Manufacturing investments drive US construction market growth

The notion that construction spending in the U.S. would be expanding at an accelerating rate so far in 2023 seems counterintuitive to me. I tend to think trends in the construction sector are sensitive to the trend in interest rates, and as we all know, the U.S. Federal Reserve has aggressively pushed interest rates higher over the past 15 months.

But the recent actions of the Fed notwithstanding, some categories of the construction sector data are rocketing upward.

According to the latest monthly report from the U.S. Census Bureau, construction spending during April 2023 was estimated at a seasonally adjusted annual rate of just over $1.9 trillion. This total represents an increase of 1 percent when compared with the total from the previous month, and it is a robust gain of 7 percent from April of last year.

For the year to date, total construction spending is up 6 percent when compared with the first four months of 2022.

So overall spending is up quite nicely this year, but you have to dig down deeper into the data to appreciate fully what I contend is a remarkable — and all too infrequent — story. You see, total spending on residential projects, which usually accounts for well over half the overall total, is actually down by more than 8 percent so far this year.

The residential side is being negatively affected by the higher interest rates and spending levels are down substantially as a result. I believe the good news here is this trend is nearing its cyclical trough, and a full recovery in the residential sector will get underway in 2024. So I will likely have more to say about this in a future column.

By now you have figured out that to offset the large decline in the residential data it will require a salubrious jump in the nonresidential figures. So let's just cut the suspense. So far in 2023, the value of construction put in place in the U.S. for nonresidential projects is up a sterling 22 percent. The value for April represents a gain of 25 percent over the total from April of last year, so as of the latest report, we can say that this uptrend is still accelerating.

The Census Bureau breaks down the nonresidential data into 16 subcategories, and all but three of them — public safety, communications and power — are sporting double-digit percentage gains so far this year. But that's not even the best of it.

The fastest-growing category for construction spending through the first four months of 2023 — and when I say the fastest-growing category, I mean by a wide, wide margin — is manufacturing. That's right. The segment of the economy that is currently enjoying the fastest pace of growth in investment in its facilities just happens to be the one nearest and dearest to my heart.

How many times over the years have I looked at this particular data set and just been happy with the fact I could still detect a pulse? Today, I look at a rate-of-change chart generated from this data that is going hyperbolic. Now I know how it felt to be a Cubs fan the year they finally won the World Series.

And lest you think I am exaggerating, let me explain what I mean by hyperbolic. As you can see from the chart, for the 12 months that ended in April, the rate of growth over the previous 12-month period is 57 percent. For the four-month period so far in 2023, the growth rate is an eye-popping 84 percent when compared with the same period last year. And for the month of April itself, the year-over-year pace of growth is 104 percent. In other words, spending for manufacturing facilities this past April was more than double what was in the same month last year. And at the time, I was pretty excited about the number from last April when the 12-month growth rate was a mere 13 percent.

I do not expect this pace of growth to be sustainable over the long term. So, it is reasonable to ask what is driving this growth and what it means for the future of the economy in general and the plastics industry in particular.

As best I can tell, this surge in investment in the productive assets of the U.S. is likely due to a combination of at least two connected impulses. The first is Americans are finally awakening to the fact that, in a world of ever-expanding complexity and uncertainty, shorter supply chains actually cost less to maintain in the long run.

For a while, myopic market participants on all sides were rewarded for externalizing the real, long-term costs of doing business relying on long supply chains and suppliers that were geopolitical adversaries. Obviously, this involved risks that have only just recently been discounted in the true costs of goods and services. We still have more work to do in this area of risk assessment, but I think we are better now than we were before the pandemic and the invasion of Ukraine.

The second impulse spurring investment at the moment is being generated by the strategic imperative to regain control of our supply of semiconductors. The rapid advances in artificial intelligence are capturing most of the headlines right now, and that may in fact turn out to be a transformative technology. I do not know enough about AI to forecast its future, but I do know the situation with the semiconductor industry is urgent. Investment in this supply chain will drive capital expenditures for several more years, and it should prove to be a significant benefit to the plastics industry as the infrastructure is built out.

This bodes well for the long-term outlook starting sometime in 2024, but I do not want to look past the potential difficulties in navigating the next six to nine months. I have not forgotten the full impact of the recent Fed decisions is yet to be felt. I am still not forecasting a recession, but the second half of this year will be at least uncomfortable — and possibly painful — for some segments of the economy.

As we get to the halfway point in the year, my message from the first half remains unchanged. I see no reason in any of the data so far to get alarmed. In fact, the inflation and employment data are behaving very nicely at the present time.

But, in my opinion, risk levels for many sectors remain elevated. I will not let the excitement about the potential for a manufacturing renaissance in a few months cause me to miss the situation right in front of me.