Empire State Manufacturing Index's Small Rise Raises Another Warning Sign

The Empire State Manufacturing Index gave off mixed signals for August. The index, which provides investors with a snapshot of key U.S. economic conditions, confirmed an ongoing manufacturing expansion, but at a modest pace and with additional signs of weakness.

The top-line index rose slightly, to 7.1 in August from 5.1 in July, but that's still down considerably from June's 19.6 reading and a cyclical high of 31.9 recorded in April.

A Bloomberg survey had expected the Empire State index to rise to 8 in August. Readings above zero indicate manufacturing activity is growing; below zero, contracting.

Troubling Indicators

The key new orders component fell below zero for the first time in more than a year, plunging 13 points to minus 2.7, a reading that indicates manufacturers saw orders decline slightly. In addition, the shipments component also fell below zero, plummeting 18 points to minus 11.5.

Also troubling were the price components, which both declined. The prices-paid component fell 5 points to 20, suggesting the pace of manufacturers' input price increases slowed. The prices-received component, at minus 2.9, remained negative for the second straight month -- a sign that selling prices were slightly lower in August.

The bright spots in August's report concerned the work force components. The employment component rose 6 points to 14.3, and the average work week component, which after dipping below zero in July surged 17 points in August to 7.1.

Capital Spending Is Set to Rise

In the survey's supplemental section, manufacturers were asked about their capital spending plans for the next six months to a year. Almost three times as many, 37% to 13%, said they expected to increase capital spending. Of those planning to increase spending, 27% said "a considerable fraction" of the increase reflected investment that had been postponed because of the recession. Another 46% attributed "some" of the spending increase to a recession-delayed investment.

The most commonly cited factors for the increased investment were high expected growth rates in sales and a need to replace capital goods, excluding information-technology equipment.

Economists, business executives and investors monitor the Empire State index because it typically provides an early read on larger manufacturing surveys released later in the month, such as the Institute for Supply Management's manufacturing survey. In July, the ISM index dipped to 54 from 56.2 in June -- a level that confirmed continued economic expansion (a reading above 50), but at a slower pace.

More Demand Is Needed

In sum, put the August Empire State Manufacturing report in the disappointment category. The top-line index inched higher, and it means conditions improved slightly overall, but declines in key components confirmed that the manufacturing sector wasn't immune to factors that have slowed the U.S. economic expansion.

Further, the weakness in the new orders and prices-received components is another caution flag for the U.S. economy. If these components keep trending lower, that would confirm a reduction in demand -- when what's needed now is an increase in demand to strengthen the recovery and lower unemployment.