Table 2. Diffusion indexes of employment change, manufacturing payrolls, 141 industries,’ seasonally

adjusted
[Percent]
Year van | Fob. [ Mor | Ame | Mey | une | July | Aus | Sept | Oct | Mov. | Dec.
Over 1-month span
1977. lesen 60 | soo | 634 | 709 | 670 | sos | eos | saa | 21 | s7a | 31 | 702
1978 oo. : ei | 645 | 638 | e56 | 610 | 624 | 560 | sas | 571 | 28 | 683 | 601
1979. | goa | sso | sae | sos | 57 | 617 | soo | 450 | ata | 574 | 488 | 479
ase | 461 | 475 | 284 | 248 | 270 | 207 | saz | sso | oar | 617 | 539
saz | 40 | 550 | 631 | 613 | 567 | 560 | 422 | 394 | 305 | 204 | 234
270 | 304 | 280 | 319 | a2 | 266 | 344 | 284 | 355 | 266 | 262 | 304
ss2 | 436 | 553 | 670 | 674 | 509 | 688 | eo | 681 | 709 | 24 | 621
ei7 | 76 | 645 | o38 | 546 | 610 | 560 | see | 429 | soe | 447 | 486
ass | 404 | 440 | a76 | 415 | 304 | 479 | 486 | 379 | 443 | 440 | 507
ao | 4.0 | a6 | 436 | 465 | 433 | a7 | 511 | 486 | 450 | 507 | 528
443 | 539 | 543 | 557 | 553 | 543 | 628 | so9 | oe | soo | 656 | 564
sas | 560 | 550 | 599 | ses | o17 | soe | 511 | 499 | 28 | 649 | 585
e24 | 535 | 532 | 496 | 468 | 46 | 406 | 454 | a8 | 521 | 402 | 447
Over 3-month span
1977 706 737 | 787 | 720 | 667 | 624 | o49 | o24 | o77 | 691 | 762
1978. 770 m3 | 69 | 61 | 628 | 613 | se2 | 624 | 670 | 709 | 734
1979 |. 649 so6 | soo | sas | so2 | soo | 365 | 440 | a6 | 525 | 429
1980 447 24 | 202 | 184 | 195 | 277 | 397 | os2 | o77 | 674 | 613
1981 |. 518 sos | 665 | 067 | 649 | 550 | 426 | 280 | 255 | 177 | 174
1982 170 a3 | 20 | 20 | 23 | 181 | tee | 26 | 184 | 177 | 333
1983 | 46.1 17 | 713 | 709 | 738 | 706 | 762 | 770 | 741 | 720 | 674
1984 .. 11.6 75.2 65.6 65.2 58.9 571 50.7 475 42.9 45.7 44.7
1985 .. 436 zs | s30 | a12 | 376 | aos | 379 | 383 | 965 | 429 | 468
1986 | 450 363 | 387 ao | 45 | 475 | 525 | 493
1987 52.1 506 | 613 mie | 34 | 708 | 677 | 645
1988 - 63.1 e24 | 649 sa2 | 621 | 667 | 713 | 709
1989 67.4 55.7 518 34.0 418 4S 465 42.9P
1977 816 81.9 79.1 73 68.4 70.9 75.2 80.5 WT
1978 77 | 798 | 70 | 723 ei | 699 | 713 | 670 | 699
1979 eas | 663 | 621 | 582 ais | 397 | 401 | 426 | 429
1980 sso | 20 | 234 | 167 3o7 | 528 | 706 | 674 | 652 |
1981 52 | 628 | 628 | 681 zo1 | 223 | 170 | 14 | 124
1982 103 | 106 | 135 | 206 ver | 145 | 181 | 213 | 273
1983 4s8 | 596 | 649 | 670 773 | 762 | 738 | 759 | 748
1984 752 | 723 | 727 | 702 25 | 486 | 447 | 304 | 418
1985 ass | 348 | 204 | 319 see | 383 | 401 | 383 | 376
1986 a76 | 387 | 355 | 333 ait | 44 | 496 | S04 | 51.1
1987 574 | 567 | 553 | 624 7os | 713 | 695 | 695 | 681
1988 ees | 663 | 677 | 695 7os | 638 | 99 | 716 | 741
1989 eas | 585 | 557 | 528 aia | 344 | gar | gave | —
1977.0... _ 70 | 77 | 759 | 766 | a2 | 26 | a0 | a9 | asa | aos | 780 | 73
1978 aeeeneeeea 2 | 77 | 72 | 70 | 70 | 770 | 752 | 706 | 709 | 656 | 691 | so
1979... SU] evo | ea2 | ozs | sz4 | sis | 486 | 439 | 475 | 422 | 365 | 2a1 | 248
1980... c.| 206 | 223 | 238 | 252 | 230 | 229 | 213 | 227 | 28 | 305 | 457 | 596
1981 eee ae 72.0 69.1 69.1 528 40.4 35.1 277 21.6 77 15.2 13.8 12.4
1982 2. “| tar | ws | 92 | 13 | 82 | 99 | 1395 | 142 | 182 | 216 | 255 | 937
9988 43 | soo | s60 | 660 | 716 | 755 | 762 | 7a4 | 780 | 7a7 | 801 | 762
19842 vo | 723 | 681 | 660 | 624 | 610 | se | 546 | soa | 440 | 401 | 337
1985 0. a6 | 309 | 301 | 284 | 277 | 284 | 201 | 28 | gee | a9 | we | 298
1986 |. 2" 303 | aor | 348 | axe | 362 | 390 | ga | 397 | 429 | 461 | 486 | 500
1987 oo ss3 | sas | sas | 635 | oa | 674 | 716 | 727 | 716 | 691 | @e4 | 723
1988 | “| 938 | 702 | 79 | 716 | 720 | 699 | 709 | 691 | 716 | 702 | es | 670
1989 | eat | o38 | 571 | 535 | 46 | 429 | ager | azer | — _ — —
1 Biased on seasonally adjusted data for 1-, -, and 6-month spans and unad- an equal balance between industries with increasing and decressing employment.
justed data for the 12-month span. Data are centared within the span. Establishment survey estimates are currently projected from March 1988 bench

