FRB: G.17 Release-- Industrial Production and Capacity Utilization

Overview. The Federal Reserve Board constructs estimates of capacity and capacity utilization for industries in manufacturing, mining, and electric and gas utilities. For a given industry, the capacity utilization rate is equal to an output index (seasonally adjusted) divided by a capacity index. The Federal Reserve Board's capacity indexes attempt to capture the concept of sustainable maximum output – the greatest level of output a plant can maintain within the framework of a realistic work schedule, after factoring in normal downtime and assuming sufficient availability of inputs to operate the capital in place.

Coverage. Capacity indexes are constructed for 87 detailed industries (69 in manufacturing, 16 in mining, and 2 in utilities), which mostly correspond to industries at the three- and four-digit level according to the North American Industry Classification System, or NAICS. Estimates of capacity and utilization are available for a variety of groups, including durable and nondurable manufacturing, total manufacturing, mining, utilities, and total industry. Manufacturing consists of those industries included in the NAICS definition of manufacturing plus those industries–logging and newspaper, periodical, book and directory publishing–that have traditionally been considered to be manufacturing and included in the industrial sector. Also, special aggregates are available, such as high-tech industries and manufacturing excluding high-tech industries.

Methods and Source Data. The monthly rates of capacity utilization are designed to be consistent with both the monthly data on production and the periodically available data on capacity and utilization. Because there is no direct monthly information on overall industrial capacity or utilization rates, the Federal Reserve first estimates annual capacity indexes from the source data. Capacity data reported in physical units from government sources (primarily from the U.S. Geological Survey and the Department of Energy's Energy Information Administration) and trade sources are available for portions of several industries in manufacturing (e.g., paper, industrial chemicals, petroleum refining, motor vehicles), as well as for electric utilities and mining; these industries represent about 24 percent of total industrial capacity. When physical product data are unavailable for manufacturing industries, capacity indexes are based on responses to the Bureau of the Census's Survey of Plant Capacity (SPC); these industries account for about 70 percent of total industry capacity. In the absence of utilization data for a few mining and petroleum series, capacity is based on trends through peaks in production (roughly 5 percent of total industry capacity).

Six basic steps are involved in calculating the utilization rates published by the Federal Reserve.

Step 1. Implied end-of-year indexes of industrial capacity (ICAP) are constructed by dividing a production index (IP) by a utilization rate (U) obtained from a survey for an end-of-year period (t).[1]

These ratios are expressed, like industrial production, as percentages of production in a base year, currently 2002, and give the general level and trend of the capacity estimates. After an annual revision of industrial production, the capacity indexes must also be revised. The implied capacity indexes will automatically incorporate revisions to production in the estimation of capacity.

Step 2. The annual movements of the implied capacity indexes are refined to give consideration to alternative indicators of capacity changes; these alternatives include capacity data in physical units and estimates of capital input by industry.[2] The Federal Reserve’s estimates of annual capacity at the most detailed level are derived from the fitted values of regressions that relate the implied capacity indexes to these alternative indicators; the regressions are designed to improve the year-to-year changes in the implied capacities but to leave their trends intact.

Specifically, for industries based on utilization rates from the SPC, the logarithm of implied capacity is regressed on industry capital input (K), a deterministic trend (t), the age of the capital stock (A) (a proxy for embodied technological change), and occasional dummy variables (D_i):

Federal Reserve Statistical Release, G.17, Industrial Production and Capacity Utilization; a formula used to calculate implied capacity indexes

Federal Reserve Statistical Release, G.17, Industrial Production and Capacity Utilization; a formula used to calculate implied capacity indexes

For series based on physical data, an analogous regression is run in which the capital input measure is replaced with the measure of physical capacity and the age-of-capital variable is omitted. The fitted values of the regressions are used as the estimates of industrial capacity.

Extrapolations of capacity beyond the latest survey year also are based on the estimated model (2), given the trend terms and estimates of capital input and related measures or updated estimates of capacity in physical volumes.

Step 3. A monthly time series is formed by interpolating between the fourth-quarter baseline capacity indexes produced by the regression models. The interpolation procedure allows the monthly rates of increase to change smoothly over time while maintaining the same fourth-quarter to fourth-quarter rates of increase as the baseline capacity indexes.

Step 4. An adjustment may then be applied to estimates of capacity that appear to reflect short-term peak capacity rather than a sustainable level of maximum output. This adjustment is most prominent in the capacity index for electricity generation, in which the margin for summer peak loads is removed from the estimates implied by the physical data. An adjustment may also be applied when data sources are changed, to achieve continuity and consistency with historical utilization rate levels.

Step 5. The monthly capacity aggregates are constructed in three steps: (1) utilization aggregates are calculated on an annual basis through the most recent full year as capacity-weighted aggregates of individual utilization rates; (2) the resulting annual utilization rate is then divided into the corresponding IP aggregate to calculate an annual capacity index; and (3) the annual capacity index is interpolated using an annually weighted Fisher index of its constituent monthly capacity series to derive the monthly capacity aggregate.

Step 6. Utilization rates for the individual series and aggregates are calculated by dividing the pertinent monthly production index by the related capacity index.

Consistency. A major aim is that the Federal Reserve utilization rates be consistent over time so that, for example, a rate of 85 percent means about the same degree of tightness that it meant in the past. A major task for the Federal Reserve in developing reasonable and consistent time series of capacity and utilization is dealing with inconsistencies between the movements of the industrial production index and the survey-based utilization rates. The McGraw-Hill/DRI Survey, now discontinued, was the primary source of manufacturing utilization rates for many years. This was a survey of large companies that reported, on average, higher utilization rates than those reported by establishments covered by the SPC (currently the primary source of factory operating rates) for the fourteen years they overlapped. Adjustments have been made to keep the industry utilization rates currently reported by the Federal Reserve roughly in line with rates formerly reported by McGraw-Hill. As a consequence, the rates reported by the Federal Reserve tend to be higher than the rates reported in the SPC.

Weights. Although each utilization rate is the result of dividing an IP series by a corresponding capacity index, aggregate utilization rates are equivalent to combinations of individual utilization rates aggregated with proportions that reflect current capacity levels of output valued in current-period value added per unit of actual output. The implied proportions of individual industry operating rates in the rate for total industry for the most recent year are shown in the first column of table 7.

Perspective. Over the 1972-2007 period, the average total industry utilization rate is 81.0 percent; for manufacturing, the average factory operating rate has been 79.7 percent. Industrial plants usually operate at capacity utilization rates that are well below 100 percent: none of the broad aggregates has ever reached 100 percent. For total industry and total manufacturing, utilization rates have exceeded 90 percent only in wartime. The highs and lows in capacity utilization shown in table 7 are specific to each series and do not all occur in the same month.

[1] For industries whose capacity indexes are based on the SPC, the calculations are based on fourth-quarter data; for other industries, the calculation typically uses December data.

[2] The capital input measures are constructed by aggregating asset-by-industry capital stock data that, in turn, are developed from a perpetual inventory method that uses industry-level investment data from the Census of Manufactures and Annual Survey of Manufactures; from NIPA asset-level investment data and price deflators; and from the BEA’s capital flows tables, which provide a detailed breakdown of the asset composition of industry investment. The industry capital input measures are calculated from the asset-by-industry capital stock estimates using a Tornqvist index number formula that weights rates of increase in the net stocks of individual assets by an estimate of that asset's share of the aggregate marginal product of the industry's capital. Following standard practice, asset-specific rental prices were constructed and used to approximate the profile of each asset's marginal product over time.