Delving into the Malaise in Non-residential Construction Activity

07/02/2013 by Alex Carrick

In both Canada and the U.S., non-residential construction has been overcome with inertia. If it is to revive significantly, what might be some of the leading indicators?

Corporate profits in Canada’s resource-dominated economy are uninspiring. The slowdown in world trade and some retreats in commodity prices are holding them back.

They’re much better in the U.S. and, as a result, the DJI, S&P 500 and NASDAQ have moved up more smartly than the Toronto Stock Exchange (TSX).

Firms in the U.S. do have the money to invest in new plant or make major acquisitions. But one also has to look at capacity utilization rates.

In Canada, the total industry usage rate in the first quarter of this year was 81.1%, slightly above the 80.5% recorded in 2012’s fourth quarter and the 80.7% in last year’s opening quarter. Statistics Canada publishes utilization rates on a quarterly basis.

In the U.S., the Federal Reserve calculates industrial production and usage rates monthly. The May figure for total industry was 77.6%, about even with the month before at 77.7% and also almost on a par with May of last year’s 77.8%.

The American recession-low utilization rate for total industry was 66.9% in 2009.

For U.S. manufacturing, the usage rate of 75.8% in May was exactly the same as in April and in May of the previous year.

It seems to be the case that firms in an industry begin to consider whether or not they need new facilities when their combined usage rate moves up into a range of 80% to 85%. Among a group of competitors, a trend-setter will usually emerge once the figure climbs above 85%, although better inventory control and logistics have raised the benchmark to 90%-plus in many cases.  

Few industries in either Canada or the U.S. are currently operating within or above those guidelines.

In Canada, the sub-sectors with the highest capacity utilization rates are electric power (90.3%), paper manufacturing (89.7%), wood products (87.8%), oil and gas extraction (87.4%) and transportation equipment (85.9%).

In the U.S., they are mining (88.2%), fabricated metal products (84.7%) and petroleum and coal (83.9%).

Major auto firms south of the border may be achieving sales success, but the sector’s collective utilization rate is still relatively low at 75.6%.

Just as capacity utilization rates are a leading indicator for investment, there are early “flags” for usage rates. One of the primary ones is durable goods orders.

The Census Bureau publishes an Advance Report on Durable Goods Manufacturers’ Shipments, Inventories and Orders each month. Durable goods are products expected to last three years or more.

In May, total U.S. durable goods orders were +3.6% month to month, the same as in April. The latest two months have seen an encouraging pick-up after March’s 5.9% decline.

The sub-sector leader in the latest month was “non-defense aircraft and parts”, +51.0% after +18.3% in April, but -43.3% in March. This is a category that is notoriously volatile.

It includes some truly bulky purchases such as new passenger planes. Although it may have trailed Airbus, Boeing had a reasonably good “order book” at the recent Paris Air Show.

In Canada, Bombardier is in the process of introducing its new C-series passenger jet. Customers are apparently waiting to learn the results from the first test flight, which is scheduled imminently. Sales so far have been slim.

Two other durable goods sub-sector leaders in the U.S. in May were communications equipment, +12.6% on the heels of +11.9% in April, and transportation equipment, +10.2% providing more momentum on top of April’s +8.3%.   

Better durables orders will help lift utilization rates and provide a tonic for the malaise hanging over employment levels in America’s major cities. Let’s look into this in more detail.

From peak to trough in the recession, the total number of jobs in the U.S. economy dropped by 8.7 million. But since February 2010’s low point, there has been a net gain of 6.3 million.

Another way to express this is to say that 72% of the total job loss in the downturn has since been recovered.

There is still a shortfall of 2.7 million jobs in America. Since employment in the services sector is now at an all-time high, it must be other sectors that are struggling.

Look no further than construction and manufacturing. In both of those sub-sectors, the recovery in jobs has been less than 25%.

In its U.S. Metro Economies report written for the national Conference of Mayors, IHS Global Insights includes a table showing the jobs recovery in more than 300 major U.S. cities, as of 2012’s fourth quarter.

The city designations are according to Metropolitan Statistical Areas. MSAs include outlying suburbs and adopt the broadest possible boundary definitions. 

Of the 10 most-populous urban centers in the country, only four had achieved percentage recoveries higher than the national average by the final quarter of last year.

Houston, Washington and Dallas were all at 100%-plus, while Boston reached 92%.

The leader among the other six largest cities was New York (54.2%), followed by Philadelphia (40.8%), Miami (30.7%), Chicago (29.7%), San Francisco (26.7%), Los Angeles (20.7%) and Atlanta (19.5%).

According to the report, the cities with the most success in maintaining or reclaiming work have a strong employer presence in at least one of three main areas: academia and/or health care; federal government departments or the military; ties to the new boom in energy development.

The cities that will have to wait the longest for their employment levels to return to where they once were either experienced housing collapses that were severe in the extreme (affecting construction activity) or drops in manufacturing activity that will be hard to replace.  

As an example of the former, Las Vegas has recovered only 18.2% of its lost jobs. Phoenix has done a little better at 29.1%.

The City of Detroit, which has descended into bankruptcy, has won back 20.4% of its decline in staffing positions.

The former Big Three automakers are motoring along nicely now, but in 2009 two of them (GM and Chrysler) were wheel-less rusting hulks sitting up on concrete blocks.