P = preliminary. mark levels. When more recent benchmark data are introduced, all unadjusted data
Nove: Figures are the percent of industries with employment increasing plus _(De9inning April 1988) and all saasonaly adjusted data (beginning January 1985)
‘one-half ofthe industries with unchanged employment, where 50 percent indicates"? Subject t0 revision.

Monthly Labor Review April 1990 17


The new diffusion
indexes improve
the potential for
analysis of
employment
trends.

Diffusion Indexes

aggregate levels.° Most economic changes, in-
cluding those in employment levels, rarely
occur as sudden, dramatic shifts. Instead, some
industries will begin to experience increases
(decreases) in employment well in advance of
others. Theoretically then, over the short term,
a diffusion index should lead changes in direc-
tion by the aggregate series. In other words, the
number of industries increasing employment
will maximize before the employment growth
maximizes and a diffusion index thus will reach
its peak (trough) well in advance of an employ-
ment peak (trough).

An employment diffusion index may also be
regarded as a leading indicator for economy-
wide trends, because business cycle turing
points usually coincide closely with employ-
ment level turning points. If an employment
diffusion index leads changes in employment
level turning points, it follows that the index
should lead changes in business cycle turning
points.

To examine leading indicator properties for
the all-industry and manufacturing diffusion in-
dexes, turning points for all spans (1, 3, 6, and
12 months) were identified through standard
National Bureau of Economic Research (NBER)
methodology.’ The turning points for the two
indexes for the 1-month span are measured
against turning points for total private and man-
ufacturing employment in exhibit 1.

In regard to total private employment level
turning points, the all-industry index shows
poor leading indicator qualities for the period
researched (January 1977—present). As exhibit
1 illustrates, there are only two employment
level turning points identified through standard
NBER methodology, while there are seven turn-
ing points identified for the all-industry index,
indicating a preponderance of false leads by the
index.

The manufacturing index, however, reveals
much stronger leading indicator qualities in re-
gard to manufacturing employment levels.
Standard NBER methodology identified seven
manufacturing employment level turning points
and six manufacturing diffusion index turning
points for the period studied. The manufactur-
ing index led all six corresponding employment
turning points, with the leads ranging from 2 to
21 months; there was a mean lead of 12 months
and a median lead of 11 months. Thus, the man-
ufacturing diffusion index presents a strong case
as a leading indicator for manufacturing em-
ployment levels.

Exhibit 2 compares identifiable turning points
of the two indexes to the NBER official business
cycle turning points (which define official re-
cessionary periods) for January 1977 to the

20 Monthly Labor Review April 1990

present. The all-industry index led all four NBER
business cycle turning points (two peaks and
two troughs), though not by a consistent
amount; leads ranged from 3 to 22 months, re-
sulting in a mean lead of 11 months and a me-
dian lead of 7 months. This index, however,
identified two peaks and a trough subsequent to
the last NBER-designated turning point in Novem-
ber 1982, thereby providing three false signals.

