Factory Orders Drop Sharply; Commercial Paper Posts Record Decline

MBA (10/3/2008 ) Velz, Orawin
New orders for manufactured goods declined by 4.0 percent in August, following a 0.7 percent increase in July, which was downwardly revised from a 1.3 percent increase.
August’s drop in factory orders was the largest in nearly two years. The factory orders report included a downward revision of durable goods orders data released last week and contained new data on nondurable goods shipments.

Nondurable goods shipments fell by 3.3 percent, also the largest drop in nearly two years and the first decline since February. The huge drop in nondurable goods shipments was led by petroleum shipments, which account for about 30 percent of the value of total nondurable goods shipments. The value of petroleum shipments fell 8.5 percent, reflecting the decline in the price of crude oil in August.

Durable goods orders fell by 4.8 percent, a downward revision from a 4.5 percent drop in the advance estimate. The downward revision to durable goods orders was broad based, led by a downward revision in electrical equipment, appliances and components. Only computers and electronic products posted a small upward revision.

The downward revision in durable goods orders indicated that business investment spending outlook was even weaker than initially reported. Orders for nondefense capital goods excluding aircraft—a proxy for business investment in equipment and software in the coming quarters—fell by 2.4 percent in August, compared to the 2.0 percent decline reported last week.

The factory orders report showing a sharp deterioration in manufacturing activity was consistent with the Institute for Supply Management manufacturing survey released on Wednesday. That survey indicated that manufacturing activity contracted in September at the fastest pace since the 2001 recession.

Financial stress is threatening corporate funding channels. The Federal Reserve reported yesterday that the U.S. commercial paper market contracted for a third consecutive week as business lending and borrowing effectively shut down. Commercial paper is a vital source of short-term funding (30 days to 45 days, on average) for daily operations at many companies.

For the week ended Oct. 1, the value of commercial paper outstanding was down by $94.9 billion from the previous week to $1.607 trillion. Financial paper accounted for about two-thirds of the decline, dropping $64.9 billion to a two-year low. The decline in total commercial paper outstanding in the latest week was the largest on record since the Fed began tracking the data in 2001, which brought the cumulative decline to $208 billion in the past three weeks.

Because of its short maturity and thus frequent rollovers, the decline in the commercial paper outstanding underscores the urgency for fixes to the financial crisis and supports the view that the Fed will likely lower interest rates when it meets Oct. 28-29. Fed funds futures placed about a 95 percent probability that the Federal Open Market Committee will cut the federal funds rate by 50 basis points at its October meeting. The odds were only about 35 percent on Wednesday.

Another sign of increased financial stress, despite the passage of the rescue bill in the Senate, was the continued increase in the Libor rate (or the rate that banks charge each other). Interbank rates have soared as banks hoard cash to meet future funding needs and are unwilling to lend each other on concern that more banks will collapse. The TED spread—the difference between the three-month Libor and three-month Treasury bill rate—rose to a record 3.61 percentage points by mid-Thursday afternoon.