FRBSF Economic Letter
98-36; November 27, 1998
Slower Growth in California: the Role of Manufacturing
Over the past few years robust growth in manufacturing employment has
helped California expand more rapidly than the nation. Recently, however,
the financial crisis in East Asia and general imbalances in supply and
demand in some high-tech sectors have combined to damp growth in the state's
manufacturing sector. As a result, total payroll employment growth in
California is slowing, drawing closer to the national rate. Within California,
the San Francisco Bay Area has experienced the largest deceleration, slowing
by more than 60% over the pace a year earlier. In contrast, growth in
Southern California has slowed by about 10%. The disproportionate slowing
in the Bay Area is serving to equalize regional growth rates across California,
albeit at a slower overall growth rate than last year. This Economic
Letter reviews some of the reasons for the recent slowdown in California's
manufacturing sector and looks at its impact on California total employment
growth.
Recent developments
After growing by 3.8% in 1997, payroll employment in California has expanded
by 2.5% at an annual rate over the first eight months of this year, more
than a percentage point below last year's pace. Although a number of sectors
in the state's economy have decelerated, the bulk of the downturn is due
to large and ongoing declines in manufacturing employment growth. Figure
1 shows 12-month growth rates for manufacturing employment and for
total employment less manufacturing. Growth in manufacturing employment
began to slow in the third quarter of 1997, a period when most other sectors
of California's economy were expanding. In September 1997, 12-month growth
in manufacturing employment dipped below the average rate of employment
growth for the state's other sectors. Since that time, manufacturing employment
growth in California has declined almost steadily, and as of August (on
a 12-month basis) was well below the 3.5% rate of the remaining sectors
of the state's economy.
To estimate the direct effect of the slowdown in manufacturing on California
payroll employment growth, it is useful to consider how rapidly the state
would be growing if manufacturing had continued to expand at its earlier
pace. Between August 1996 and August 1997 manufacturing growth in California
averaged 3.6%. If manufacturing employment had continued to expand at
this pace during the 12 months ending in August 1998, California's total
nonagricultural employment would be growing by 3.5% per year rather than
the 3.0% actually realized. Thus, the slowdown in manufacturing has shaved
nearly 0.5 percentage point off growth in the state.
Factors damping manufacturing employment
growth
East Asia. The slowdown in manufacturing, in part, reflects
California's exposure to developments in East Asia. California merchandise
exports represent about 11% of gross state product (GSP) and nearly 50%
of those exports are shipped to countries in East Asia (Western Economic
Developments, August 1998). Merchandise exports from California to
East Asia have fallen rapidly in 1998. During the first half of 1998,
California's exports to East Asia fell 17.5% compared to the first half
of 1997. The largest contractions were to the ASEAN(4) and South Korea,
but exports to the other NIEs and Japan also declined significantly (Valletta
1998).
Exacerbating California's vulnerability to East Asia is the fact that
state exports are dominated by three industry categories: industrial machinery
and equipment (SIC 35), electronic and electrical equipment (SIC 36),
and instruments and related products (SIC 38), which contain most of the
state's high-tech manufacturers. Collectively, these three industry categories
account for more than 60% of California's total exports to East Asia.
In 1995 and 1996, while Asia was investing heavily in high-tech capital
equipment, computers, and telecommunications products, exports from these
three manufacturing categories grew rapidly. However, ongoing weakness
in many Asian nations has significantly damped demand for these exports.
Compared to last year, 1998 numbers reveal a 2.1% decline in total exports
of industrial machinery, a 2.3% decline in exports of electrical machinery,
and a substantial slowing in total export growth of instruments and related
products. (California's exports of these products began to weaken in 1997.)
State exports of these products to East Asia declined by much more, 17.0,
18.4, and 5.3%, respectively.
Slowing in the high-tech sector. Weakening East Asian demand
for high-tech products has aggravated a more general imbalance in supply
and demand growth in the industry. By most measures the high-tech manufacturing
industry never fully recovered from an earlier product-cycle downturn
in 1996. This left the industry particularly vulnerable to market disruptions
brought on by East Asia. Recently, these circumstances have combined to
produce an industry-wide slump at least as severe as the decline experienced
in 1996.
Indicators of industry-wide trends show ongoing weakness in both the
semiconductor and equipment manufacturing sectors. As of August, worldwide
semiconductor sales (three-month rolling average) were about $9.8 billion,
down roughly 16% (nearly $2 billion) from year-ago levels. Although sales
in all regions declined, the Asian market experienced the greatest weakness.
August 1998 sales to Asia were 22% lower than August 1997 sales. In the
Americas, sales fell by 14%, while in Europe, sales dropped by 2%. Declining
sales figures have resulted in manufacturing overcapacity problems.
