Lower inflation is good news when you're buying, but bad news when you're selling, and for most of U.S. industry the bad news is now outweighing the good.
Profit margins across the economy are being squeezed as shrinking markets force companies to hold down their prices. "We are under as heavy pressure as we recall in recent years to hold the line on prices, or at least slow down the rate of increase," a spokesman for Bendix Corp. commented this week.
For manufacturers like Bendix, the pressure was evident in the producer price indexes for May released yesterday. For example, prices charged by producers outside the agriculture sector for semifinished materials and components have risen only 1.3 percent in the past year.
Of course, companies benefit when the prices they have to pay for raw materials fall or rise less rapidly. But that gain can be offset when they have to hold down their own prices. "The price of our raw materials is softening somewhat--but I believe the marketplace for industrial fasteners has softened even more," commented Richard Harris, general manager of the industrial fastener division of Bethlehem Steel Corp.
Harris said that this recession is worse than most: "All of our product lines are at a low ebb at the same time." This puts great pressure on Harris to hold down all his prices.
Bendix, which makes thousands of industrial products, supplying industries from autos to electronics, sees both sides of the recent dramatic slowdown in inflation. As Bendix customers press for lower prices, the company bargains harder with its suppliers.
Customers in some of the main markets that Bendix supplies, such as autos, are looking at very weak sales now, the official said. "They have to try to reduce costs, so they look to their suppliers, so their suppliers have to look to their suppliers . . . " and so on.
Bendix still is making a profit, but not as much as before. Its operating earnings in the January to March quarter of this year were down 26 percent from a year earlier.
Factories across manufacturing industries are operating at only 71 percent of capacity, according to the latest official figures. While firms are struggling to hold down their prices, their costs per unit of output inevitably are pushed up by the disastrously low operating rates.
"Our problem is not disinflation, it's really the fall-off in volume," lamented Millard Gamble, general manager of the textile fibres department of E.I. du Pont de Nemours & Co. Shipments in the first half of this year are down by about 23 percent from the same time last year.
This means that costs per unit of output are rising "many times" faster than if volume had kept up, Gamble said. When adjusted for volume, costs are up by about 4 or 5 percent in the last year, Gamble said. But this assumes 90 percent capacity, rather than the present 70 percent at which his department is operating.
There's "no question" that costs are climbing much more slowly now than before, Gamble agrees. But as Robert Jeffares of Cross and Trecker, a machine tool manufacturer, pointed out, "A year ago, when demand for our product was strong, even though inflation of costs was faster, we were able to pass that fully onto the customer." Now this company is discounting on many of its special orders.
Cross and Trecker counts many of the most depressed industries among its customers, including autos and construction. "All of our markets have been hit extremely hard . . . across the board," Jeffares said. "We're hurting more than we're being helped" by slowing inflation, he added.
Many business executives point out that, although lower raw material prices are a boon, these are only a small part of total costs. Labor costs still are rising, albeit not as fast for some industries as in recent years. And so long as interest rates stay stubbornly high, companies face high debt costs.
High interest rates have hit some industries harder than others, of course. Homebuilding has been slumping for longer than the rest of the economy. This has fed back into very weak prices for supplying industries such as lumber.
The price of plywood has plummeted by about 50 percent in real terms in the last two years, according to Tom Ambrose, director of External communications for Weyerhauser Co., a giant forest products company. This company has not been hit as hard as some in the timber business because it owns its own land and timber, Ambrose said. Firms that buy timber are now paying prices fixed two or three years ago, when people expected prices to rise. "A lot of people have timber standing in woods which cost a lot more than they can sell it for," Ambrose said.
No one expects these lows to last, analysts say. As the economy recovers, prices for crude materials are likely to rise, and price rises across industry are likely to speed up as business attempts to recoup some of today's losses and to restore profit margins. Inflation is not expected to go back up to its previous highs, however, and, as Ambrose and others said, the slowdown that most analysts now forecast is welcome.
"Getting inflation wrung out is a good thing . . . but its going to be a very painful transition for a lot of companies," he commented.