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The purchasing managers index (PMI) is an indicator that shows the conditions of the manufacturing sector as well as the overall health of the economy. The information for calculating the index is obtained through a monthly survey of numerous purchasing managers in different industries. These managers are asked to state whether the activity has increased, declined or remained unchanged in the following areas: new orders, production, employment, vendor performance and inventories. When released, the purchasing managers index will read above 50 if the economic activity is growing, it will read below 50 if the activity is contracting, and if the reading is simply 50, it will mean that activity has remained neutral.
In the manufacturing industry, purchasing managers are responsible for buying the products needed to manufacture goods. When the economy is growing strong, the orders for manufactured products will normally rise. Thus the purchasing managers will respond by ordering new supplies necessary to produce goods so that they can meet the increased demand. If the economy is doing poorly, then the demand for manufactured products will decline. These managers are well positioned and able to gauge activity in the manufacturing sector.
This index has roots in the early 1930s in the United States and was set up by the National Association of Purchasing Managers, which is now called the Institute of Supply Management (ISM). On an international level, there are other PMI equivalents, such as the Ivey index in Canada. All of these indices perform, more or less, the same function. Moreover, there is the global purchasing managers index, which covers approximately 30 countries whose combined manufacturing output makes up more than 80 percent of the total world manufacturing output.
In the U.S., the purchasing managers index is administered by the ISM, which releases it on the first day of business every month. The ISM surveys 400 purchasing managers in 20 industries, from food to furniture manufacturers. The surveys produce the purchasing managers index data about new orders, production, employment, vendor performance and inventories. Activity will pick up in a strong economy, it will drop in a weak economy, and the index will normally reflect what is happening.
When the purchasing managers index is released, it provides telltale signs of how the economy is doing. The index can also be helpful in forecasting where the economy may be headed. It is an important economic activity indicator, so the purchasing managers index is used by many people, including economists and players in the financial markets. The latter will use it as one of the tools to help make investment decisions. This is mainly because the purchasing managers index has been a useful tool that indicates major turning points in the economic cycle.
Users of the index will look for specific readings in order to gauge the health of the manufacturing sector and the economy as well. A reading above 50 will mean that the manufacturing sector and the economy are experiencing growth. A reading below 50 but above 43 will indicate that activity in the manufacturing sector is shrinking but the overall economic health might still be fine. A reading below 43, though, usually means that the economy might already be in a recession or very close.