The manufacturing diffusion index perform-
ance is less effective in predicting business
cycle turning points. In fact, this index rates
rather poorly as a cyclically sensitive economy-
wide indicator. It has no identifiable turning
point to coincide with the January 1980 business
cycle peak. Further, it designates three turning
points subsequent to the NBER November 1982
trough, indicating a preponderance of false
leads for the index. The three corresponding
turning points tracked fairly closely, with leads
of 2, 9, and 11 months, respectively; neverthe-
less, the number of false leads mitigates its
usefulness as a leading indicator. While the
manufacturing diffusion index performs well as
a leading indicator for manufacturing employ-
ment levels, it is not as satisfactory an indicator
of overall economy-wide trends.

Six-month span diffusion indexes sometimes
prove to be the most cyclically sensitive and
portray the best leading indicator properties. For
example, in the Federal Reserve Board’s diffu-
sion index for industrial production, the 6-
month span is cited as “generally showing more
pronounced cyclical patterns when compared to
indexes based on changes over shorter peri-
ods.” Some of this may be because longer
spans remove the “noise” or distortions caused
by erratic over-the-month changes and focus on
the underlying trends. However, there is no
conclusive evidence, based on the limited num-
ber of observations during the period studied, to
support this theory for employment diffusion
indexes. The 6-month span does demonstrate
some characteristics of a leading indicator of
reference and employment turning points, but
there is no evidence that its leading indicator
properties outperform the other spans.

Finally, as evidenced earlier, the BLs employ-
ment diffusion indexes function as summary
indicators—assessing the overall state of the
economy. The index number measures whether
increasing or decreasing industries predomi-
nate, and to what extent. Further, while the
indexes’ leading indicator properties currently
appear tenuous, there is evidence that the manu-
facturing diffusion index does lead movements
in manufacturing employment levels. However,
more time is needed to discern the usefulness of
the indexes as leading indicators. o



