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How to interpret the PMI indexes in 2020?
Bruno Cavalier
Chief Economist at ODDO BHF
After record falls in March and April in Europe and the US, purchasing managers' confidence picked up in May and again in June. The fall is not far from being erased, but this does not mean that the shock to the real economy has been fully overcome. The coronavirus crisis was so brutal that it (temporarily) undermined the historical relationship between confidence levels and the pace of activity. The business climate is rebounding as the epidemic has receded from its peak, allowing economies to gradually reopen. For the time being, the risk to the recovery remains primarily a health risk.
Lockdown = Recession/Reopening = Recovery
According to preliminary data, the purchasing managers' confidence indexes rose sharply in June for the second month in a row (left-hand chart). After a historic drop in March-April, a period of maximum lockdown, the rebound is spectacular. In the US and the eurozone, 89% of the drop in the PMI Composite index is erased, in the UK 85% (only 57% in Japan). At the global level, on the basis of the partial data available, the composite PMI index should be around 47 points in June, the same level as in February. In April, at its trough, it had fallen to 27 (vs a previous low of 38 in November 2008).
Under normal circumstances, we can see a robust relationship between the level of the PMI index and the pace of activity in the short term (say, over a month or three months). Hence the widely accepted idea that a PMI describes an expansion phase if it is above 50 and a recession if it is below 50. This relationship weakened in the coronavirus crisis, as the shock was so atypically strong and affected the various branches of the economy in a differentiated way. Business climate indices of the PMI type are not in fact designed to capture the intensity of the shock (see inset p.2).
In the current situation, the rules of interpretation need to be reviewed. The relation between PMI levels and present-day growth obviously no longer holds1. These indices are generally south of the critical 50-point threshold, which should signal an ongoing contraction, albeit at a slower pace than in March or April. Yet, all signs point to a rebound in activity when lockdown began being eased in May. At present, sequential trends in PMIs are sending out a positive sign for the cycle, but do not tell us anything specific about the pace of GDP growth. For this, it is better to look at estimates based on high-frequency big-data pertaining, for instance, to the mobility of economic agents or credit card transactions. (RHS table).
In the short term, assuming ongoing favourable developments in the health crisis, there is every reason to expect the business climate to continue improving. The PMIs might therefore break records to the upside over the next few months. Much of the rebound will probably be proportionate to the drop that preceded it. This should be borne in mind when comparing the different countries. The current PMI-composite hierarchy in developed countries (France > eurozone > US > Germany) does not, obviously, reflect the seriousness of the coronavirus crisis - quite the opposite, in fact.
1 As was generally the case for all economic data during lockdown, the quality of the PMI surveys might have decreased. This would give a greater
margin of inaccuracy than normal (lower response rate and survival bias of respondents).
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