(John Kemp is a Reuters market analyst. The views expressed are his own)
* Chartbook: tmsnrt.rs/2FRkIhj
By John Kemp
LONDON, July 3 (Reuters) - Global manufacturing and construction sectors have already entered a downturn; the service sector is all that now stands between the economy and a full-blown recession.
Global manufacturers reported new export orders fell for a 10th month running in June, with the most widespread decline for six years, according to the JPMorgan global purchasing managers survey.
Even in the United States, which has escaped relatively mildly so far from the downturn hitting Europe and Asia, there are now clear signs growth has stalled across the manufacturing and construction industries.
U.S. manufacturers reported only a small increase in activity in June, with the net positive balance the lowest for almost three years, according to the Institute for Supply Management (tmsnrt.rs/2FRkIhj).
U.S. manufacturers’ new orders have been decelerating for more than a year and were flat for the first time since the end of 2015, which suggests activity is likely to slow further in the short term.
Durable goods orders for non-defence capital equipment excluding aircraft were up by just 2.1% in the three months from March to May compared with a year earlier, less than a third of the growth rate a year ago.
Private sector construction activity is falling, with the value of new buildings and structures put in place down by 4.1% in the three months from March to May compared with the same period a year earlier.
Residential construction activity was down by more than 8% year-on-year in the three months from March to May, according to the U.S. Census Bureau.
Private non-residential construction was still up by 1.5% year-on-year between March and May, but the growth rate has slumped from more than 5% between August and October.
Reflecting interest rate traders’ recession fears and expectations of rate cuts, the U.S. Treasury yield curve for securities with maturities between three months and 10 years has been continuously inverted for more than a month.
Since 1960, sustained yield-curve inversions lasting for three months or more have been one of the most reliable signals of an impending recession arriving within the next 12 months.
Yields on benchmark U.S. Treasury 10-year notes have already sunk to 1.95%, down from 3.20% just eight months ago, and the lowest since November 2016, as investors seek a safe haven from a feared slowdown.
Government bond yields are tumbling across the advanced economies while central banks are cutting interest rates (Australia) or signalling openness to more monetary policy stimulus (the United States and euro zone).
In the oil market, prices have fallen reflecting worries about the global economy and slowing oil consumption growth, despite a decision by OPEC and its allies to extend production restraint for a further nine months.
Oil consumption and especially the use of middle distillates such as diesel is geared more towards manufacturing, construction and mining than the service sector, so is being hit hard by the industrial slowdown.
Oil’s exposure to the troubled manufacturing sector explains why prices have remained under pressure despite U.S. sanctions on Venezuela and Iran, the threat to tanker traffic in the Gulf, and OPEC output cuts.
So far, the downturn has been concentrated in the manufacturing and construction sectors while the much larger service sector has exhibited continued resilience, at least in the advanced economies.
Services output tends to be much less cyclical than manufacturing or construction, and the expansion of service output and employment is one reason why the economic cycle has been dampened in recent decades.
High levels of employment and rising household incomes, characteristic of the late stage of the business cycle, have combined to sustain services growth over the last nine months.
For the advanced economies, manufacturing and construction account for a much smaller share of output and employment than services, but they are more important in terms of productivity and higher wages.
It is not clear if the services sector can continue to keep the economy out of recession if manufacturing and construction continue to contract.
Interest rate and bond traders are betting central banks will not take the risk and will cut rates instead to forestall any further slowdown.
Again, it is not clear whether early and aggressive rate cuts will be enough to avoid a recession. Rate cuts successfully extended the economic expansion in 1995/96 and 1998 but not in 2001 and 2007.
Policymakers’ concerns about the worsening manufacturing slowdown and its potential to spill over into the rest of the economy explain why the United States reached out to China last month to restart trade talks.
Global growth is now too weak to absorb any more serious shocks without sliding into a much more serious downturn.
- Rising inventories weigh on U.S. manufacturers and wholesalers (Reuters, June 25)
- Global economy on leading edge of recession (Reuters, June 12)
- U.S. consumer confidence critical to economic outlook (Reuters, May 31) (Editing by Susan Fenton)