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US Wholesale Inventories Contract, GDP Next?

Posted by Joseph Trevisani on Dec 9, 2015 5:44:54 PM

American companies continued to shrink their stockpiles of unsold goods in October and the inventory reduction threatens to undermine economic growth in the fourth quarter.

Wholesale inventories fell 0.1 percent, according to the Commerce Department, and September’s addition was downgraded by more than half to 0.2 percent from its initial 0.5 percent reading. Economists had forecast a 0.2 percent inventory build for October. 

Sales at wholesale firms were flat in November belying the 0.2 percent forecast. They rose 0.5 percent in October.

Wholesale inventories gained just 3.7 percent year on year, the lowest annual rise since September 2013. They have fallen in six of 10 months this year. 

The important inventory to sales ratio, the number of months it would take at current selling rate to clear existing inventory, was unchanged at 1.31. This is high by historical standards and suggests that business are unlikely to place additional orders with manufacturers until the backlog of goods is reduced.  The last two times the ratio was this high, November 2008 and March 2001, a recession followed. A recession did not append the May 1998 reading of 1.31.  

Inventories are an essential component of Gross Domestic Product. Few manufactured products move directly from factory to consumer. Most are shipped through distributors to retail outlets before reaching final sales.

Manufacturers must project sales months or even years in advance in order to have the materials on hand to meet production schedules and to have the final goods ready for consumer demand.

Most goods, even relatively expensive appliances and automobiles, are expected to be available in few days. For many retailers a delayed sale is a lost sale.  But inventory is a wasting asset for most producers. The longer it sits in a warehouse or dealer lot the less value it retains.    If sales do not meet forecasts companies normally cut production until they sell off the existing inventory.  

In the fall and winter of 2008 companies were left sitting on huge unsold inventories as consumers all but locked up their credit cards after the financial crash. That enormous overhang of excess goods and its inhibition on new production was one of the prime reasons U.S. GDP and employment crashed in the second half of 2008 and the first six months of 2009. 

The component of wholesale inventories that goes into the calculation of GDP, wholesale production excluding autos, dipped 0.1 percent in October. 

The first two quarters of 2015 saw a record build in inventories as sales lagged production. This left warehouse filled and retailers unwilling to order more from manufacturers.  

These unsold inventories curbed manufacturing in the third quarter, taking 0.56 percent from GDP, as it fell to 2.1 percent from the second quarter’s 3.9 percent annualized rate.  

Current estimates for fourth quarter GDP range from 1.5 percent at the Atlanta Fed, one of the most accurate forecasters, to 2.5 percent. It is likely that many of these estimates will drop with the reduction in inventories.  

Retail sales for November, scheduled for release this Friday, could help determine the eagerness of the consumer heading into the holiday shopping season.  Sales are forecast to rise 0.3 percent following October’s 0.1 percent gain.

The 'retail sales control group', the category that applies to the GDP calculation is expected to climb 0.4 percent after a 0.2 percent increase in October. 

With inventory accumulation at a high level and the ISM manufacturing index and several Fed regional gauges already in contraction, 4th quarter GDP estimates could fall further if retail sales fail to meet expectations.

 

Joseph Trevisani

Chief Market Strategist

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Charts: Bloomberg

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