Diffusion Indexes

Table 1. Diffusion indexes of employment change, private nonagricultural Payrolls, 349 industries,’ seasonally
adjusted
[Percent]
Year van. [ rob. [war [ee | tay | sue July Aug. | Sept | oct | nov. | ove.
Over 1-month span
197 6&5 | 605 | 703 | 679 | 686 | eas | 645 | 613 | a9 | 613 | 670 | 679
1978 625 | 643 | 702 | 701 | 646 | 676 | 616 | 622 | 620 | 643 | 709 | 666
1979 639 | 610 | 648 | 527 | 616 | 613 | 557 | 532 | so7 | 613 | sa2 | 539
1980 $46 | 534 | 497 | 374 | 408 | 380 | 423 | 500 | 557 | 638 | 503 | see
1981 $85 | 527 | 540 | 645 | 570 | 533 | 577 | 513 | 458 | 423 | 403 | 360
1982 372 | 473 | 401 | 415 | 493 | 381 | 428 | 301 | 447 | 362 | 401 | 436
1983 | $50 | 479 | 602 | 656 | 663 | 665 | 672 | 689 | 701 | 666 | 676 | e466
1984 678 | 706 | 652 | 678 | 633 | 672 | 596 | 619 | 572 | 629 | 503 | 577
1985 $85 | 523 | 602 | saz | 585 | 514 | 576 | o7 | 536 | 563 | se6 | so7
1986 = 554 | 537 | 532 | 563 | 552 | 507 | 547 | 563 | 579 | 546 | 5a0 | e617
1987 $56 | 593 | 610 | 619 | 586 | 507 | 63 | 66 | 630 | 678 | 645 | co7
1988 607 | 635 | 630 | 628 | 613 | 672 | 636 | 580 | 554 | o39 | oa2 | ose
1989 63 | 605 | 610 | 582 | 556 | 507 | 556 | 574 | 479 | 553 | 609 | 519
Over 3-month span
1977 702 | 745 | 764 | 792 | 748 | 721 | 693 | 721 | 705 | 735 | 736 | 728
1978 . 719 | 738 | 769 | 769 | 749 | 711 | 692 | 658 | 683 | 735 | 748 | 762
1979 605 | 718 | 658 | 662 | 620 | 640 | 5a9 | 533 | 576 | 586 | 622 | seo
1980 . $66 | 514 | 420 | 383 | 355 | 374 | 428 | soo | 653 | 669 | 685 | 643
1981 595 | 556 | 589 | 646 | 633 | 607 | 570 | 524 | 433 | 400 | 340 | 309
1982 312 | 48 | 377 | 415 | 403 | 403 | 348 | 383 | a54 | 358 | 360 | 466
1983, 484 | 570 | 626 | 719 | 721 | 744 | 726 | 72 | 772 | 6 | 116 | 736
1984 749 | 755 | 762 | 728 | 736 | 688 | 678 | 655 | e46 | o22 | 619 | ete
1985 . 583 | 583 | 556 | 520 | 554 | 576 | 566 | sa7 | sas | seo | 505 | 503
1986 S77 | 530 | 544 | 554 | 533 | 514 | 529 | 587 | 570 | 597 | e20 | @20
1987 . 07 | 620 | 666 | 652 | 658 | a9 | 678 | 711 | 712 | 723 | 709 | @59
1968 - 648 | 656 | 695 | 702 | 71.1 | 719 | 712 | e462 | 653 | 701 | 734 | 746
1989 m6 | 701 | 645 | 619 | 616 | 607 | 616 | 534 | 546 | 557 | S72 | 617?
Over &-month span
197 7a1 | 818 | 707 | 7a4 | 781 | 797 | 762 | 762 73.1 | 734
1978 77a | 814 | 812 | 798 | 787 | 762 | 736 | 769 761 | 778
1979 - m6 | 739 | 71.2 | 668 | 632 | 579 | 629 | 505 609 | 577
1980 48.6 447 4d 37.4 37.4 37.5 444 51.9 68.9 66.2
1981 665 | 652 | 629 | 649 | 613 | 580 | 503 | 430 325 | 287
1982 25 | 207 | 330 | 3a8 | 372 | 368 | a5 | 338 391 | 431
1983 .. 55.2 62.2 67.3 Ani 76.4 78.2 79.4 79.5 78.1 77
1984 77 | 789 | 002 | 771 | 744 | 726 | 701 | 686 616 | 626
1985 .. 587 | 507 | saz | s76 | sa6 | s76 | 576 | 562 583 | 556
1986 || 556 | 566 | 527 | 529 | 534 | 560 | 556 | 570 629 | 632
1987. 673 | 658 | 648 | 668 | 676 | es | 713 | 735 71B | 722
1988 699 | 72 | 71.5 | 739 | 739 | 691 | 702 | 746 745 | 758
1989 .. 75.1 69.5 68.2 66.0 63.0 57.9 57.7 60.2 58.2P -
‘Over 12-month span
1977... 7a2 | 801 | 818 | a19 | 248 | o47 | o45 | 834 e25 | 821
1978 81.9 82.2 818 819 83.0 82.8 83.4 814 78.1 75.5
1979 759 | 754 | 748 | 721 | 682 | 660 | 660 | 636 620 | 487
1980 470 | 464 | 468 | 453 | 437 | 438 | a36 | 428 s72 | 622
1981 712 | 683 | 681 | 61.3 | 534 | 430 | 423 | a8 ai | 322
1982 324 | 311 | 297 | 304 | 304 | 314 | 350 | 351 467 | 514
1983 570 | 619 | 665 | 728 | 758 | 772 | 768 | 807 830 | 819
1984 87 | 795 | 787 | 71 | 762 | 741 | 731 | 702 638 | 615
1985 . 595 | 502 | soz | 569 | 566 | sas | 559 | 559 x 552 | 537
1986 s44 | 546 | 539 / 556 | 552 | 563 | 572 | 593 x 613 | 636
1987 = 666 | 682 | 682 | 718 | 719 | 725 | 722 | 741 Y 738 | 769
1988 762 | 761 | 748 | 746 | 758 | 749 | 781 | 755 | 755 | 748 | 749 | 741
1989 732 | 436 | 696 | 676 | 666 | 626 | exsr | eaor | = = =
| Based on seasonally adjusted data for 1-, 3-, and 6-month spans and unad- an equal balance between industries with increasing and decreasing employment,
justed data for the 12-month span. Data are centered within the span, Establishment survey estimates are currently projected from March 1988 bench-
° = protiminary. ‘mark levels. When more recent benchmark data are introduced, all unadjusted data
inning April 1988) and all seasonally adjusted data (beginning January 1985)
Nore: Figures ere the percent of industries with employment increasing plus (Pedinning Apr 1988) aya eginning January 1965)
ne-haif of the industries with unchanged employment, where 50 percent indicates

16 Monthly Labor Review April 1990



Diffusion Indexes

the employment index, however, it must be re-
membered that one-half of the unchanged com-
ponents are counted as increasing. A more pre-
cise interpretation is to consider the reference
point for a diffusion index as 50 percent, the
value which indicates that the same number of
component industries have increased as have
decreased. Index numbers above 50 show that
more industries had increasing employment,
and values below 50 show that more had de-
creasing employment. The margin between the
percent that increased and the percent that
decreased is equal to the difference between the
index number and its complement, which is 100
minus the index. For example, an index of 65
percent means that 30 percent more industries
had increasing employment than had decreasing
employment [(65 — (100 — 65) = 30)].

