Electroindustry Emerges from Two-Year Contraction

Electroindustry Emerges from Two-Year Contraction

This piece was originally published in the October 2017 issue of electroindustry.

Fred Ashton, Economic Analyst, NEMA

The economic recovery, now eight years old, is the third longest in the post-war period and is likely to become the longest. The lasting effects of the recession continue to reverberate throughout many sectors of the economy.

Gross domestic product, the economy’s broadest measure of growth, is nearly 18 percent higher than at the beginning of the recovery after adjusting for inflation since 2009. This equates to a modest 2.1 percent average annual rate of growth, the slowest recovery pace since World War II. Coinciding with sluggish growth is an ever-tightening labor market. The unemployment rate has fallen from a peak of 10 percent in October 2009 to 4.3 percent in the most recent June data, a level not seen since 2001.

Economic Indicators

Despite this sustained economic recovery, the electroindustry has lagged the gains seen elsewhere in the economy. Some segments of the electroindustry, especially those feeding into the industrial sector, contracted in 2015 and 2016. At the same time, NEMA companies supplying the construction industry have faced an uneven and bumpy rebound from the steep contraction in construction during the recession.

As 2017 closes, both primary drivers for the electroindustry are likely to provide a modest lift through 2019.

Industrial Production Poised for Rebound

During the early part of the recovery, manufacturing was a primary economic engine, propelled initially by strong export demand and later by a resurgent energy sector. A rising dollar, flagging global economies, and a collapsing energy sector caused key manufacturing segments, including electrical equipment, to contract in 2015 and 2016. The strong dollar caused net imports of electrical products such as switchgear, motors, and automation controls to surge as domestic manufacturers faced weaker global demand and domestic businesses imported cheaper foreign goods.

As all three of these forces have reversed course in 2017, the manufacturing sector has started to rebound. A key factor that will help to sustain manufacturing output will be an expected steady pace of solid consumer demand as the economy approaches full employment and wealth continues to increase beyond the pre-recession level.

Housing Starts Struggle

Housing starts peaked in January 2016, 18 months before the start of the recession, at an annual pace of 2.27 million units. After bottoming in April 2009 at an annual pace of 478 thousand units, the housing construction recovery has been slowly gaining traction after an initial period of halting growth. Housing starts for the first half of 2017 were just over half the pre-recession peak. The weakness in the housing sector is not surprising given that it was an unsustainable surge in housing demand that culminated in a financial shock that precipitated the recession and a collapse of home prices and household formation.

In recent surveys, homebuilders have consistently cited increases in land and raw materials prices, as well as severe labor shortages, as major headwinds. Banks have also begun tightening lending standards, further constraining the housing sector. Despite these adverse factors, housing demand is slated to increase as household wealth surges into record territory and prospective homebuyers gain financial security with improved employment opportunities and rising wages.

Nonresidential Construction Takes a Breather

Overall nonresidential construction is expected to improve over the near term, riding the rebound from the energy sector, especially the extraction sector. Whipsawing oil sector investment in structures is once again expected to have an outsized impact on nonresidential construction. Meanwhile, following a robust 2016, construction outside the energy sector is projected to cool in 2017 before edging higher in 2018.

A potential boost in infrastructure spending could add to growth by 2019. Property developers have noted several factors constraining nonresidential construction growth, including rising materials costs such as copper and lumber. Labor costs are also rising, in part because many workers left the building industry during the recession. Moreover, the current focus on immigration restrictions may dampen future supply.

Modest Improvement for Shipments

The electrical manufacturing sector is struggling to emerge from a protracted soft patch tied to the weakness in manufacturing and nonresidential construction. Data from the Census Bureau show the performance of three categories within the industry. Most notable from the report is the continued downward trend of core electrical equipment shipments, which includes transformers, motors, generators, switchgear, industrial controls, and low-voltage distribution equipment. Shipments from this sector were nearly 27 percent below pre-recession levels at the end of the first half of 2017.

The overall electroindustry has also faced a stubbornly high inventory to shipments ratio. With the growth of inventories outpacing shipments, the average since 2007 of 1.64 ballooned to 1.79 in June. Overall manufacturing has a ratio that has been steady near 1.38.

Forecast: Improved Conditions

Some of the headwinds plaguing the electroindustry in 2015 and 2016 have reversed course in recent months. The value of the dollar has fallen, global economic growth is on the rebound, and the energy sector has started its comeback.

Annual GDP growth between 2.0 and 2.5 percent is slated for 2017 through 2019, with nonresidential construction and manufacturing also expanding modestly. As a result, improvement in electrical equipment sales is likely over the forecast horizon.

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