Key Points

  • Data released by the Institute for Supply Management (ISM) on Tuesday showed that U.S. factory output declined for the sixth consecutive month in August, while prices rose and indicators for employment, supplier deliveries, and raw materials inventories weakened.
  • Despite signs of weakness, the new orders index rebounded during the month—following the Trump administration's announcement of trade agreements with multiple countries—pushing the ISM composite manufacturing index up slightly to 48.7% from 48% in July.
  • "Since the contraction in production nearly matched the expansion in new orders, the rise in the manufacturing PMI is of limited significance," Susan Spence, chair of the ISM Manufacturing Business Survey Committee, said in a statement. "The employment index improved slightly, but surveyed companies indicated that controlling headcount remains the norm rather than increasing hiring."

In-Depth Analysis

The ISM survey results further confirm the severe policy dilemma facing the Federal Reserve at its September 16-17 monetary policy meeting.

The labor market continues to weaken, while inflation remains well above the Fed's 2% long-term target. Policymakers must choose between "lowering the key interest rate to address employment risks" and "keeping rates unchanged to avoid exacerbating price pressures."

Spence noted that the index of prices paid by manufacturers for raw materials fell 1.1 percentage points to 63.7% in August, but it remains at a level indicating rising costs.

Broader inflation indicators show that price pressures remain significantly above the Fed's target. Data released last Friday by the Commerce Department's Bureau of Economic Analysis (BEA) showed that the Personal Consumption Expenditures (PCE) price index, excluding volatile food and energy prices—the Fed's preferred inflation measure—rose 2.9% year-over-year in July.

Consumers are more pessimistic about the inflation outlook. A University of Michigan survey released last Friday showed that consumers' one-year inflation expectations rose to 4.8% in August from 4.5% in July.

Meanwhile, the ISM employment index edged up 0.4 percentage points to 43.8%, but it remains at post-pandemic lows, consistent with other signs of a cooling labor market.

For example, U.S. nonfarm payrolls grew by an average of only 35,000 per month from May to July, far below the average monthly pace of 168,000 in 2024.

"Labor demand may be on the brink of a sharp decline," Fed Governor Christopher Waller said last Thursday. He noted that wage growth for job switchers has fallen below that of stayers.

Waller also pointed out that the unemployment rate for teenagers and other "cyclically sensitive" groups has risen this year to levels comparable to the weak employment period of the mid-2010s.

"Beyond the hard evidence of declining labor demand, my business contacts consistently report that they are not hiring," he said.

"Despite signs of weakening in the labor market, I worry that conditions could deteriorate further, and possibly quickly," Waller said, calling for a 25-basis-point cut in the federal funds rate at this month's policy meeting.

"The Federal Open Market Committee (FOMC) should not wait for such deterioration to actually occur before acting, lest it fall behind the curve in setting appropriate monetary policy," he added, noting that further rate cuts may be needed before the end of the year.

Waller and another Fed governor dissented at the July FOMC meeting against the decision to hold the key interest rate steady, advocating for a 25-basis-point cut from the current level of 4.25% to 4.5%.