For dispersion analysis, the direction and dis-
tance of the index number from the 50-percent
reference point are the most significant observa-
tions, for they indicate whether growing or de-
clining industries predominate and by what
magnitude. For example, a diffusion index
value of 75 percent in a given month would
indicate that growing industries predominated,
and by a much larger margin than an index of 55
percent suggests. Similarly, an index of 35 per-
cent would indicate that declining industries
predominated, and by a much larger margin
than if the index were 45 percent.

Performance of the index

The old index values fall between the broader-
based index and the new manufacturing index
values, but are closer to the manufacturing
index. As indicated earlier, this reflects the
more detailed breakout of manufacturing than of

Table 3. Composition of old and new diffusion indexes by

industry division
Diffusion indexes
Percent of
employment,| Old index New Index
Industry division 1989
annual | Number | Percent | Number | Percent
averages | of |oftotal| of | of total
series | series | series | series
100.0 185 | 1000 | 349 | 1000
8 5 27 14 40
58 3 1.6 14 40
216 136 73.5 141 40.4
63 9 49} 31 89
69 2 aw] 18 52
Retail trade... eee a5 8 43 41 W7
Finance, insurance, and real estate .. 75 8 43} 26 74 |
Services ...... eee 296 14 76| 64 | 183 |
j

18 Monthly Labor Review April 1990

nonmanufacturing industries in the old all-
industry index. For simplification, the follow-
ing discussion focuses on the two new indexes.
The main emphasis of analysis of employment
from the establishment survey is current over-
the-month employment change. Therefore, the
analysis concentrates on the 1-month span of the
diffusion indexes.

Both the broad-based all-industry diffusion
index and the manufacturing index show similar
trends over time; they are lowest in recession
years and climb most steeply during the early
months of a recovery. (See chart 1.) There are
some striking differences, however, in the mag-
nitude of the trend swings. In assessing the
performance of the all-industry versus the man-
ufacturing diffusion index, the analysis can be
divided into five distinct periods: 1977-82,
1983, 1984—first-quarter 1987, second-quarter
1987-1988, and 1989.

Prior to 1983, the all-industry index yielded
generally higher values than the manufacturing
index, the difference being especially pro-
nounced during the recessions of the early
1980’s. The manufacturing index is character-
ized by both lower peaks and deeper troughs
than the broad-based index. This can be at-
tributed both to the continuing growth in many
of the service-producing industries and to the
cyclical sensitivity of the manufacturing indus-
tries. It is well documented that, in terms of
employment, the U.S. economy has gradually
shifted over time from a goods-producing to a
predominantly service-producing base. Even
during the two recessions of the early 1980's,
most of the service-producing industries posted
steady employment gains. As a result, the all-
industry index never fell below 36 and averaged
44. Conversely, the cyclically sensitive manu-
facturing industries suffered widespread and
sustained job losses, as reflected by index val-
ues dipping as low as 23 and averaging 34
throughout the 1980 and 1981-82 recessionary
periods.

It is interesting to note that the manufacturing
index reflected a severe drop approximately 4 to
6 months prior to each of the two recessions,
indicating possible leading indicator properties.
The concept of leading indicators with respect
to the diffusion indexes is addressed later in this
article.

During 1983, at the beginning stage of the
recovery, the two indexes tracked very closely,
both rebounding sharply from the depressed
levels encountered during the prior two reces-
sions. In October 1983, the manufacturing in-
dex reached its peak level (70.9) and in some
months was actually slightly above the broad-
based index. This, while very uncommon, is
probably attributable to the restoration over sev-


Footnotes

1 patricia M. Getz, “Introduction of New Diffusion In-
dexes,” Employment and Earnings, February 1989,
pp. 7-8.

2 Geoffrey Moore, “Occasional Paper 31” (Cambridge,
Ma, National Bureau of Economic Research, 1950).

3Geoffrey Moore, Business Cycle Indicators, vol. |
(Princeton University Press, 1961).

5 John F. Early, “Introduction of Diffusion Indexes,”
Employment and Earnings, December 1974

© Moore, Business Cycle Indicators.

