Looking ahead to 2007 for American manufacturers

U.S. manufacturing has been humming for nearly three years. After a period of almost no growth in 2001 through 2003, manufacturing output increased 5 percent in 2004 and another 3 percent in 2005. This year, production is on track to expand 5.2 percent. There are a number of reasons behind this renaissance.

First, is the resurgence of investment. From a business investment point of view, rising operating rates, increasing business occupancies, and healthy corporate profits have stimulated strong levels of spending for both high-tech and traditional equipment. Moreover, high energy prices and tough global competition have forced manufacturers to be on the leading edge of efficient and low-cost production.

Investment in high-tech equipment was the first out of the gate. It posted increases of 10 percent and 8.5 percent in 2004 and 2005, respectively. This year, it is likely to see growth close to 9 percent. Investment in traditional industrial equipment had a later revival, but proved to be no slouch either. It grew by 8.2 percent last year and is likely to increase another 8.6 percent in 2006.

We expect the investment recovery will continue into 2007, but after nearly three years of strong growth, it is starting to mature. Total equipment and software spending is on track to expand 8.0 percent this year, but is expected to slow to 5.8 percent growth next year. As a result, production in both the traditional and high-tech equipment sectors will downshift. High-tech equipment output growth is forecasted to slow from 18 percent this year to 13 percent next year, while traditional machinery output gains ease from 5.2 percent this year to less than 2 percent in 2007.

One investment sector will pick up the tempo next year, however. With many projects on the drawing boards for 2007 and 2008, spending on nonresidential buildings is expected to climb at least 5 percent in both years. This will accelerate the manufacture of materials such as structural steel, cement, glass products and electrical lighting.

While much of the growth in manufacturing over the past few years has been headlined by investment and equipment, a big part of the increase can also be attributed to a buoyant consumer sector. In 2004 and 2005, consumer spending on non-durable goods increased 3.6 percent and 4.5 percent, respectively. This year, it is expected to grow by another 3.6 percent. Spending on durable goods rose 6.4 percent in 2004 and 5.5 percent last year. This year, it should see 4.6 percent growth. These numbers have had a supporting role in the growth of industries such as foods, beverages, tobacco and pharmaceuticals. However, the big boost was felt in big-ticket and housing-related industries, such as appliances, furniture, carpeting and rugs, and, especially, autos.

All this is likely to change. Higher interest rates, high energy prices, and a weaker housing market will chip away at consumer confidence, especially when it comes to big-ticket items. As a result, neat year's consumer spending growth for nondurable goods is anticipated to slow to 2.2 percent, the weakest increase since 2001. Furthermore, this year's robust spending on durable goods will be replaced by meager performance in 2007, when only 0.3 percent growth is expected. This will have a profound impact on the auto market, where domestic light-vehicle production is likely to decline nearly 4 percent next year. In addition, we anticipate housing starts will weaken by 7 percent in 2007. This will hurt the household appliance and furniture industries, with output in both segments expected to fall by 2.4 percent next year.