Markets: Manufacturing breaks with the ASX

Since 2006, the Australian stock market has moved closely with the manufacturing index. Until the AiG manufacturing release today, the two indexes were close but the difference between the two has pushed out with them now clearly moving in opposite directions.

The last significant disparity between the two was late 2007 when manufacturing was having large fluctuations and the Australian market was at an all-time high, trading over 6800 points.

The graph below details the monthly manufacturing index figures against the performance of the ASX 200 since 2006. When the ASX was comfortably over 6000 points towards the end of 2007, the manufacturing index was fluctuating from year highs of 57.4 reached in July to lows of 50.7 in September.

Manufacturing numbers for July confirmed the pain local companies are feeling with the index dropping 7.6 points to 42 points.

As a leading economic indicator, the manufacturing index provides an insight into the health of the local economy. A number below 50 indicates contraction, and this has been the trend in AiG's releases since February of 2012, as Australian businesses can vouch for.

Chopping 2 per cent from the official cash rate since May of last year has little nothing to boost exports or local demand.

Over the past month we have seen car manufacture Ford announce it will stop production here locally in 2016 and Holden look to slash jobs, so this morning’s numbers confirm the economic situation facing Australian businesses.

Beyond the car industry, Orica Limited, a global player in the manufacturing business of chemicals and mining services, is also feeling the pinch. They revised earnings downwards in July citing weaker than expected global economic conditions as an influencing factor. For the year Orica is down over 25 per cent and has reached lows not seen since early 2009.

It may be too quick to say the weaker Australian dollar hasn’t helped manufacturing, remembering the dollar only began to depreciate in early May. It could take some time for this to work through the economy and benefit businesses.

But the Grattan Institute expects the manufacturing industry to recover in a lower exchange rate environment, as they found no evidence to suggest manufacturing would remain depressed in this atmosphere even after a period of high exchange rates.

While this may be the case Australian businesses have to contend with competition from China, which is changing the global manufacturing landscape. A lower Australian dollar allows our companies to complete with global peers but also increases the competition here at the same time, proposing another set of problems.