7 Gerherd Bry and Charlotte Boschan, Cyclical Analy-
sis of Time Series: Selected Procedures and Computer Pro-
‘grams (National Bureau of Economic Research, Columbia

University Press, 1971).
4 Business Conditions Digest is a monthly publication of MVersiY Tress n

the U.S. Department of Commerce, Bureau of Economic 8 See “Table 7. Industrial Production: Diffusion In-
Analysis. dexes,” Federal Reserve Statistical Release, Dec. 14, 1988.

A people-oriented corporate culture

Today's work place assumes a far greater role in the personal lives of
workers than ever before. It is no longer possible for workers to leave
their personal problems at home, as company cultures dictate—
because someone is rarely home to solve them. The demands for a
more supportive work environment come at a time when business must
invest more in its people. According to several management experts,
respect for human capital is the prescribed antidote to plunging
productivity.

A more people-oriented corporate culture also may be a way to
attract talented people in a time of labor shortages. Not only is there a
shrinking labor pool, but it is becoming increasingly diverse—with
more women and minorities than ever before. This new diversity
challenges company recruitment efforts, benefits plans, productivity
incentives, and work schedules that were designed primarily for male
breadwinners. It is becoming obvious that the grease which kept the
work force running smoothly in the industrial era may not keep the
squeaks out of the human machinery of the post-industrial age.
Management finds itself pushing the same old buttons, but no longer
getting the desired responses from its workers. Without
accommodations to family needs, some companies are losing their
ability to attract and retain productive workers. These are only some of
the reasons why family issues are becoming a bottom-line concer of
business.

—Dana E. Friedman and Wendy B. Gray
“A Life Cycle Approach to

Family Benefits and Policies,”

Perspectives, No. 19 (The Conference Board,
Inc., 1989), p. 1.

Monthly Labor Review April 1990 21



Patricia M. Getz
and
Mark G. Ulmer

Patricia M. Getz and
Mark G. Ulmer are
economists in the Division
of Monthly Industry
Employment Statistics,
Bureau of Labor Statistics

Diffusion indexes:
a barometer of the economy

BLS diffusion indexes measure the breadth
of employment change across industries,
which is helpful in assessing the overall state

of the economy, while also serving
as a potential leading indicator

of manufacturing employment levels

lhe Bureau of Labor Statistics has im-

proved the diffusion index of employ-

ment produced as part of the Bureau’s
Current Employment Statistics program. The
old diffusion index, which included 185 indus-
tries, was replaced with a broader-based index,
with 349 component industries.' This expanded
index, which covers all nonagricultural indus-
tries, is supplemented by a new 141-industry
diffusion index for manufacturing. Both diffu-
sion indexes of employment are published each
month in table 18 of the Current Labor Statistics
section of the Monthly Labor Review.

A diffusion index is a measure of the dis-
persion of change. A diffusion index of employ-
ment provides insight into the breadth of
employment change, which can be important in
assessing overall economic trends. For exam-
ple, increases of similar magnitude in total em-
ployment may be caused by growth in a few
industries or growth in many industries. A sharp
overall employment increase caused by in-
creases in only a few industries can have differ-
ent economic and policy implications than one
caused by more widespread increases. The new
diffusion indexes for employment change im-
prove the potential for analysis of employment
trends because they provide a broader-based
measure for all private nonagricultural indus-

tries and a separate measure for the cyclically
sensitive manufacturing sector.

The previously published index was based on
the most comprehensive employment data avail
able at the time of its introduction in December
1974. The component industries were, for the
most part, 3-digit Standard Industrial Classifica-
tion (SIC) levels in manufacturing and the less
detailed 2-digit sic levels for other industry
divisions. As a result, manufacturing industries
had a disproportionately large representation in
the index. However, because of the expansion
of data for the service-producing sector in re-
cent years, 3-digit sic estimates in all industry
divisions now are available. This has allowed
employment diffusion index computation to
“catch up” with service sector expansion and to
be more analytically useful than it had been
Nonetheless, it is important to note that the pres-
ent SIC structure still provides more detail for
manufacturing than for service sector industries.
Consequently, the 349-industry index still gives
greater weight to employment changes in manu-
facturing than to those in services.

