall manufacturing index decline to 43.5 and production collapse to 40.8 even in light of a sharp fall in the prices paid category and still relatively decent demand from the external sector that saw growth during the month. The combined evolution of the data does strongly suggest that the economy has moved into territory consistent with overall contraction.

Thus, we do not anticipate that on a national basis that the manufacturing sector will see any growth during the final two quarters of the year. Our provisional forecast is that industrial production will contract at a rate of -0.7% in Q3'08 and -1.0% in Q4. The risk to that forecast is to the downside due to an expected decline in demand from the external sector going forward and the likely impact caused by a stronger dollar in the coming months.

By Joseph Brusuelas
Chief Economist, VP Global Strategy of the Merk Hard Currency Fund

Bridging academic rigor and communications, Joe Brusuelas provides the Merk team with significant experience in advanced research and analysis of macro-economic factors, as well as in identifying how economic trends impact investors.  As Chief Economist and Global Strategist, he is responsible for heading Merk research and analysis and communicating the Merk Perspective to the markets.

Mr. Brusuelas holds an M.A and a B.A. in Political Science from San Diego State and is a PhD candidate at the University of Southern California, Los Angeles.

Before joining Merk, Mr. Brusuelas was the chief US Economist at IDEAglobal in New York.  Before that he spent 8 years in academia as a researcher and lecturer covering themes spanning macro- and microeconomics, money, banking and financial markets.  In addition, he has worked at Citibank/Salomon Smith Barney, First Fidelity Bank and Great Western Investment Management.

© 2008 Merk Investments® LLC
The Merk Hard Currency Fund is managed by Merk Investments, an investment advisory firm that invests with discipline and long-term focus while adapting to changing environments. Axel Merk, president of Merk Investments, makes all investment decisions for the Merk Hard Currency Fund. Mr. Merk founded Merk Investments AG in Switzerland in 1994; in 2001, he relocated the business to the US where all investment advisory activities are conducted by Merk Investments LLC, a SEC-registered investment adviser.

Merk Investments has since pursued a macro-economic approach to investing, with substantial gold and hard currency exposure.

Merk Investments is making the Merk Hard Currency Fund available to retail investors to allow them to diversify their portfolios and, through the fund, invest in a basket of hard currencies.

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