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Inventory management is a dry topic, but it has helped explain the pace o many economicrecoveries. Last winter, the separation between the Institute or Supply Management’s InventoriesPMI and its New Orders PMI presaged the collapse in inventories that occurred during the rsthal o 2009. Now that the ratio has reversed—the New Orders index is much higher than theInventories index—it appears that companies will soon replenish their depleted stocks.Let’s stipulate that the historical relationship among new orders, inventories, and employmentshown in gure 1 will continue.
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How much would inventory restocking contribute to economicgrowth? The relationship between inventory and output is typically explained as ollows:Businesses overreact to a downturn by drawing down inventories and cutting payrolls, thusexacerbating the economic contraction. As orders rebound, businesses must aggressively increaseproduction not only to meet resurging demand, but also to restock inventories, leading tourther job growth and a ast pace o economic expansion. According to this account, inventoriesintensiy downturns and accelerate recoveries—in other words, they sharpen the V on bothsides.As gure 2 demonstrates, however, inventories have contributed less and less over time toexpansions and contractions.Moreover, note that gure 2 shows the contribution o inventories to growth as measuredin percentage points. In those absolute terms, the impact o inventories on growth wascomparable across the 1991, 2001, and 2009 recessions. Relative to the severity o eachdownturn, however, inventories played a much smaller role in 2009 than in the two prior recessions. This observation reutes the conventional wisdom: Though destocking was morepronounced in 2009 than at any point since 1990 (gure 1), its efect on the contraction o thelast eighteen months was not signicant.
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Some mitigating factors include: (1) still-high inventories/sales ratios; (2) continuing creditconstraints (plus the troubles of CIT); and (3) indications that countries that export to the UnitedStates may continue to destock their inventories. Of course, every historical period has itsidiosyncratic mitigating factors.
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Rstockg Rcory?
© 2009
Fig. 1
The End of Inventory Liquidation Could Be Approaching
Source:
Institute for Supply Management
ISM New OrdersISM Inventories
1990 1993 1996 1999 2002 2005 2008
N e w O r d e r s I n v e n t o r i e s
20304050607080352040455055
ISM EmploymentNew Orders minus Inventories
(Lagged 3 Months)
1990199319961999200220052008
N e w O r d e r s - I n v e n t o r i e s I S M E m p l o y m e n t
2535455565-20-10010203040
With the New Orders survey much higher than the Inventories survey… … is a sharp employment recovery around the corner?
September2009
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