The addition of a diffusion index for manu-
facturing provides more analytical possibilities
Because the previous series was primarily com-
posed of manufacturing industries, it was fre-

Monthly Labor Review April 1990 13



using the 1-month span

Exhibit 2. Turning points in the reference cycle versus diffusion indexes,

Business cycle AlLindustry index Manufacturing index
Relation Relation
to to
Date Tur vine Date roe reference Date Letras reference
Po cycle (in cycle (in
months) months)
January 1980 Peak |March 1978 ..... | Peak | led 22 = — —
July 1980 ....... | Trough | April 1980 .. Trough | led 3 |May 1980 ...... | Trough | led 2
July 1981 ....... | Peak | April 1981 Peak | led 3 | October 1980 Peak | led 9
November 1982 .. | Trough | December 1981 .. | Trough | led 11 | December 1981 .. | Trough | led 11
February 1984... | Peak — October 1983... | Peak —
June 1986 ...... | Trough] — | April 1985 ...... | Trough | —
January 1989 .... | Peak —— _ November 1987. | Peak -

eral months of many manufacturing jobs which
were lost during the recessions of the early
1980’s. Both indexes held at consistently high
levels in the second half of 1983, as many
industries continued to add workers to their
previously shrunken payrolls. This marked a
dramatic turnaround from the low levels experi-
enced during the 1981-82 recession.

Beginning in 1984, well into the current
economic expansion, the gap between the two
indexes widened, with the all-industry index
generally holding between 10 to 20 points above
the manufacturing index through the first quar-
ter of 1987. During this period, the all-industry
index was always above the 50-percent level,
while the manufacturing index was usually
below this reference point.

The sharp declines in the manufacturing
index in the second quarter of 1984 were a sig-
nal of the imminent manufacturing employment
declines that originated in late 1984 and per-
sisted throughout the next couple of years. Once
again, the difference in the indexes reflects
the widely dispersed growth in the service-
producing industries as opposed to manufactur-
ing, which experiences more-confined growth
in good economic times.

From the second quarter of 1987 through the
fourth quarter of 1988, the gap between the two
indexes narrowed, with the difference usually in
the 5- to 10-percentage-point range. The manufac-
turing index yielded values above the 50-percent
level in every month but one. After establishing
a postrecession employment trough in January
1987, many manufacturing industries have
shown renewed strength. Indeed, job levels in
some industries approached those recorded prior
to the recessions of the early 1980's.

The employment diffusion indexes fell
steadily through the first three quarters of 1989

before rebounding in the fourth quarter, and the
difference between the two indexes is again
growing. The all-industry index declined
markedly during most of 1989, but, except for
the September observation (47.9), the index re-
mained above 50. Total private employment
continued to increase, but at a slower rate. The
declining diffusion index shows that the em-
ployment growth has been confined to fewer
industries, underscoring the breadth of the slow-
ing economy.

During the first three quarters of 1989, the
manufacturing index declined even more
sharply, from 62.4 in January 1989 to 34.8 in
September, before increasing slightly in the
fourth quarter. The September value is low by
recovery period standards, and marks the first
time since the prolonged manufacturing em-
ployment declines experienced throughout 1985
and 1986 that the index has fallen below 40.
Since peaking in March 1989, manufacturing
employment declined in every remaining month
of 1989. This marks the first consecutive quar-
terly decline since the third and fourth quarters
of 1986. Interestingly, the recent employment
declines were prefaced by a sharp decrease in
the manufacturing diffusion index beginning in
February 1989, suggesting some leading aspects
of the index. Moreover, the diffusion index was
under 50 percent for each month in the second
and third quarters, illustrating that the em-
ployment declines were widespread among
manufacturing industries—more of the 141
manufacturing industries were losing jobs than
were gaining.

Leading indicator properties
In addition to measuring the breadth of change,

a second property often attributed to diffusion
indexes is as leading indicators for changes in

Monthly Labor Review April 1990

19


Diffusion Indexes

quently used to analyze factory employment
trends. With the broadening of the all-industry
measure, the Bureau has also introduced a
“pure” manufacturing index to fill this analyti-
cal need.

Historical series beginning in January 1977
are available for both the manufacturing and
the new all-industry diffusion indexes for four
timespans: | month, 3 months, 6 months, and
12 months. These data are presented in tables
| and 2. Table 3 compares the industry compo-
sition of the old and new all-industry indexes. In
the new index, the representation of the manu-
facturing component has dropped dramatically,
from nearly 75 percent of the total number of
industries to 40 percent, much more in line with
the proportion of private nonfarm employment
accounted for by manufacturing—22 percent.
Services and retail trade have the most marked
increases in representation.

History of diffusion indexes

The original diffusion index concept was intro-
duced as an aid in identifying business cycles
and business cycle turning points.” Further de-
tails on the purposes and properties of diffusion
indexes were developed over several years.

