U.S. Manufacturing’s Humming—Except for Shortages and Tariffs

U.S. manufacturers that rely on access to electronic components are on the brink of not being able to fulfill their customers’ orders. But manufacturing is still humming: The Institute for Supply Management’s leading factory index, the PMI, increased by 1.4 percent in May to 58.7. However, comments from the computer and electronics sector indicate OEMs are concerned that component shortages will hurt their bottom line.

“Severe allocation, long lead times and upward price pressure, particularly in the electronic components market, continue to hamper our ability to meet customer demand and our shipping schedule,” said one electronics industry executive.

Although June 1 also happened to be the day the U.S. announced positive job-creation numbers, additional steel tariffs – that were announced May 31—have U.S. manufacturers nervous. “We are currently overselling our forecast and don’t see an end to the upswing in business. We are very concerned, however, about the tariffs proposed in Section 301 and are focusing on alternatives to Chinese sourcing,” said a transportation equipment executive.

Most of the ISM’s May numbers were up and to the right. The production index registered 61.5 percent, a 4.3 percentage point increase compared to the April reading of 57.2 percent. The employment index registered 56.3 percent, an increase of 2.1 percentage points from the April reading of 54.2 percent. The supplier deliveries index registered 62 percent, a 0.9 percentage point increase from the April reading of 61.1 percent. The inventories index registered 50.2 percent, a decrease of 2.7 percentage points from the April reading of 52.9 percent. The prices index registered 79.5 percent in May, a 0.2 percentage point increase from the April reading of 79.3 percent, indicating higher raw materials prices for the 27th consecutive month.

“Comments from the panel reflect continued expanding business strength,” said Tim Fiore, chair of the ISM’s manufacturing business survey committee. “Demand remains strong, with the new orders index at 60 or above for the 13th straight month, and the customers’ inventories index remaining at very low levels. The backlog of orders index continued expanding, with its highest reading since April 2004, when it registered 66.5 percent.

“Consumption, described as production and employment, continues to expand despite labor and skill shortages,” Fiore continued. “Inputs, expressed as supplier deliveries, inventories and imports, had expansion declines, due primarily to inventory reductions likely caused by supplier performance issues. Lead-time extensions, steel and aluminum disruptions, supplier labor issues, and transportation difficulties continue. Export orders expanded at slower rates. The prices index is at its highest level since April 2011, when it registered 82.6 percent. Demand remains robust, but the nation’s employment resources and supply chains continue to struggle. Respondents say price pressure at their companies is causing price-increase discussions as we prepare to enter H2.”

Amidst the growth in the manufacturing sector – any number above 50 indicates the industry is expanding – manufacturers that rely on electronic components are becoming more vocal about their concerns. “We have not missed deliveries yet, but we are on the edge,” said George Whittier, COO at manufacturing and engineering services provider The Morey Corp. “Shutting down one of our customers – say, a Fortune 500 company—because we can’t get resistors won’t go over well.”

Among Morey’s customers are major automotive companies – a market in which demand for all things electronic has exploded. According to market research firm IC Insights, consumer demand and government mandates for electronic systems that improve vehicle performance, that add comfort and convenience, and that warn, detect, and take corrective measures to keep drivers safe and alert are being added to new cars each year. This system growth, along with rising prices for memory components within them, are expected to raise the automotive IC market 18.5 percent this year to a new record high of $32.3 billion, surpassing the previous record of $27.2 billion set last year, IC Insights reported. If the forecast holds, it would mark the third consecutive year of double-digit growth for the automotive IC market.

More and more companies now believe that there is no end in sight for constrained products. “There are broad-based component shortages that are all demand-driven,” said Paul Romano, COO for independent distributor Fusion Worldwide. “We can start with passives—MLCCs, resistors—and shortages are now moving into tantalum and large case sizes. Manufacturers can’t keep up with demand and there’s no end in sight.”

The ISM reported the following commodities used by U.S. manufacturers are up in price: aluminum, aluminum-based products, brass, capacitors, caustic soda, cobalt, copper, corrugate, corrugated boxes, corrugated cartons, electrical components, freight, paper, resistors, steel — galvanized, steel — hot rolled, steel — hot rolled plate, steel — stainless, steel — stainless steel bar, steel — stainless steel sheet, steel based products, and wood.

Across all U.S. industries, production has failed to keep pace with demand, and it remains unclear how quickly capacity is being added. “That’s the $50-million question,” said Fiore. “Part of the reason is supply constraints, and to some extent, employment. Production expansion has also been softening by manufacturers’ inability to convert raw materials into end products.”

Customer inventories, he added, are at record lows. “Employment did rebound to some extent in May but it should have done better. The tariff stuff hit the supply chain hard the first time, and the more recent announcement is going to expand buyer lead times even further. And steel mills are not very flexible in responding to demand.”

What is of more concern is prices, Fiore said. “On prices we’ve averaged over 71 points over the last 11 months. That’s the longest runup since the sub-prime mortgage activity. Manufacturers are saying that they intend to pass on these price hikes to the customers, and we’ll start to see evidence of that in Q3. If they are successful, the Fed will have to reassess policies; if not, manufacturers will see their margins compress and they’ll try to offset that by better productivity. For most companies there’s not a lot of wiggle room there.”

Exports decreased in May, likely due to a strengthening dollar and tariffs. “The biggest threat to exports is the trade imbalance, and that’s really subject to how heavily those dollars will be tariffed,” Fiore concluded.