Demand Is Up, But Can Supply Match It?
The signs of economic recovery are everywhere. According to the Bureau of Labor Statistics, the economy added 916,000 jobs in March. Most forecasts are predicting GDP growth of at least 5 percent in the first quarter (and stronger through the rest of the year). And a recent survey of CFOs showed optimism among financial decision-makers considerably higher than at any time in 2020. Responses to our monthly surveys of Fifth District businesses also indicate demand growth across regions and industries. In April, responses to our special questions indicate that firms attribute demand growth primarily to the vaccine rollout and a broad economic recovery. Yet many firms are concerned about keeping up with the rising demand.
Growing Customer Demand in the Fifth District
Results from our April surveys provide evidence of the economic recovery throughout the Fifth District. The revenues index in the service sector reached 22 in April — its highest level since October 2019. Since the index is a diffusion index and thus represents the share of respondents who reported increased activity minus the share who reported decreased activity, a reading of 22 indicates that many of our respondents said that revenues increased in the last month. In the manufacturing survey, the new orders diffusion index rose to 16 in April, up from 10 in the previous month. The backlog of new orders index reached 28, its highest level in the series history. The high value of the backlog of new orders index suggests that producers are having a difficult time keeping up with the rising demand.
In addition to increased demand in the last month, manufacturers and service providers also expect demand to pick up in the next six months — in April, the expected revenues index and the expected new orders index were 52 and 38, respectively. Both of those values are high relative to historic norms.
Why Has Demand Picked Up?
In the April survey, we asked participants a series of questions to understand what was driving the increased demand. Respondents were most likely to attribute the recovery to the vaccine rollout. This was particularly true among service sector participants — over 40 percent of respondents attributed demand growth to the vaccine. Although some respondents attributed growth to the fiscal relief package, the vaccine rollout, broad-based economic recovery/pent-up demand, and seasonal demand were much more common responses.
Can Supply Keep Up With Rising Demand?
From this survey, it does not appear the supply that firms can provide will immediately match the increased consumer demand. Of the firms that expected an increase in demand or new orders, 38 percent did not anticipate increasing supply to fully meet demand. Both manufacturing and service sector firms reported that finding workers was the greatest challenge to increasing supply. For example, a Virginia firm mentioned that many restaurants have the demand to resume pre-pandemic hours but are struggling with extreme labor shortages. Additionally, a staffing firm mentioned that it was difficult to find high-wage/high-skill workers in the manufacturing industry because of reticence to relocate for on-site work during the pandemic. Other respondents that commented on the limited labor supply mentioned enhanced unemployment benefits, a lack of skills in the available workforce, increased retirements, and at-home child care duties created by closed schools.
Procuring inputs was also a major challenge, especially for manufacturing firms. Survey comments suggested that the frictions exist in both international and domestic supply chains. Several respondents cited shortages of shipping containers for international shipments, and many others reported insufficient numbers of trucks to pick up products. For many of our survey respondents, the shortages in both raw materials and manufactured inputs were driving up input costs.
Supply side challenges faced by manufacturers were also reflected in our finished goods and raw materials inventory indexes. Before the fall of 2020, neither index had fallen below zero. In April, both the finished goods and raw materials indexes reached record lows of -12 and -16, respectively. Additionally, the vendor lead time index was 61 in April — a reading that was far higher than any in the last 20 years — indicating that more manufacturers than ever are struggling to get the necessary inputs into their production processes.
The Economic Return
With the decline in COVID-19 cases and increased vaccination rates, consumers are ready to resume a pre-pandemic lifestyle, especially regarding activities such as shopping, eating out, or traveling. And firms are seeing that increased demand. What is more, most Fifth District firms attributed the resumption in demand to vaccine rollout, a broad economic recovery, and pent-up demand more than to fiscal relief. However, our Fifth District survey results indicate that firms will struggle to meet the demand, primarily due to challenges procuring inputs into manufacturing processes and labor for manufacturing and services alike. In the end, the ability of firms to overcome supply constraints will be critical to meeting, and exceeding, pre-pandemic levels of business activity.
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Views expressed are those of the authors and do not necessarily reflect those of the Federal Reserve Bank of Richmond or the Federal Reserve System.