Business Cycle Indicators, published in 1961,?
presented diffusion indexes for 21 economic in-
dicators, including total nonagricultural em-
ployment. Two principal uses for diffusion
indexes were suggested in that publication. The
first was as a measure of dispersion for the cor-
responding aggregate economic activity. This
measure of breadth or diffusion of change was
considered important in determining when a
business cycle turning point had been reached.
The second proposed use of diffusion indexes
was as leading economic indicators. This pro-
posal arose from a noted tendency in the series
studied for diffusion index turning points to lead
aggregate activity by 6 to 12 months. Predictive
value in anticipating business cycle turning
points was not claimed, but it was noted that the
indexes could provide auxiliary help in recog-
nizing these events at the time they were occur-
ring.

Diffusion indexes now are published for
many economic time series. The U.S. Depart-
ment of Commerce publication Business Condi-
tions Digest* provides a compendium of the
major diffusion indexes currently produced,
presenting such indexes for more than 20 series,
including composite indexes for leading, coinci-

Chart 1. Seasonally adjusted diffusion Indexes, 1-month span, 1977-89
Diffusion Diffusion
index index
100 100
All-industry index
————
80 F Manufacturing index 4 80
sesamin
60 60
ul ij
40 + 4 40
20 + + 20
ro) 1 1 JL : vf 1 L rT L Li o
1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989
NOTE: Shaded areas indicate recessionary periods as designated by the National Bureau of Economic Research.

14 Monthly Labor Review April 1990



Exhibit 1. Turning points in employment levels versus diffusion indexes, using
the 1-month span
Total private employment All-industry index
Relation to
Turning Turning | total private
Date point Date point | employment
(in months)
September 1981 ..... a” Peak | March 1978 Peak _
December 1982 .......-..0 05 Trough | April 1980 Trough =
April 1981. Peak led 5
December 1981 Trough| led 12
February 1984 Peak _
June 1986 .... Trough -
January 1989 Peak -
Manufacturing employment Manufacturing index
Relation to
Turning ‘Turning | manufacturing
Date point Date point | employment
(in months)
June 1979.2... . Peak - - -
July 1980 . bese Trough | May 1980 .. led 2
July 1981 0.22... : Peak | October 1980 led 9
December 1982 .................. | Trough | December 1981 led 12
August 19840 ..02................ | Peak | October 1983 led 10
January 1987 ........- ©... | Trough | April 1985... led 21
March 1989 0.0.2... ccee . | Peak | November 1987 Peak led 16

dent, and lagging economic indicators. Individ-
ual diffusion index series include, in addition to
employment, average workweek in manufactur-
ing, initial claims for unemployment insurance,
stock prices, net manufacturing profits, and in-
dustrial production.

At the Bureau of Labor Statistics, the diffu-
sion index was first published in 1974.5 Its
stated purposes were to serve as a measure of
dispersion of employment change and as a lead-
ing indicator for employment levels. Currently,
however, the Bureau focuses on the diffusion
index only as a measure of dispersion, and not
as a leading indicator. As discussed in detail
later in this article, the leading indicator proper-
ties of the all-industry diffusion index currently
appear to be tenuous.

Index computation and interpretation

The computation of a standard diffusion
index is straightforward. Each component series
is assigned a value of 0, 50, or 100 percent,
depending on whether its employment showed a
decrease, no change, or an increase over the
given timespan. (Assigning a value of 50 per-
cent to the unchanged components effectively
counts one-half of them as rising and one-half as

declining.) The average (mean) value is then
calculated, and this percent is the diffusion
index number.

Diffusion indexes are calculated for various
timespans. As indicated earlier, the employ-
ment diffusion index is published for four time-
spans; seasonally adjusted data are used in the
1-, 3-, and 6-month series, and unadjusted data
are used for the 12-month series. The index is
reported for the center month of the span. For
example, the published diffusion index value
for the 6-month span for March 1989 measures
the diffusion of change over the 6-month period
from January 1989 to June 1989. It is calculated
by comparing employment for each component
industry in January 1989 with that in June 1989
to determine whether employment rose, fell, or
remained unchanged. For the 1-month span, the
diffusion index value is reported for the month
to which the change is calculated. Thus, the
published diffusion index for June 1989 repre-
sents change from May 1989 to June 1989.

There are several different interpretations
possible, and useful, for diffusion index analy-
sis. Diffusion indexes are sometimes described
as representing the percent of components that
increased over a given timespan. In the case of

Monthly Labor Review April 1990

15