Declining sales and worsening overcapacity problems have significantly
affected the industry's investment in new plant and equipment. Indicative
of the decline in purchases of new equipment is the monthly North American
Semiconductor Equipment Industry's "book-to-bill" ratio. The semiconductor
equipment "book-to-bill" is the ratio of semiconductor equipment orders
to shipments, from U.S.-based semiconductor equipment manufacturers. After
making a partial recovery from the 1996 industry downturn, the equipment
"book-to-bill" began to decline steadily in July of last year. In January
1998 it fell below 1 and as of August was just 0.60, representing $60
of new orders for every $100 of shipments.
Effects on California's manufacturing
sector
As East Asian developments and the high-tech slowdown have softened demand
for manufactured products, California's employment growth in this sector
has decelerated. While the deceleration has been broad-based, producers
of high-tech products have been particularly hard hit. Figure
2 illustrates the disproportionate decline in high-tech manufacturing
growth (defined as SIC categories 35, 36, and 38) relative to other manufacturing
sectors. Figure 2 compares 12- month growth rates for three categories:
high-tech, transportation, and all other, which includes a variety of
non-high-tech durable manufacturing sectors, such as primary and fabricated
metals and furniture and fixtures. (Specifically, the "other" category
includes the 2-digit SIC groups: Furniture and Fixtures; Stone, Clay,
and Glass products; Primary Metal Industries; Fabricated Metal Industries;
and Miscellaneous Manufacturing Industries.) Figure 2 shows that all manufacturing
sectors slowed in recent quarters, but the deceleration in high-tech was
particularly large. Twelve-month employment growth in high-tech fell from
an average of about 5% in 1997 to just 0.1% as of August 1998. In contrast,
the slowdown in most other areas of manufacturing, the exceptions being
transportation and lumber and wood products (not shown), was more modest,
falling only about 1 percentage point, from 3.5% on average in 1997 to
2.8% in August.
Effects on California's payroll
employment growth
As noted earlier, California's slowing manufacturing sector shaved approximately
0.5 percentage point off state payroll employment growth over the past
12 months ending in August. To understand which sectors contributed to
this slowing, Figure 3 compares
the employment shares of various manufacturing sectors with their percentage
contributions to the 0.5 percentage point reduction attributable to manufacturing.
Calculation of these contributions accounts for changes in the growth
rates of various sectors and differences in their share of total employment.
Within manufacturing, both the non-durable and durable sectors slowed.
Non-durable manufacturing, which constitutes about 40% of total manufacturing
employment, accounted for about 25% of the total decline in employment
growth, or about 0.13 percentage point. Durable manufacturing accounted
for the remaining 0.37 percentage point, or about 75% of the total decline.
Thus, durable manufacturing accounts for a larger share of the total slowing
than its employment share would predict.
Looking within durable manufacturing reveals that the vast majority of
the durable manufacturing decline is attributable to industries containing
high-tech manufacturers, namely, industrial machinery and equipment, electronic
and electrical components, and instruments and related products. Taken
together, these sectors account for nearly 80% of the slowdown in durable
manufacturing and 56% of the deceleration in total manufacturing (Figure
3). In contrast, these high-tech sectors make up only 35% of manufacturing
employment. The remaining sectors of durable manufacturing account for
a much smaller share of the total decline and account for less of the
slowdown than their employment shares would suggest.
Effects on growth by region
The disproportionate slowdown in high-tech is changing the regional pattern
of growth in the state. Employment growth in the San Francisco Bay Area
fell from 4.4% between August 1996 and August 1997 to 2.4% over the 12
subsequent months. Both San Jose and San Francisco experienced the sharpest
slowing. San Jose's job growth fell from 5.8% on a year-over-year basis
during the 12 months ending in August 1997 to 2.2% on the same basis during
the 12 months ending in August 1998. In San Francisco, growth dropped
from 3.8% in August 1997 to 1.7% in August 1998. This slackening in the
Bay Area reflects its high-tech specialization and strong ties to East
Asia. In contrast, growth in Southern California has accelerated. Growth
in Southern California increased from 3.1% to 3.4% on a year-ago basis.
In the Los Angeles-Long Beach area the increase was larger: growth climbed
from 2.2% over the 12 months ending in August 1997 to 2.7% over the 12
months ending in August 1998.
Summary
After being a leading contributor to California's rapid payroll employment
growth, the state's manufacturing sector has weakened. Manufacturing employment
growth has declined, and many of the state's manufacturers are shedding
jobs. Although manufacturing declines have been broad-based, producers
of high-tech products have been particularly hard hit. Regionally, the
Bay Area has felt a larger share of the impact than other parts of the
state. This is equalizing growth across California, although overall growth
is slower than last year.
Mary Daly
Economist
References
Valletta, Robert. 1998. "East Asia's Impact on Twelfth District
Exports." FRBSF Economic Letter 98-35 (November 20).
Western Economic Developments. 1998. Federal Reserve Bank of
San Francisco (August).
Opinions expressed in this newsletter do not necessarily reflect
the views of the management of the Federal Reserve Bank of San Francisco
or of the Board of Governors of the Federal Reserve System. Editorial
comments may be addressed to the editor or to the author. Mail comments
to:
Research Department
Federal Reserve Bank of San Francisco
P.O. Box 7702
San Francisco, CA 94120
|
