U.S. Durable Orders Much Stronger than Expected

Surprisingly good news emerged from the May durable goods new orders report, showing an unexpected and very strong gain of 1.8% in the month. Expectations had been for a decline of 0.9%. This increase built further on a strong gain in April of an equal-sized 1.8%, which represented a small upward revision from the initially estimated increase of 1.7%.

Expectations of a decline in May durable new orders had been largely premised on indications of soft manufacturing data evident in the labour numbers for the month along with widely-reported shutdowns in the auto sector. Orders for motor vehicle and parts did plummet 8.1% in the month; however, this weakness was more than offset by strength elsewhere.

The offset was led by a 68.1% surge in non-defence aircraft and parts, although the report showed other areas of strength, including solid gains in the computer (9.4%) and general machinery (7.7%) components. This broad-based strength was also evident in the non-defence capital goods new orders ex aircraft measure, which is viewed as a key leading indicator for investment activity, rising a robust 4.8%, more than offsetting the 2.9% drop in April.

Indications of weakness in manufacturing were more evident in the less forward-looking shipments component, which fell 2.1%. This followed declines of 0.5% and 1.9% in April and March, respectively.

The stronger-than-expected gain in durable new orders provides further support to the view that economic conditions are improving. The rise in the key non-defence capital goods new orders ex aircraft component augurs well for the pace of decline in business investment for equipment and software moderating in the second quarter from the 33.5% plummet recorded in the first.

However, the improvement in recent economic indicators is largely taking the form of an easing in the pace of decline in the current quarter rather than a return to positive growth. With the economy still weakening, the Fed is likely to maintain the current very accommodative range for Fed funds of between 0% to 0.25% coming out of today’s FOMC meeting. Although there is no scope for further cuts, the central bank may provide a conditional commitment to maintain this range for a considerable period of time, possibly through the middle of 2010. This may help reverse some of the recent drift up in bond yields. In fact, the central bank may see the need to address this deterioration head on by announcing that more funds are being made available to finance further quantitative easing.

RBC Financial Group
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The statements and statistics contained herein have been prepared by the Economics Department of RBC Financial Group based on information from sources considered to be reliable. We make no representation or warranty, express or implied, as to its accuracy or completeness. This report is for the information of investors and business persons and does not constitute an offer to sell or a solicitation to buy securities.