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The economy slowed for the first time in three years.
That’s what the first quarter gross domestic product (GDP) report showed. The economy shrank by 0.3%, which was worse than expected. Economists had expected a modest growth rate of 0.4%.
Part of the blame for the decline is “net exports.”
This figure takes U.S. exports and subtracts imports. Since we usually import more than we export, that figure is often negative.
Yet a surge in imports ahead of expected tariffs meant that net exports took even more off the GDP figure than usual.
Even so, don’t write off the first quarter drop in GDP as a one-time event…
While GDP is a trailing measure, a new survey of manufacturing firms came out last week. Within the report, several leading indicators point to slowing growth and rising inflation ahead.
And that means the risk of stagflation is creeping upward…
Stagflation is a nightmare scenario for many. It combines slow growth, high inflation, and high unemployment.
None of those things is good for your wallet. And stagflation can be a particularly thorny problem to address once it’s here since the tools to fix one problem can worsen the others.
So today, let’s take a look at the recent readings… and why they’re telling us to tread carefully going into the coming months…
Contracting Manufacturing Activity
Business and consumer sentiment surveys are showing sharp deterioration as Trump’s trade war intensifies. That includes surveys of companies in the manufacturing sector.
The Institute for Supply Management (ISM) conducts a monthly interview of purchasing managers from manufacturing firms. It then turns the responses into a number to show whether manufacturing activity is expanding or contracting.
A reading above 50 indicates expansion, and below 50 means contracting activity.
In the most recent report, the manufacturing survey was 48.7 for April. That’s a slight decline from the prior month’s reading of 49 and is the second consecutive month below the 50 level.
Naturally, this headline figure grabs most of the attention. But the underlying components of the report can reveal other important signals coming from the manufacturing sector. So you should be paying close attention.
The ISM survey asks about trends across topics like inflation, employment, and new order activity.
This is where things get troubling for the outlook ahead…
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Moving in the Wrong Direction
These survey components help reflect the health of the economy and inflation outlook.
New orders are considered a leading indicator of economic activity. A big change in new orders can signal good or bad times ahead.
In January, the new orders component was running at 55.1. That signaled expanding activity ahead in the manufacturing sector.
In February, that figure sank to 48.6, and it has stayed below 50 for three consecutive months. Remember that readings above 50 mean trends are increasing, and below 50, they are decreasing.
Employment trends are also moving in the wrong direction. The April figure came in at 46.5 but has also been reported below 50 for three months in a row.
Signs of slowing economic activity usually mean that inflation isn’t rearing its ugly head. But that’s not what the price-paid component shows.
“Prices paid” is a way to track inflation trends. Historically, a change in the prices paid has led to changes in inflation.
The prices paid component increased to 69.8 in April’s report. That’s the highest level since the middle of 2022… when consumer inflation was running at 9%.
That’s not the way we want to see things moving. All these numbers appear to be heading in the wrong direction.
A combination of slowing growth and high inflation means that stagflation risks are running high…
And that more dismal GDP reports could be in store.
Happy Trading,
Larry Benedict
Editor, Trading With Larry Benedict
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